Can Territorial Tax Compliance Systems Reduce the Tax Avoidance of Firms with Operations in Tax Havens?

Abstract

ABSTRACTThe Korean government has recently focused its compliance efforts on offshore tax evasion and has accordingly adopted several tax compliance systems. This article empirically examines the association between the enforcement of those tax compliance systems and firms’ tax avoidance from 1999 to 2014. Firms with foreign operations in tax havens have greater opportunities to decrease their overall tax burdens. Thus, the analysis in this study attempts to determine the differential impact of tax compliance systems between firms with subsidiaries in tax haven countries and firms without operations in such places. It is found that tax compliance systems effectively reduce the tax avoidance of firms without operations in tax havens, but not the tax avoidance of firms with operations in tax havens, as predicted. The results also show that financially distressed firms are likely to engage in aggressive tax planning. Moreover, financially distressed firms with operations in tax havens seem to engage in tax avoidance activities even after the enforcement of tax compliance systems. This article may have some implications with respect to considering mechanisms designed to broaden the tax base and more effectively detect offshore tax evasion.