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What We Know: Reviewing the Academic Literature on Profit Shifting

5 min readBy: Elke Asen

Note: This is a preview of the full article originally published by TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. Notes. To read the full article, click the download links above.

Brief Summary

In recent years, significant unilateral and global efforts have been made to address the issue of profit shiftingProfit shifting is when multinational companies reduce their tax burden by moving the location of their profits from high-tax countries to low-tax jurisdictions and tax havens. . However, reviewing the academic literature on profit shifting, one finds that mainly due to a lack of granular, recent data there is still little consensus among academics on the extent of current and historic profit shifting—and the resulting loss in corporate tax revenues. Similarly, the effectiveness of anti-tax avoidance measures—such as thin-cap rules, CFC rules, and nexus requirements—needs further study. Existing research indicates that there is a trade-off between countering tax avoidance and encouraging business investment.


Lawmakers around the world are considering substantial changes to international tax ruleInternational tax rules apply to income companies earn from their overseas operations and sales. Tax treaties between countries determine which country collects tax revenue, and anti-avoidance rules are put in place to limit gaps companies use to minimize their global tax burden. s to address tax avoidance. Many changes have already been made in recent years, with early economic evidence indicating that they may not only address tax avoidance but also impact business hiring and investment decisions. With the ongoing discussions, it is important to consider the origins of the current international tax system and the research and policy changes that have come in recent decades.

In the 1920s, the League of Nations decided on an international tax system based on three principles:

  1. Source-country taxation: taxation where business operations are physically located;
  2. Arm’s length principle: the price charged in a transaction between two related parties (intra-company transactions) should be the same as the price charged in a comparable transaction between two unrelated parties;
  3. Bilateral tax treaties: international tax issues need to be resolved at the bilateral rather than multilateral level.[1],[2]

Economists at the International Monetary Fund (IMF) have described the international tax system as follows:

“The tax treatment of MNCs [multinational corporations] is determined by the international tax framework, which is a myriad of domestic legislations and a wide network of bilateral and multilateral tax treaties. The framework relies largely on separate accounting, which means that taxation of an MNC group is at the level of individual subsidiaries that operate in different countries. Each country has a right to tax the income assigned, based on its domestic law and tax treaty obligations.”[3]

In today’s increasingly globalized, mobile, and digitalized world, multinational enterprises (MNEs) operate very differently than they did 100 years ago. However, the basic framework of the international tax system has remained largely unchanged since its implementation in the 1920s, which has led to various challenges—one of them being international tax avoidance by MNEs to minimize global tax liability, commonly referred to as “profit shifting.”

Since the global financial crisis in 2008-09—and further motivated by tax scandals such as Luxleaks and the Paradise papers—there has been a renewed focus on studying and addressing international tax avoidance. In 2013, the Organisation for Economic Co-operation and Development (OECD) launched the base erosion and profit shifting (BEPS) project, later referred to as BEPS 1.0.[4] Two years later, the OECD published its 15-point Action Plan to curb international tax avoidance. Since then, OECD countries—as well as non-OECD countries—have implemented various anti-tax avoidance measures.

Since 2019, there has been a new effort by the OECD—commonly referred to as BEPS 2.0—that not only aims to further counter tax avoidance but to also reform the international tax system more fundamentally. BEPS 2.0 would—if implemented—reallocate taxing rights across countries (Pillar 1) and implement a global minimum tax (Pillar 2). Inspired by the U.S.’ minimum tax “GILTI,” the proposed global minimum tax—also referred to as global anti-base erosion (“GloBE”)—would essentially function as a top-up tax on foreign low-taxed earnings. Unlike GILTI, GloBE would be calculated at the jurisdictional level, and would likely have a different tax rate and tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. .[5] A political agreement on BEPS 2.0 is currently expected by mid-2021.

International tax avoidance is commonly defined as the international reallocation of profits by a multinational business in response to tax differences between countries, with the aim to minimize the multinational’s global tax bill. The United Nations Conference on Trade and Development (UNCTAD) has defined three factors that enable tax avoidance, namely tax rate differentials, legislative mismatches and/or gaps, and double taxationDouble taxation is when taxes are paid twice on the same dollar of income, regardless of whether that’s corporate or individual income. treaties.

· Treaty shopping· Triangular structures· Circumvention of treaty thresholds

Table 1. Overview of the Main International Tax Avoidance Levers
Enabling Factor Specific Levers

Tax Rate Differentials

· Transfer pricing manipulation (trade mispricing, use of intangible/IP, commissionaire structures)

· Excessive debt financing

· Others (e.g., location planning, loss utilization)

Legislative Mismatches and/or Gaps

· Hybrid mismatches

· Derivative transactions

· Disguised domestic investments

· Deferred repatriation

Double Taxation Treaties

· Treaty shopping

· Triangular structures

· Circumvention of treaty thresholds

Source: UNCTAD, “FDI, Tax and Development: The Fiscal Role of Multinational Enterprises: Towards Guidelines for Coherent International Tax and Investment Policies,” Working Paper, Mar. 26, 2015,

This report surveys the academic literature on profit shifting, which—although still relatively scarce—has been expanding rapidly in recent years. It attempts to provide answers to three questions related to profit shifting. First, what is the magnitude of profit shifting? Second, what are the channels multinationals use to shift their profits? And third, how effective are anti-tax avoidance measures and what are the economic harms they cause?

Note: This is a preview of the full article originally published by Tax Notes. To read the full article, click the download links above.

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[1] Today, there are over 3,000 bilateral tax treaties. In 2018, the Multilateral Instrument (MLI), drafted by the OECD, came into force. Its aim is to facilitate the implementation of the recommendations made by the OECD’s BEPS project to combat base erosion and profit shifting by modifying the application of existing bilateral tax treaties. It also includes provisions to combat treaty abuse and improve dispute resolution mechanisms.

[2] International trade, in contrast, has been regulated through the multilateral “General Agreement on Tariffs and Trade (GATT)” since 1947. For more details on the history of the international tax system, see Gabriel Zucman, “Taxing across Borders: Tracking Personal Wealth and Corporate Profits,” Journal of Economic Perspectives 28:4 (Fall 2014): 121–48,

[3] Sebastian Beer, Ruud A. de Mooij, and Li Liu, “International Corporate Tax Avoidance: A Review of the Channels, Magnitudes, and Blind Spots,” IMF Working Paper, July 23, 2018,

[4] For more information on BEPS 1.0, see OECD, “International collaboration to end tax avoidance,”

[5] For more details on the differences between GILTI and GloBE, see Daniel Bunn, “Can GILTI and the GloBE Be Harmonized in a Biden Administration?” MNE Tax, Mar. 3, 2021,