How can developing countries tax multinational firms? Evidence from a large policy reform in Chile

How to tax multinational companies is one of the most pressing issues that tax policy-makers face globally, particularly in developing countries where a large share of domestic activity involves foreign firms. A body of evidence suggests that multinationals artificially shift a large fraction of their profits to low-tax locales such   as Bermuda and Luxembourg. There is a lively debate on what are the best ways for governments to address this trend, but until now it has proven difficult to shed much light on what policies limit tax avoidance by multinationals, mainly because of a lack of quasi-experimental sources of variation and of detailed enough micro-data.

In this research, we draw on administrative micro-data to assess whether trying to enforce the core rules that currently govern the taxation of multinationals improves tax collection. In 2011, the Chilean tax administration made a number of radical changes in its policy regarding multinational firms: it increased the reporting requirements of internationally-active firms, started monitoring intra-group transactions, began enforcing the standard OECD rules on how intra-group transactions should be priced, and hired tax auditors devoted to these tasks. We use detailed tax and customs data covering all internationally active firms operating in Chile, at the firm- and sometimes transaction-level, to make two contributions.

First, we combine macro-economic national accounts and balance of payments with our administrative micro- data to document how Chilean firms use offshore tax havens. We describe the key patterns on the cross- border flows of goods, services, interest and dividend payments that involve Chilean firms. Second, we analyze how the 2011 reform affected the use of tax havens and the taxes paid by Chilean firms. Our setting and data allow us to observe the effect of quasi-experimental variations in detailed administrative data, to study how monitoring transfer prices affects taxes paid by multinationals.