The Effect of Changes in Income Shifting on Affiliate Managers’ Internal Reporting Decisions

58 Pages Posted: 18 May 2020 Last revised: 5 Jul 2023

See all articles by Kenneth J. Klassen

Kenneth J. Klassen

University of Waterloo - School of Accounting and Finance

Cinthia Valle Ruiz

Catholic University of Lille - IESEG School of Management

Multiple version iconThere are 2 versions of this paper

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.

Suggested Citation

Klassen, Kenneth and Valle Ruiz, Cinthia, The Effect of Changes in Income Shifting on Affiliate Managers’ Internal Reporting Decisions (March 17, 2021). Available at SSRN: https://ssrn.com/abstract=3581682 or http://dx.doi.org/10.2139/ssrn.3581682

Kenneth Klassen

University of Waterloo - School of Accounting and Finance ( email )

Waterloo, Ontario N2L 3G1
Canada
519-888-4567 x38550 (Phone)
519-888-7562 (Fax)

Cinthia Valle Ruiz (Contact Author)

Catholic University of Lille - IESEG School of Management ( email )

Socle de la Grande Arche
1 Parvis de la Defense
Puteaux, Paris 92800
France

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