Transfer Pricing, Formulary Apportionment, and Productive Efficiency
46 Pages Posted: 18 Sep 2007 Last revised: 3 Feb 2008
Date Written: September 6, 2007
We characterize the effects of different methods of taxing multinational income on productive efficiency in a competitive equilibrium. The efficient outcome is achieved when every firm that produces and sells domestically faces the same tax rate as a multinational firm selling into the same country. This can occur under either separate accounting or formulary apportionment. A shift from separate accounting to formulary apportionment increases productive efficiency when the weight on the sales factor is sufficiently high and decreases productive efficiency when the weight on the sales factor is sufficiently low. Equal tax rates between countries is not necessary for the efficient outcome to be achieved under either separate accounting or formulary apportionment.
Keywords: Formulary apportionment, separate accounting, transfer pricing
JEL Classification: H21, H25, M40
Suggested Citation: Suggested Citation