Do Swedish multinationals pay less in taxes than domestic firms?

• Date: 01 February 2018
• Published date: 01 February 2018
• DOI: http://doi.org/10.1111/twec.12585

ORIGINAL ARTICLE

Do Swedish multinationals pay less in taxes than

domestic firms?



Asa Hansson

1,2

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Karin Olofsdotter

1

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Susanna Thede

3

1

Department of Economics, Lund University, Lund, Sweden

2

The Research Institute of Industrial Economics, Stockholm, Sweden

3

Institute for European Studies, University of Malta, Msida, Malta

1

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INTRODUCTION

There has been growing concern about multinational enterprises (MNEs) increased use of tax-

avoidance schemes, enabling them to pay very little tax. MNEs can reduce their tax payments in

several ways. For instance, they can shift revenues by overpricing inputs produced in low-tax juris-

dictions (transfer pricing), or they can set up favourable internal debt structures to take advantage

of differences in interest deductions and interest payments across countries. Such strategic tax-p lan-

ning activities lead to lost tax revenues in countries with uncompetitive tax systems, and distorted

competition vis-

a-vis domestic firms that do not have the same possibilities. In response, attempts

have been made for international cooperation and coordination of tax laws, strongly initiated by

the G20 2012 initiative and the OECD 2013 action plan.

1

Currently, more than a hundred coun-

tries collaborate to counteract base erosion and profit shifting (BEPS) by, for example, country-by-

country reporting to mitigate transfer pricing. In addition, several countries have taken unilateral

action to restrain MNE cross-border income shifting, typically by restricting interest dedu ctions.

2

The common perception that MNEs engage in strategic tax planning is generally confirmed by

research evidence (Devereux, 2006; Heckemeyer & Overesch, 2013; Hines, 1999). There is, how-

ever, considerable variation in the empirically quantified magnitudes of tax-planning activities.

One challenge is the difficulty in identifying the effects of these activities. Most previous studies

have estimated semi-elasticities based on corporate tax-rate differences between home and host

country, typically focusing on the impact of tax-rate reductions in the host country. The problem

with this method is that it entangles strategic tax planning with the effect a lower corporate tax rate

may have on profitability, resulting in an upward bias in the identified profit shifting. In addition,

many studies ignore the influence on tax payments of firm-level factors that are not due to strate-

gic tax planning (such as leveraged firms benefiting from interest deductions).

In this study, we address these shortcomings. Our approach allows us to detect systematic differ-

ences between multinational and domestic firms without relying on changes in corporate tax-rate

1

This action plan involves measures equipping national governments with means to prevent tax erosion and secure that prof-

its are taxed where they are generated by economic activity.

2

For example, Belgium, Germany and Italy have adopted thin capitalisation rules limiting the leverage of multinational firms

and other regulations restricting intra-company debt transfers.

DOI: 10.1111/twec.12585

World Econ. 2018;41:393–413. wileyonlinelibrary.com/journal/twec ©2017 John Wiley & Sons Ltd

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differentials. Also, we have detailed information on various accountancy characteristics that makes it

possible to assess the form of profit shifting. We can trace profit shifting through revenue and/or

debt shifting by comparing differences in tax payments, earnings before interest and taxes (EBIT)

and equity ratios between firms that can exploit their access to foreign tax jurisdictions and firms

without such opportunities. To do this, we identify differences between multinational firms and com-

parable domestic firms using propensity score matching techniques. The matching procedure miti-

gates the endogeneity problem arising from firms’self-selection into multinational status. In

addition, we examine whether firms that become multinational change their tax-planning behaviour

compared to firms that remain domestic using regression analysis and propensity score matching to

obtain difference-in-differences estimates. We also perform instrumental variables analysis to obtain

difference-in-differences estimates, allowing us to address endogeneity bias in an alternative way.

Our approach most closely resembles contributions by Egger, Eggert, and Winner (2010) and

Finke (2013) but differs in important ways. First, we study tax planning in a country with a fairly

neutral and competitive corporate tax system,

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which can yield novel insights into the tax behaviour

of MNEs compared to results obtained across EU countries (Egger et al., 2010) or for Germany

(Finke, 2013). Indeed, our findings indicate that there is considerable heterogeneity in multinational

firms’tax-planning strategies stemming from their characteristics and outreach behaviour. Second,

we extend the analysis to investigate whether firms that become multinational alter behaviour using

difference-in-differences estimation methods. This allows us to focus more directly on the beha-

vioural impact of acquiring foreign market links. Our results suggest that firms that become multina-

tional and have limited foreign market outreach engage in profit shifting from Sweden.

The remainder of this paper is organised as follows. Section 2 provides an overview of MNEs’

tax-planning strategies with reference to related literature. Section 3 contains a detailed descripti on

of our data and a short description of the Swedish corporate tax system. In Section 4, the empirical

approach is described and motivated. The empirical results are presented and discussed in Sec-

tion 5 and Section 6 concludes.

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MULTINATIONALS AND PROFIT SHIFTING

There is mounting evidence that tax competition does occur and that investment and location deci-

sions are affected by corporate tax rates (see, e.g., Devereux & Loretz, 2013). MNEs can avoid

taxation without investing or locating operations in a low-tax country, however. They can simply

shift profits between jurisdictions to lower their tax burden. Profits are typically shifted in two

main ways: by transfer pricing or by strategically structuring intra-company debt. Transfer pricing

uses intra-company sales that deviate from the arms’length principle to locate costs in high-tax

countries and gains in low-tax countries. MNEs can also establish internal debt structures to reduce

company tax payments by allocating more debt to countries that provide generous interest-rate

deductions. For example, MNEs can establish intra-company debt, borrowing in jurisdictions with

generous interest deductions and channelling interest payments to jurisdictions that tax interest pay-

ments at low or zero rates. The two forms of tax-shifting behaviour are interrelated and can work

as substitutes (Schindler & Schjelderup, 2016).

Tax-motivated profit shifting has interested researchers since the late 1980s/early 1990s.

Wheeler (1988) and Dworin (1990) observed that foreign-owned subsidiaries in the USA reported

lower profits than domestic firms. Grubert, Goodspeed, and Swenson (1993) investigated this

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The Swedish tax system, and its place in an international context, is described in the data section.

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