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Corporation taxes and the debt policy of multinational firms

Evidence for German multinationals

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Abstract

This paper analyzes the impact of corporate taxes on the capital structure of foreign subsidiaries of multinational firms. The empirical investigation employs a large micro-level panel dataset of German multinationals covering 31 countries over a 10-year period. A special feature of this dataset is that it allows us to distinguish between internal and external debt financing. Our results confirm a positive effect of local tax rates on both types of debt. Moreover, while adverse local credit market conditions are found to reduce external borrowing, internal debt is increasing, supporting the view that the two channels of debt finance are substitutes. Our findings suggest that internal credit markets give rise to significant advantages and enhance multinationals’ opportunities to use debt as a tax shield.

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Notes

  1. Under a German double tax treaty distributed profits of foreign subsidiaries are tax exempt at the corporate parent’s level. Since 2001, exemption is granted by German tax law, subject to five percent of the dividends being taxed.

  2. In addition to the statutory tax rate we take into account up to nine control variables for the determinants of the capital structure, while the recent study by Buettner et al. (2009), for example, includes only three additional controls.

  3. The proposition of a more pronounced tax effect under the exemption system does also hold if interest income is subject to a high tax rate as, for example, in Germany. The variation in the host country tax rate affects the incentive to use internal debt financing also if internal credit is associated with high total taxes due to the taxation of interest income.

  4. Capital is defined as the sum of nominal capital, capital reserves, profit reserves, and total debt.

  5. We control for the variation in German tax rates over time by means of time fixed effects because all parent companies of our sample are located in Germany. Moreover, we control, to some extent, for the unobservable heterogeneity in the financial decisions of the parent companies by means of fixed effects for each company. This also takes account of more complex company structures, such as the existence of conduit companies.

  6. We transform the marginal tax effects into semi-elasticities of the debt ratio by dividing the marginal tax effect by the sample mean of the debt ratio.

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Authors and Affiliations

  1. Chair of Economics, esp. Public Finance, Friedrich Alexander University Erlangen-Nuremberg, Lange Gasse 20, 90403, Nuremberg, Germany

    Thiess Buettner

  2. Chair of Business Administration, esp. Taxation, Goethe-University Frankfurt, Grueneburgplatz 1, 60323, Frankfurt, Germany

    Michael Overesch

  3. Chair of Business Administration and Taxation, University of Mannheim, Schloss, 68131, Mannheim, Germany

    Ulrich Schreiber

  4. Chair of Applied Economics: Innovation and Internationalisation, ETH Zurich, Weinbergstr. 35, 8092, Zurich, Switzerland

    Georg Wamser

Authors
  1. Thiess Buettner
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  2. Michael Overesch
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  3. Ulrich Schreiber
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  4. Georg Wamser
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Correspondence to Thiess Buettner.

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Buettner, T., Overesch, M., Schreiber, U. et al. Corporation taxes and the debt policy of multinational firms. Z Betriebswirtsch 81, 1325–1339 (2011). https://doi.org/10.1007/s11573-011-0520-5

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  • DOI: https://doi.org/10.1007/s11573-011-0520-5

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