The anti‐tax‐avoidance directive: An initiative to successfully curb profit shifting?

Abstract

AbstractOn July 2016 the Economic and Financial Council of the European Union adopted the Anti‐Tax‐Avoidance Directive (ATAD). The proposed controlled‐foreign‐company (CFC) rule in the ATAD requires a minimum tax rate in the host country of a multinational's controlled‐foreign subsidiary to avoid the reattribution of the subsidiary's income to the country of its parent company. The Directive allows member states to remain free to set the CFC threshold autonomously by laying down a minimum standard. Member states can thus either opt for a loose CFC rule by setting the minimum required control threshold (i.e., 50% of the country's own corporate income tax rate) or impose a tight CFC rule by applying a higher threshold. Against this background, the present paper analyses the effect of CFC rules on tax competition for foreign direct investments. It appears that, although CFC rules are effective in curbing offshore profit shifting, they can induce nonhavens to compete aggressively for mobile capital. In this context, CFC rules can exacerbate capital outflows from the large to the small country to a larger extent than in standard models of tax competition. Moreover, the paper highlights that governments choose between two extreme options when deciding on their CFC rule. Either they opt for the lowest or the highest possible control threshold.