Research Matters is a biweekly feature in which a member of the faculty talks about some of his or her latest work and its impact and relevance to law and society.
Professor Dhammika Dharmapala wrote “Base Erosion and Profit Shifting: A Simple Conceptual Framework” to help explain an international taxation issue that is of rising concern in the increasingly global economy. The Organization for Economic Cooperation and Development, which includes 34 developed countries, has been pursuing a multilateral initiative aimed at better aligning nations’ taxation rights with economic activity and preventing the artificial redistribution of tax revenue. In this September 2014 paper, which is part of a series at the Law School’s Coase-Sandor Institute for Law and Economics, Dharmapala offers context for understanding and assessing the potential impact of the initiative.
Q. What is base erosion and profit shifting, and why is it a problem?
A. Base erosion and profit shifting refer to tax-planning practices by multinational firms that use, in some cases, inconsistencies in the tax laws of different countries. This reduces tax revenue from those multinationals, and that is perceived as a problem by governments that are receiving less revenue. Other taxpayers perceive it as a problem because if there is less revenue from one source, then others must pay more to make up the difference. But, perceptions of fairness also play an important role in tax compliance.
Q. Why did you write this?
A. This is probably the most important current policy initiative within the international tax arena. It also draws on work that I and others have done in producing empirical scholarship on this issue.
Q. Why is it important?
A. The OECD’s effort is a major multilateral initiative of a sort that has not happened very often. We think of international tax as being a narrow field of interest only to specialists. Yet in recent years we have seen growing public interest in this area. It has been spurred—perhaps more so in Western Europe than in North America—by media reports about the tax practices of major multinational firms. It has occurred in a context of fiscal stress in many countries. This has led to an unprecedented degree of political attention being paid to the topic. It explains why this initiative has happened, but it also suggests that it is a particularly important time for scholars who have been working in the area for a while to explain the background to a more general audience.
Q. Why has there been increased media interest?
A. I suspect in part it was due to attention from policymakers. For example, the Public Accounts Committee of the House of Commons in the U.K. held a series of hearings. The U.S. Senate Finance Committee has held hearings on the tax practices of U.S. multinationals.
Q. How well has the OECD’s initiative been received?
A. There is a general sense that some reforms are needed, but there is less agreement on what these should be.
Q. What do you hope readers of your paper will take from it?
A. I hope that it introduces the issue of base erosion and profit shifting to those who are less familiar with it. If the initiative is at all successful, it will result in new legislation and new sets of rules in various countries, and it is better that those changes in policy take place in an environment with more information.