DP8460 | The Impact of Controlled Foreign Company Legislation on Real Investments Abroad: A Two-dimensional Regression Discontinuity Design

Publication Date

01/06/2011

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Abstract

Controlled foreign company (CFC) rules are frequently imposed by countries as part of their anti-tax-avoidance legislation. This paper aims at quantifying their impact on foreign investments by utilizing a regression discontinuity design and the universe of German foreign investments notified to Deutsche Bundesbank. While most regression discontinuity designs are one-dimensional, German CFC legislation gives rise to a two-dimensional design. The latter allows the local average treatment effect (LATE) to be heterogeneous along the two treatment thresholds, which are related to the level of the foreign corporate profit tax rate and to the returns on passive assets relative to total returns. We find clear evidence of a negative average LATE of the CFC legislation on the fixed assets held by German multinationals abroad. We find also evidence of some heterogeneity of LATE according to parametric as well as nonparametric estimates. On average, foreign assets are estimated to respond by about 10 million Euros in the neighborhood of the intersection of both treatment thresholds. This evidence points to a significant and economically large impact of anti-tax-avoidance legislation on multinational firms? real activity abroad.