How do, and should, governments design and administer business taxes?
The Centre’s research programme is ultimately designed to provide information which can improve the design of business taxation at a national and international level. Yet national governments face constraints on both the design and administration of tax, and this part of our research programme investigates the design of policy in the presence of such constraints.
For example, if businesses choose between alternative countries to locate their capital and profit, individual governments cannot set their own tax rates without considering those in other countries. A more fundamental issue arises as to whether profit can reasonably be identified as being located in particular countries. A large part of tax administration is concerned with identifying such a location. In general, the UK and other EU countries are also constrained institutionally by judgements of the European Court of Justice, double tax treaties and agreements within the EU.
The Centre’s three broad research areas in this field are: the extent of tax competition between governments, the social costs and benefits of such competition and the alternatives of coordinated policies; the difficulties in identifying the source of profit for international activities, and whether there are alternative approaches which could be used; and more specifically, how governments can and should respond to tax avoidance.
1. Do governments compete over corporation tax? What are the costs and benefits of coordination?
The significant reduction in corporation tax rates in OECD countries over the last two decades does not necessarily imply that there has been tax competition. Part of the research programme is to investigate whether there is evidence of direct competition. We also investigate the limits of competition and where it is strongest, and the possibility of coordination.
Individual projects
A note on tax competition and profit shifting
Johannes Becker, Clemens Fuest
In this note, we provide a novel argument why countries may have incentives to allow for profit shifting to low-tax jurisdictions. The reason is that profit shifting increases the tax base in the low-tax jurisdictions which triggers it to increase its tax rate and, thus, to reduce the pressure on equilibrium tax rates. |
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Tax competition – M & A versus greenfield investment
Johannes Becker, Clemens Fuest
In this paper, we analyze tax competition in a model where investor firms have the choice between two types of investment, Greenfield investment and mergers and acquisitions. We show that the coexistence of these two types of investment intensifies tax competition in comparison to the case where there is only Greenfield investment. If a specific tax on acquisitions is available, this result changes. Then, tax competition is mitigated compared to the pure Greenfield case. The existence of an acquisition tax may even lead to corporate over-taxation. |
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International M&A and tax competition – source-based versus residence-based taxation
Johannes Becker, Clemens Fuest
This project analyses tax competition and tax coordination in a model where capital flows occur in the form of mergers and acquisitions, rather than Greenfield investment. In this framework, there is no scope for welfare enhancing coordination of source based corporate income taxes if residence based taxes on capital income are absent. In the presence of residence based taxes on dividends, source based corporate income taxes are too high. The widespread view that tax coordination is less urgent if residence based taxes are available may therefore be misguided. |
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EU regional policy and tax competition
Johannes Becker, Clemens Fuest
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What do we know about corporate tax competition?
Michael Devereux, Simon Loretz
We review the empirical literature on competition in source-based taxes on corporate income. We identify and discuss conceptual issues in empirically identifying tax competition and in inferring the presence of competition from a correlation with openness of the economy. We classify the empirical literature, and highlight the importance of the measurement of tax rates and openness. There is evidence of competition in the statutory tax system, but this is typically not found when using measures based on tax revenues. |
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Taxing agglomeration rents: the importance of being different
Nadine Riedel, with Hyun-Ju Koh
We empirically investigate the impact of firm agglomeration on jurisdictional tax setting behaviour following a large theoretical literature which suggests a positive relation between agglomeration rents and a jurisdiction's corporate tax rate choice. Our testing ground is the German local business tax which is set at the municipality level. Exploiting a rich data set on the population of German firms, we construct variables which capture different agglomeration channels: precisely we distinguish between tax effects of urbanization economies (i.e. the general agglomeration of firms) and localization economies (i.e. the agglomeration of firms in the same industry) and separately determine the effect of consumer externalities (i.e. access to consumer markets). Additionally, we investigate how specialization and diversification in a municipality's industry structure affect the tax rate choice and whether differentiation from other (neighbouring) jurisdictions in terms of industry structure and size positively impacts on a community's tax rate choice. We find evidence for a positive impact of urbanization and localization on a municipality's tax rate choice. Moreover, communities' tend to set larger taxes if their industry structure is specialized and if they are larger and differentiated in terms of their industry distribution from neighbouring municipalities. To account for potential reverse causality problems, we instrument for the agglomeration measures with long-lagged population and infrastructure data. |
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Tax Competition in an Expanding European Union
Johannes Voget, with Ron Davies
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2. Is the existing taxation of profit feasible or desirable in the long run? What other models could be considered?
The international tax system for business is based on a system of separate legal entities in a number of jurisdictions making up a multinational group each with its own accounts and with special rules for identifying where profit is located. Yet in an increasingly globalised world, dividing global profit by jurisdictions not only is very difficult, but arguably has little conceptual foundation. Other tax systems have been proposed – such as the Common Consolidated Corporate Tax Base (CCCTB) by the European Commission, formulary apportionment or a destination-based tax.
Our research programme evaluates these alternative systems both theoretically and empirically. For example, theoretical modelling examines the conceptual basis of the “arm’s length principle”, while empirical modelling extends models of effective tax rates to assess the effects of any reform on the tax-induced distortions to location and investment decisions. We also assess legal concepts and the possible need to amend them.
Individual projects
The nexus of international activity and corporate taxation
Johannes Becker, Clemens Fuest
If a firm operates abroad, the host and the residence country have to decide how to divide the taxing rights among them. Firstly, the host country has to determine whether or not the firm has to file for income taxation at source. Secondly, the income has to be split between to the two jurisdictions for tax purposes. These two decisions determine the extent of source- and residence-based taxation. We build a two-country model with costs of tax administration and compliance in order to analyze these two decision margins. We show that the globally optimal solution may imply a mix of source-based and residence-based taxation. Decentralized policies may attain the global optimum if specific transfer pricing rules are applied. Finally, we consider tax competition between the two jurisdictions and show that an increase in the extent of residence-based taxation does not necessarily increase equilibrium tax rates. |
Foreign income and domestic deductions
Johannes Becker, Clemens Fuest
This project analyses and challenges the view that expenses for foreign production should be fully deductible under domestic corporation tax, as recently expressed by Hines (National Tax Journal, 2008). We show that the exemption system should generally be accompanied by zero deductibility for expenses related to foreign source income. Combining exemption and full deductibility is incompatible with optimal tax policy in an open economy. |
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Optimal tax policy when firms are internationally mobile
Johannes Becker, Clemens Fuest
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Taxing foreign income with international M&A
Johannes Becker, Clemens Fuest
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The taxation of foreign income
Johannes Becker, Michael Devereux, Clemens Fuest, Ben Lockwood
This project aims to survey and to synthesise the theoretical literature on the optimal taxation of outbound investment. We begin with the standard Feldstein-Hartman model which suggests that the income from outbound investment should be taxed with a deduction allowed for foreign taxes paid. We then introduce a number of other factors are explore how these factors change the implied policy prescription. |
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Taxation of foreign profits with heterogeneous multinational firms
Johannes Becker
In the recent debate on reforming existing systems of international taxation, new arguments were put forward which favour exempting foreign income from tax over employing the tax credit system. In this paper, I build a model which captures the key ingredients of these arguments: Heterogeneous multinational firms serve a foreign market under imperfect competition through exports or foreign direct investment. Investment abroad does not decrease activity in the home market. The home country government considers taxing the multinationals' foreign income. It turns out that - even though foreign direct investment is not associated with reduced domestic activity - it is always desirable to levy a tax on foreign income except for the case in which exports are prohibitively expensive. As an optimal tax rule the tax on foreign profits should ensure that tax payments are equal independent of the firm's choice to invest abroad or not. From a global point of view, the nationally optimal tax rate on repatriated foreign profits is inefficiently high, though. Finally, I discuss the differences in results to the standard framework and potential policy implications. |
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Place where the supply/activity is effectively carried out as allocation rule: VAT vs. Direct taxation
Rita de la Feria
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VAT Exemptions
Rita de la Feria, with Herman van Kesteren
To be published by Kluwer
Edited book, with contributions from CBT conference to be held in April 2010. |
Allocation of Taxing Rules under a Destination-Based Tax
Mike Devereux, Rita de la Feria
The aim of this project is to consider the legal design of allocation of taxing rights rules under a proposed destination-based corporation tax. |
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Taxing Corporate Income
Michael Devereux, Helen Simpson, with Alan Auerbach
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Properties of destination-based corporation tax systems
Michael Devereux, Alan Auerbach
This project aims to identify the properties of alternative systems of corporation tax. We focus in particular on cash flow taxes, levied on economic rent. We compare a standard source-based tax with a destination-based tax, and a system of formula apportionment where the apportionment factor is destination-based sales. |
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Alternative systems of business tax in Europe: an applied analysis of ACE and CBIT reforms
Michael Devereux, Ruud de Mooij
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An economic evaluation of the European Commission’s proposals for a Common Consolidated Corporate Tax Base
Michael Devereux, Ruud de Mooij, Simon Loretz, with Leon Bettendorf, Albert van der Horst
Research carried out for the Directorate General Taxation and Customs Union of the European Commission
This paper explores the economic consequences of proposed EU reforms for a common consolidated corporate tax base. The reforms replace separate accounting with formula apportionment as a way to allocate corporate tax bases across countries. To assess the economic implications, we use a numerical CGE model for Europe. It encompasses several decision margins of firms such as marginal investment, discrete FDI decisions, and multinational profit shifting. The simulations suggest that consolidation does not yield substantial welfare gains for Europe. The variation of effects across countries is large and depends on the choice of the apportionment formula. Consolidation with formula apportionment does not weaken incentives for tax competition. Tax competition instead offers a rationale for rate harmonisation, in addition to base harmonisation. |
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The distorting arm’s length principle
Michael Devereux, Christian Keuschnigg
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Business taxation in a globalized world
Michael Devereux
Published, Oxford Review of Economic Policy 2008 24: 625-638
This paper addresses broad issues concerning taxes on company profit in a globalized world in which companies, capital, and profit can move easily between countries. It considers reasons for national taxation of company profit in such a world, and reviews the development of such taxes in the OECD. The role played by tax havens is discussed and evidence on the responsiveness of companies to differences in taxation across countries is presented. A central issue is the allocation of taxable profit between countries. Existing practice has no clear rationale. Recent proposals for fundamental reform in the EU are discussed. |
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Taxation of outbound direct investment: economic principles and tax policy considerations
Michael Devereux
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The tax base for CCCTB: the role of principles
Judith Freedman, with Graeme Macdonald
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Small business taxation: a special study of the structural issues surrounding the taxation of business profits of owner managed firms
Judith Freedman, with Claire Crawford
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The European Commission´s proposal for a Common Consolidated Corporate Tax Base
Clemens Fuest
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The EU VAT treatment of public sector bodies: slowly moving in the wrong direction
Rita de la Feria
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3. What is tax avoidance and what are its fundamental drivers?
Much recent work has been done in practice to improve the understanding between business and governments and to change the culture of tax avoidance, but a fundamental divide remains around the way in which legislation should be applied and interpreted, and the propriety of using legislation in a technically legal way. How should it be decided whether this undermines the legislature’s aims? Is loss of expected revenue a sufficient ground for arguing that the avoidance is ‘unacceptable’ or should this be a legal matter for the courts alone? How far is a constitutionally acceptable for the revenue authorities to use methods such as threats to reputation to control this area?
Developing our understanding of these issues would indicate where there may be a need for new forms of regulation, additional disclosure requirements, non-legislative codes, or other new approaches to legislative drafting, such as principles-based drafting, targeted anti-avoidance provisions or general anti-avoidance provisions.
We base our research here on legal analysis, theoretical analysis, and various forms of empirical analysis, including that based on surveys of tax practitioners in the UK.
Individual projects
Tax enforcement and tax havens under formula apportionment
Johannes Becker, Clemens Fuest
Forthcoming in: International Tax and Public Finance
In this paper, we consider optimal tax enforcement policy in the presence of profit shifting towards tax havens. We show that, under separate accounting, tax enforcement levels may be too high due to negative fiscal externalities. In contrast, under formula apportionment, tax enforcement is likely to be too low due to positive externalities of tax enforcement. Our results challenge recent contributions arguing that, under formula apportionment, there is a tendency towards inefficiently high levels of (effective) tax rates. |
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Prohibition of abuse of (community) law: the creation of a new general principle of EC law through tax
Rita de la Feria
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Prohibition of Abuse of Law: A new general principle of EC law
Rita de la Feria with Stephan Vogenauer
Forthcoming book to be published by Hart (Oxford)
Edited book, with contributions from CBT conference in October 2008. |
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Thin capitalization rules in the context of the CCCTB
Rita de la Feria, with Ana Paula Dourado
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Financial and tax accounting: transparency and ‘truth’
Judith Freedman
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Tax treaty abuse: is Canada responding effectively?
Geoff Loomer
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Analyzing the enhanced relationship between corporate taxpayers and revenue authorities: a UK case study
Judith Freedman, Geoff Loomer, John Vella
Paper prepared for IRS Research Conference, Washington DC, July 2009
This working paper builds upon our article “Corporate Tax Risk and Tax Avoidance: New Approaches” [2009] BTR 74, adopting a comparative perspective for the 2009 IRS Research Conference in Washington DC. The earlier paper analyzed the results of interviews with representatives of 30 large corporate groups, which investigated attitudes to the UK’s risk rating approach and related initiatives. There is an increasing interest in enhanced relationships between revenue authorities and corporate taxpayers, as expressed by the OECD, the US, and certain other countries. The IRS has adopted a number of programmes along these lines and has indicated interest in the approach of HMRC. Our paper explains the methodology used in the survey, outlines the experiences and opinions of tax directors with respect to the risk rating approach and novel approaches to tax avoidance, and comments on issues regarding competitiveness, tax certainty and the discretion of the revenue authorities. The paper concludes by drawing together a consideration of the benefits and limits of the above approaches with respect to the relationship between the revenue authorities and large corporate taxpayers. It considers the potential of such approaches for modifying taxpayer behaviour, increasing efficiency, and reducing administration and compliance costs. |
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Corporate tax competition between firms
Simon Loretz, with Padraig Moore
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Determinants of information exchange
Johannes Voget
The paper studies the determinants of tax information sharing between the Dutch tax authorities and foreign tax authorities for income tax purposes. To this end, it employs data on tax information sharing on request for a sample of 81 countries covering the period 1992--2005. It is shown that the height of the domestic income tax rate, the size of the marginal cost of public funds, and the share of a country's interest-bearing deposits held abroad increase a country's willingness to engage in information sharing. The presence of automatic bank reporting---which increases the tax authority's ability to monitor the financial transactions of its taxpayers---reduces a country's incentives to engage in tax information sharing. Information sharing is predominantly reciprocal in nature. |
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Avoidance Policies – A New Conceptual Framework
David Ulph
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