Download This PaperThe Effect of Changes in Income Shifting on Affiliate Managers’ Internal Reporting Decisions
58 Pages Posted: 18 May 2020 Last revised: 18 Mar 2021
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The Effect of Changes in Income Shifting on Affiliate Managers’ Internal Reporting Decisions
The Effect of Changes in Income Shifting on Affiliate Managers’ Internal Reporting Decisions
Date Written: March 17, 2021
Abstract
This paper examines the interplay between tax and internal reporting incentives among affiliates of multinational corporations (MNCs). Using granular data of affiliates belonging to MNCs from 21 European countries, our study provides new empirical evidence of affiliate reporting responses induced by changing tax plans. As a baseline, we show some evidence that in general, affiliates’ discretionary accruals are negatively correlated with affiliate tax rates, similar to income shifting responses. When high tax-rate countries tighten income shifting rules, we first document that income shifting is reduced and low tax-rate affiliates have less income. Second, we document that managers of these low tax-rate affiliates offset this decrease in profits by managing earnings upwards. Our results are consistent with firms not adjusting quickly the affiliate managers’ incentives in the face of changing tax planning strategies, and affiliates manage reported earnings to offset the effect of changes in the tax planning of the firm.
Keywords: Multinational corporations, tax motivated income-shifting, financial reporting practices, managerial targets.
JEL Classification: M41, M48, H21, H32, J33.
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