Where does multinational investment go with Territorial Taxation

In 2009, the United Kingdom changed from a worldwide to a territorial tax system, which exempts all active foreign business income from taxation. This reform abolished the dividend tax imposed on UK multinationals in many low-tax countries without affecting the dividend taxes on foreign repatriations from high-tax countries. In this paper, I assess the causal effect of dividend exemption on real outbound investments by UK multinationals, using a unique dataset for multinational affiliates in 27 European countries and employing the difference-in-difference approach. I find that the tax reform has increased the outbound investment rate of UK multinationals by around 15.7 percentage points in countries with lower corporate tax rates than the UK’s. The finding represents a likely increase in total outbound investment, as there is no strong evidence of concurrent reduction in investment by UK multinationals in the high-tax countries or in domestic investment. The territorial tax reform is estimated to have a strong bang for the buck effect: there is a £9 increase in the outbound investment of UK multinationals for each £1 of domestic tax revenue loss. 

2017

Where does multinational investment go with territorial taxation? Evidence from the UK

In 2009, the UK reformed its taxation of corporate foreign source income from a worldwide to a territorial tax system. This reform largely abolished the dividend tax imposed on UK multinationals repatriated from low-tax countries, without affecting the taxation of dividends repatriated from high-tax countries. This paper assesses the causal impact of dividend tax reform on real outbound investments by UK multinationals, using a unique dataset of multinational subsidiaries in 27 European countries. The results indicate that the tax reform increased the outbound investment by UK multinationals to low-tax countries by around 15.7 percentage points. There is no strong evidence of any concurrent reduction in investment by UK multinationals in high-tax countries or domestically. This suggests a likely increase in total outbound investment and total investment by UK multinationals. The reform is estimated to have a strong effect: a £9 increase in the outbound investment of UK multinationals for each £1 of domestic tax revenue loss.

Li Liu, CBT Working Paper 17/05

2015

How should outbound investment be taxed?

Although the UK, Japan and most other major countries no longer tax dividend income from outbound investment, the appropriate taxation of such investment remains the subject of important policy debates in the USA. A wide theoretical literature has provided conflicting results for guiding policy. Yet it has been hard until now to identify clearly the sources of the different policy prescriptions. This research synthesises and extends the literature on the taxation of foreign source income in a framework that covers different forms of outbound investment, and which allows for different possible effects on domestic investment. We find that, unless domestic investment is determined completely independently from outbound investment, then the domestic tax on foreign-source dividend income should be set to ensure the optimal allocation between the two forms of investment. Moreover, we find that the rate should be set in accordance with the “classical” rules; maximising domestic national income requires the deduction rule, while maximising global national income requires the credit rule. Allowances should be set to ensure that domestic and outbound investment is undistorted by the tax system: this requires a domestic cash-flow tax, or an allowance for corporate equity, on both domestic and outbound investment. These results extend to a number of extensions of the theoretical model.

Michael P Devereux, Clemens Fuest and Ben Lockwood