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The Significance of International Tax Rules for Sourcing Income: The Relationship Between Income Taxes and Trade Taxes

  • John Mutti
  • Harry Grubert
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    This paper examines how rules to determine the source of income internationally for tax purposes can have important effects on the form in which taxable income is reported and on the location of economic activity. In the case of U.S. law, two provisions are significant: allowing a portion of export income to be regarded as foreign source and treating royalties received as foreign source. These source rules have become increasingly important due to tax policy changes adopted in the 1980s and to the growing role in U.S. production and trade of goods that require intangible intellectual property. In addition, very similar transactions can be carried out as trade in goods, trade in services or production by a foreign affiliate, and tax incentives can influence that choice. How the source rules operate and the incentives they create are demonstrated in a set of stylized calculations to determine after-tax returns under various assumptions about relevant income and withholding tax rates, tariffs, and the importance of tangible and intangible capital in production. An assessment of the empirical importance of these provisions is based on recent studies of the determinants of trade and investment by U.S. multinational corporations. The treatment of royalty income appears to encourage royalty payments from high-tax countries and to promote real economic activity there.

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    File URL: http://www.nber.org/papers/w5526.pdf
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    Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 5526.

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    Date of creation: Apr 1996
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    Publication status: published as John Mutti and Harry Grubert. "The Significance of International Tax Rules for Sourcing Income: The Relationship between Income Taxes and Trade Taxes" . Geography and Ownership as Bases for Economic Accounting. Edited by Robert E. Baldwin, Robert E. Lipsey, and J.David Richardson,Chicago,Ill: The University of Chicago Press, 1998, pp.285-310.
    Handle: RePEc:nbr:nberwo:5526
    Note: ITI
    Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
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    1. Paul Krugman & Martin Feldstein, 1989. "International Trade Effects of Value Added Taxation," NBER Working Papers 3163, National Bureau of Economic Research, Inc.
    2. Grubert, Harry & Mutti, John, 1991. "Taxes, Tariffs and Transfer Pricing in Multinational Corporate Decision Making," The Review of Economics and Statistics, MIT Press, vol. 73(2), pages 285-93, May.
    3. Lipsey, Robert E & Weiss, Merle Yahr, 1981. "Foreign Production and Exports in Manufacturing Industries," The Review of Economics and Statistics, MIT Press, vol. 63(4), pages 488-94, November.
    4. James R. Hines, Jr. & R. Glenn Hubbard, 1990. "Coming Home to America: Dividend Repatriations by U.S. Multinationals," NBER Working Papers 2931, National Bureau of Economic Research, Inc.
    5. Rosanne Altshuler & T. Scott Newlon & Joel Slemrod, 1993. "The Effects of U.S. Tax Policy on the Income Repatriation Patterns of U. S . Multinational Corporations," NBER Chapters, in: Studies in International Taxation, pages 77-116 National Bureau of Economic Research, Inc.
    6. Horst, Thomas, 1971. "The Theory of the Multinational Firm: Optimal Behavior under Different Tariff and Tax Rates," Journal of Political Economy, University of Chicago Press, vol. 79(5), pages 1059-72, Sept.-Oct.
    7. Assaf Razin & Joel Slemrod, 1990. "Taxation in the Global Economy," NBER Books, National Bureau of Economic Research, Inc, number razi90-1.
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