The Capacity to Be Aggressive: Structured Management and Profit Shifting Practices in the Firm
Abstract: This paper considers the effect of firm’s organizational capacity – proxied by structured management practices - on tax planning behavior of multinational firms (MNEs). Management practices improve productivity and hence should increase taxable corporate income of firms. However, higher adoption of management practices may also enable tax planning. Using a pooled cross-sectional dataset, we show that MNEs operating in low-tax countries exhibit a positive relationship between reported profits and structured management practices, while no discernible relationship exists for MNEs operating in high-tax countries. Using an event study design, we find that firms with more structured management are also more responsive to corporate tax rate changes. These patterns are consistent with the shifting of profits out of high-tax locations into low-tax locations. This adds a novel explanation for why some firms are more likely to engage in aggressive tax planning, with implications to the cost-benefit analysis of government-funded management upgrading projects.
