1. Introduction
The rising complexity of multinational enterprises (MNEs)’ global operations creates opportunities to reduce the tax burden as low as possible by reducing or concealing taxable income [
1,
2]. While the tax avoidance behavior of MNEs provides an economic incentive for firms [
3], it also comes with social costs that harm the sustainability of society. For instance, government revenue is one of the important financial sources that promotes economic growth and supports economic stability, but MNE’s tax avoidance results in a smaller size of taxable income that does not fully reflect the size of sales in the focal market [
4,
5]. Scholars have reported the hidden tax losses for societies, e.g., the U.S. treasury losing over 381 billion USD per year [
6] and the European Union (EU) member states losing around 160–190 billion EUR per year [
7]. Such tax-motivated strategies are available only to MNEs and distort the competition with domestic firms that are without the same possibilities. Harm on the principle that persons with economic interests in a country are liable to taxation [
5] led to an unprecedented degree of political salience, and the public has focused on the tax-motivated base erosion and profit shifting (BEPS) practices of MNEs [
8]. A recent debate by policymakers around the world led to the Organization for Economic Co-operation and Development (OECD)’s BEPS project. OECD, on behalf of the G-20 nations, introduced the BEPS Action Plan to control the tax-motivated income shifting activities of MNEs [
9].
Among various aspects of new tax policies tackling income shifting, disclosure on the information regarding MNE’s worldwide operations has been considered to be an important aspect of international tax policy [
10]. From the tax authorities’ point of view, obtaining knowledge on MNEs’ global allocation of the income, economic activity, and taxes paid among countries is crucial, as the sophistication of international business structuring allows MNEs to conceal the base of the income generated in the host market. To enable countries to collect an appropriate level of tax that reflects the real economic significance of MNEs in their markets, BEPS Action Plan 12 demands the disclosure of aggressive tax planning arrangements to enhance the monitoring activities of tax authorities, and Action 13 requires that large MNEs provide a single universal transfer pricing (TP) report that contains a country-by-country TP report to all host countries [
11]. Hence, although MNEs may have reduced their international tax liabilities through BEPS activities, the BEPS Action Plan requires that MNEs review and change their existing international tax-motivated strategy to avoid future tax risks, such as potential tax disputes and fines. Although international tax is vital to MNEs and governments worldwide, there is limited evidence on the relationship between tax policy and the international tax avoidance activities of MNEs, mainly due to the discretionary nature of information on tax avoidance. Moreover, the international tax law reform specifically aimed at BEPS activities was introduced only for a few years; therefore, it is vital to assess the effectiveness of the BEPS Action Plan. This analysis benefits policymakers and regulators as it is important to know the economic effect of the new policy. In order to further devise an appropriate way of achieving the intended results, the effectiveness of the policy and the policy-relevant conditions should be analyzed.
This study uses a natural experiment framework to estimate the change in tax behavior of MNEs after international tax law reform. Mainly, this study assesses the effectiveness of the OECD’s BEPS Action Plan 13, which makes it mandatory for MNEs to review and change their existing international tax-motivated strategy to avoid future tax risk, such as TP assessment. There is limited evidence on the effect of private disclosure requirements in increasing the tax authorities’ scrutiny of MNEs’ global operation. Assessing change in international tax liabilities is based on a central assumption of income shifting in prior research that based on firms’ incentives to engage in tax avoidance practices, tax liabilities can be changed flexibly [
12]. The change in international tax liabilities of Korean MNEs before and after 2016 is analyzed, the period when the amended International Tax Coordination Law (ITCL) by the Ministry of Economy and Finance of Korea mandated MNEs with annual revenue of over 100 billion KRW (about 91 million USD) and an annual intercompany transaction of over 50 billion KRW (about 45 million USD) to file TP reports, including the master file and local file [
13], which is in line with OECD’s BEPS Action Plan 13 [
11]. In addition, following the recommendation of OECD’s BEPS Action Plan 13, the ITCL, which was further amended on 20 December 2016, required MNEs with annual consolidated revenue of over 1 trillion KRW (about 910 million USD) to file a country-by-country report (CbCr) [
14]. The documents should contain an MNE’s global allocation of income, economic activity, and taxes paid among countries. Although tax authorities could request the submission of similar, but less exhaustive, information before 2016, it was not mandatory to file such documents every year.
Furthermore, this study explores the intended economic effect of the changes in OECD’s BEPS initiatives. The moderating effect of business structure, such as concentrated family ownership and intangible asset intensity, is assessed. Regarding family ownership, this study uses the entrenchment hypothesis to predict that before the tax law reform, highly concentrated family ownership was associated with high tax avoidance practices, thus leading to a significant increase in international tax liabilities after the tax reform. Moreover, since accurately assessing the arm’s length price of intangible assets, such as royalties, is more difficult than that of tangible assets, it is relatively easy for MNEs to defend their TP for intangible assets in a tax dispute. This suggests that MNEs with higher intangible asset intensity are expected to change their prior tax scheme significantly to react to the tax law reform.
This study uses propensity score matching (PSM) and difference-in-differences (DiD) approaches to identify whether BEPS Action Plan 13 changed the tax behavior of Korean MNEs [
15]. Although the new tax rule is an exogenous legal shock to large MNEs whose assets over consolidated sales are over 1 trillion KRW, MNEs that are close to but below the threshold do not face such legal shock. When the change in the international tax liability of large MNEs is significant, it can be interpreted that the large MNEs had pursued a tax avoidance strategy, but BEPS Action Plan 13 successfully curved such a strategy. The PSM and DiD methods have become increasingly common in the business literature, especially for assessing a causal relationship between environmental change and corporate decisions [
16]. In applying the natural experiment, the issue is a potential selection bias as MNEs under the effect of the new tax reform are typically larger and have resources to expand their international business. As the size of MNEs is likely to have a size of international tax liabilities even without consideration of the tax reform, it is important to reduce selection bias and assess the pure effect of the tax law reform. The empirical results show that after the tax reform, the international tax liabilities of MNEs increased. Thus, before the tax reform, MNEs pursued tax planning to reduce their international tax liabilities and OECD’s BEPS Action 13 have controlled their incentives for tax avoidance. Moreover, additional analysis shows that the reaction of MNEs with high intangible asset intensity to the tax reform was more than that of MNEs with low intangible asset intensity. The tax avoidance strategy of concentrated family ownership was not more than that of non-concentrated family ownership. Thus, Korean MNEs with high intangible asset intensity were forced to change their prior tax avoidance strategy, and concentrated family ownership of Korean MNEs is not statistically related to tax avoidance.
The findings practically and theoretically contribute to research. First, the economic effect of the tax reform on international tax liabilities is empirically assessed, and it shows that BEPS Action Plan 13 has changed how MNEs operate globally. Worldwide collective efforts are shown to be effective in achieving a sustainable tax behavior of MNEs. Second, this research contributes by providing evidence for policymakers on the positive effect of the disclosure of information regarding MNEs’ global operation (country-by-country) and information sharing among nations. As MNEs’ operations span multiple countries, a unified action has an advantage in managing loopholes in the tax system. Third, although there are competing arguments on the relationship between family ownership and tax avoidance in the prior literature, concentrated family ownership of Korean MNEs is not related to the level of international tax avoidance. Fourth, the results empirically support and prove that intangible assets are an essential income shifting channel that allows MNEs to reduce their international tax liabilities. Since MNEs with high intangible asset intensity had been associated with higher tax avoidance before the introduction of OECD’s BEPS Action, their increase in international tax liabilities is higher than that of the MNEs with low intangible asset intensity. The significant moderating effect of intangible asset intensity provides evidence that MNEs differ on their tax avoidance level based on firm-level characteristics.
The paper is organized as follows.
Section 2 discusses and summarizes the issues related to OECD’s BEPS Action Plan 13 that have gained considerable interest from practitioners, government officials, and academics. This section also provides the research questions and hypotheses that are addressed in this paper.
Section 3 explains the empirical methodology, sample, and variables.
Section 4 reports the empirical findings and
Section 5 concludes with the implications and contributions of the research.
4. Empirical Results
Table 3 shows the results of DiD estimates used to test Hypothesis 1. It shows the differences between the international tax liabilities of treated MNEs affected by BEPS Action Plan 13 and control MNEs that were not affected by BEPS Action Plan 13. The increase in international tax liabilities for treated MNEs was higher than that of the control MNEs by 0.683 percentage points in year
t (2016), and 2.277 in the year
t + 1 (2017), respectively, after the introduction of BEPS Action Plan 13. These estimates are significant at the 10% level. The results support Hypothesis 1 and suggest that the new tax rules have changed the international tax management of MNEs.
Table 4 shows the results of DiD estimates used to test Hypothesis 2. It shows the differences between international tax liabilities of treated and control MNEs for those “with concentrated family ownership” and “without concentrated family ownership”. The results show that the international tax liabilities of both MNEs with and without a concentration of family ownership increased; thus, it does not support Hypothesis 2. This implies that although the relation between family ownership and tax avoidance has been predicted in prior studies, strong family control over a firm is not associated with international tax avoidance.
Table 5 reports the DiD estimates used to test Hypothesis 3. It shows the differences between the international tax liabilities of treated and control MNEs for “high intangible asset intensity” and “low intangible asset intensity” groups. The results show that the increase in the international tax liabilities of MNEs with high intangible asset intensity was more than that of MNEs with low intangible asset intensity. This supports Hypothesis 3 and implies that MNEs based more on intangible assets had tax avoidance strategy that violates the new tax rules.
Table 6 shows the results of a balancing test of the main result. The balancing test was conducted to check the similarity between the variables in the treatment and control groups [
48,
51]. The results show that the differences in variables in the samples were not significant, except intangible assets intensity. Despite these exceptions, the Hotelling T2 (T2 = 0.384,
p > F = 0.384) test did not reject the null hypothesis, which states that collectively, the means of the variables of the treatment and control groups are not different from each other. This suggests that the sample is well balanced in the year before the new tax law reform.
5. Discussion and Conclusions
The two main research goals of this study are as follows. First, it examines the effect of the new tax law reform, especially the introduction of BEPS Action Plan 13 on the sustainable tax behavior of Korean MNEs. Second, it explores the conditional effect of concentrated family ownership and intangible asset intensity. The empirical findings firstly show that BEPS Action Plan 13 increased the international tax liabilities of large MNEs. The mandatory disclosure of a wide array of information regarding global operation is a pressure for MNEs to reduce their tax avoidance-related schemes. While concentrated family ownership of MNEs does not change the level of reaction to BEPS Action Plan 13, the MNEs with higher intangible assets intensity experienced higher increase in international tax liabilities, implying the importance of intangible assets for MNEs in devising tax avoidance schemes.
This study provides meaningful and practical implications for policymakers and theoretical contributions. First, the significant increase in international tax liabilities of MNEs illustrates the vital role of the worldwide collective efforts in increasing sustainable international tax behaviors of MNEs. Collecting international tax that reflects the real economic significance of MNEs in each country is available when governments put efforts together and force MNEs to share the same information for all countries. The empirical test of the effect of BEPS Action Plan 13, which aims to provide one universal TP report to all host countries’ tax authorities, shows that information sharing among nations is an efficient means to control the tax avoidance strategy of MNEs based on market or legal friction. The OECD’s initiatives have changed tax policies around the world and MNEs reacted by assessing their prior international business structure that ultimately reduced the possibility of tax avoidance. Second, the application of PSM and DiD enhances the analysis by providing a statistically sound way of assessing the effect of change in policy. Such a natural experiment setting improves the empirical assessment by providing a means of controlling causality and omitted variable issues. Third, by showing how business structure (intangible assets intensity) is related to the international tax liabilities of MNEs, this study indicates that firm-level characteristics of MNEs are vital factors in international tax research. The empirical results show that concentrated family ownership of Korean MNEs is not an influential factor in tax avoidance. Moreover, the results prove that intangible assets are an essential channel that enables MNEs to reduce their international tax liabilities, and the OECD’s initiatives curved the motivation of using tax avoidance strategies.
This study is not without limitations. First, although it focused on BEPS Action Plan 13, the general effect of the BEPS Action Plan on the strategy and international tax liabilities of MNEs was not analyzed. The research utilized BEPS Action Plan 13 to divide MNEs into two groups explicitly, and allows effective comparison, using the PSM and DiD approaches. Since OECD is introducing various measures to control BEPS activities of MNEs, extending the analysis to other BEPS Action Plans will help in understanding the overall effect of the new tax law reform. Second, an important limitation of this study is the modest number of MNEs affected by BEPS Action Plan 13. Furthermore, in constructing a matched sample, I limit the bandwidth to have matches with similar attributes of MNEs. This issue also lies in other studies that utilize the PSM method to assess the effect of policy change for a small group of firms (e.g., [
40,
43]). Third, further research can be conducted by utilizing foreign affiliate-level data. Due to the limited access to the secondary data of foreign affiliates of Korean MNEs, this study used group-level consolidated tax liabilities. If a separate analysis can be made for each foreign affiliate, using affiliate-level data and the host market’s tax rate, it will improve the research on the different effects of the BEPS Action Plan’s on different markets.