International taxation and the income shifting behaviour of multinational enterprises

This dissertation examines the ability of MNEs to shift before-tax income between jurisdictions to take advantage of differences in tax rates. To shift income, MNEs can structure transactions between subsidiaries in high-tax and low-tax jurisdictions such that transfer pricing can allow more income to be reported in the low-tax jurisdiction and more expenses to be deducted from income in the high-tax jurisdiction. While global income is unchanged, the MNE's global tax liability can be reduced.;We undertake theoretical and empirical examinations of income shifting. We examine the effects of transfer pricing and income shifting on the user cost of capital when deferral taxation is used and a credit is provided for foreign taxes paid. We find the MNE will shift as much income as possible from a high-tax to a low-tax jurisdiction through cross-border charges, thus reducing the cost of capital. Also, we find an increase in the host-country tax rate actually benefits a MNE provided enough pre-tax income can be shifted to the low-tax jurisdiction. We show a thin capitalisation constraint (a restriction on the debt-to-equity ratio) is binding only when the return on equity exceeds the host-country after-tax interest rate; the foreign tax credit position of the MNE is irrelevant. Further, it may not be not optimal to borrow in the jurisdiction with the higher tax rate.;Empirically, we examine the income shifting behaviour of MNEs that have a presence in Canada. Our data set contains confidential information collected on annual T2 corporate tax returns filed by Canadian-based corporations and includes information not publicly available. We find there is some evidence that MNEs with a presence in Canada are shifting income to subsidiaries in low-tax jurisdictions. Also, we find that income shifting depends upon the size of the international tax differential and the effect of a change in the tax differential is not constant across jurisdictions. Having a subsidiary in a low-tax jurisdiction can have a substantial impact on the Canadian tax liability. Using another data set, we find there is evidence that MNEs are timing payments during times of tax changes.