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Title:Sorting into outsourcing: Are profits taxed at a gorilla's arm's length? PDF Logo
Authors:Bauer, Christian J.
Langenmayr, Dominika
Issue Date:2012
Series/Report no.:CESifo Working Paper: Public Finance 3967
Abstract:This article analyzes profit taxation according to the arm's length principle in a model where heterogeneous firms sort into foreign outsourcing. We show that multinational firms are able to shift profits abroad even if they fully comply with the tax code. This is because, in equilibrium, intra-firm transactions occur in firms that are better than the market at input production. Moreover, market input prices include a mark-up that arises from the bargaining between the firm and the independent supplier. Transfer prices set at market values following the arm's length principle thus systematically exceed multinationals' marginal costs, leading to a reduction of tax payments for each unit sold. The optimal organization of firms hence provides a new rationale for the empirically observed lower tax burden of multinational corporations.
Subjects:outsourcing
profit taxation
transfer pricing
arm's length principle
multinational firms
JEL:F23
H25
L22
Document Type:Working Paper
Appears in Collections:CESifo Working Papers, CESifo Group Munich

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