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In Praise of Tax Havens: International Tax Planning and Foreign Direct Investment

29 Pages Posted: 28 Mar 2007  

Qing Hong

University of Toronto - Department of Economics

Michael Smart

University of Toronto - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute)

Date Written: March 2007

Abstract

The multinationalization of corporate investment in recent years has given rise to a number of international tax avoidance schemes that may be eroding tax revenues in industrialized countries, but which may also reduce tax burdens on mobile capital and so facilitate investment. Both the welfare effects of and the optimal response to international tax planning are therefore ambiguous. Evaluating these factors in a simple general equilibrium model, we find that citizens of high-tax countries benefit from (some) tax planning. Paradoxically, if tax rates are not too high, an increase in tax planning activity causes a rise in optimal corporate tax rates, and a decline in multinational investment. Thus fears of a "race to the bottom" in corporate tax rates may be misplaced.

Keywords: income shifting, tax planning, foreign direct investment, tax competition, thin capitalization

JEL Classification: H2, H7

Suggested Citation

Hong, Qing and Smart, Michael, In Praise of Tax Havens: International Tax Planning and Foreign Direct Investment (March 2007). CESifo Working Paper Series No. 1942. Available at SSRN: https://ssrn.com/abstract=976577

Qing Hong

University of Toronto - Department of Economics

150 St. George Street
Toronto, Ontario M5S 3G7
Canada

Michael Smart (Contact Author)

University of Toronto - Department of Economics ( email )

150 St. George Street
Institute for Policy Analysis
Toronto, Ontario M5S 3G7
Canada
416-978-5119 (Phone)
416-978-6713 (Fax)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

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