Corporate tax regime and international allocation of ownership

Abstract

Would the introduction of a corporate tax system with consolidated tax base and formula apportionment lead to socially wasteful mergers and acquisitions across borders? This paper analyzes a two-country model with an international investor considering acquisitions of already existing target firms in a high-tax country and a low-tax country. The investor is able to shift profits from one location to another for tax saving purposes. Two systems of corporate taxation are compared, a system with separate accounting and a system with tax base consolidation and formula apportionment. It is shown that, under separate accounting, the number of acquisitions is inefficiently ciently high in both the high tax and the low tax country. Under formula apportionment, the number of acquisitions is inefficiently ciently high in the low tax country and inefficiently ciently low in the high tax country. Under tax competition, a novel externality arises that worsens the effciency; ciency properties of equilibrium tax rates under separate accounting, but may play an effciency; ciency enhancing role under formula apportionment.