How do countries curb their debt or profit shifting: a systematic literature review

Abstract

Companies often favor debt financing over equity financing due to its tax benefits, allowing multinational companies to exploit internal debt to transfer profits to jurisdictions with lower tax rates. Although the BEPS Action Plan provides governments with guidelines to curb interest deductions and combat profit shifting linked to financing arrangements, its implementation varies across nations. Moreover, multinational corporations leverage internal debt for tax planning and profit-shifting purposes. This research conducts a Systematic Literature Review on the tax treatment of financial transactions, focusing on debt. Through an examination of papers available on the OECD website, particularly those analyzing thin capitalization rules and transfer pricing practices worldwide, we collected 43 empirical publications from three journal system publishers: ScienceDirect, SpringerLink, and Proquest. The study scrutinizes tax planning tactics adopted by multinational firms, particularly profit shifting, debt manipulation, and transfer pricing, to reduce tax liabilities and boost profits. It investigates the effects of thin capitalization regulations, highlighting discrepancies between countries. Although these practices comply with legal frameworks, tax authorities often perceive them as ethically questionable, prompting countermeasures. Tax regulations profoundly influence the strategic distribution of multinational corporations’ profits. Relaxed enforcement leads to heightened income shifting, particularly within privately owned multinational corporations (MNCs), necessitating legislative adjustments to promote fairer financing practices. Group ratios and anti-avoidance regulations are implemented to mitigate profit shifting, affecting tax revenue, investment dynamics, and economic stability.