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Do tax information exchange agreements curb transfer pricing-induced tax avoidance?

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  • Diller, Markus
  • Lorenz, Johannes

Abstract

We propose a game theoretical model where a multinational company with divisions in two countries and the respective tax authorities interact with each other. Prior to an audit the functional profile of the divisions is unknown to the tax authorities. In equilibrium, tax avoidance emerges in both countries. It turns out that the audit pressure is highest for firms with a hybrid functional profile, dampening their production and reducing their after-tax profit. We find that introducing a bilateral Tax Information Exchange Agreement reduces tax avoidance by aggressive transfer pricing in the high-tax ("domestic") country and precludes tax avoidance in the lowtax ("foreign") country. The volume of production increases. The foreign tax authority discontinues its audit activities, while the domestic tax authority audits less often at least if the foreign division is a toll manufacturer ("routine function"). While the expected net tax revenues increase in the foreign country, they may decrease in the domestic country.

Suggested Citation

  • Diller, Markus & Lorenz, Johannes, 2017. "Do tax information exchange agreements curb transfer pricing-induced tax avoidance?," Passauer Diskussionspapiere, Betriebswirtschaftliche Reihe B-29-17, University of Passau, Faculty of Business and Economics.
  • Handle: RePEc:zbw:upadbr:b2917
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    References listed on IDEAS

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    1. Kashif S. Mansori & Alfons J. Weichenrieder, 2001. "Tax Competition and Transfer Pricing Disputes," FinanzArchiv: Public Finance Analysis, Mohr Siebeck, Tübingen, vol. 58(1), pages 1-11, December.
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    More about this item

    Keywords

    transfer pricing; tax evasion; cooperation;

    JEL classification:

    • H26 - Public Economics - - Taxation, Subsidies, and Revenue - - - Tax Evasion and Avoidance
    • F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business
    • K34 - Law and Economics - - Other Substantive Areas of Law - - - Tax Law

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