Corporations with well-established digital infrastructure are using this for more aggressive tax planning in contrast to corporations with little digital know-how. What this means is that these corporations can relocate their company-wide profits more efficiently to European countries with low tax rates and are therefore able to reduce their effective tax rate, as a joint study conducted by ZEW Mannheim and the University of Mannheim suggests. “The profits declared by subsidiaries of international companies are higher in those countries where tax rates are lower. This correlation is more distinct among businesses with digital infrastructure, for example, enterprise resource planning (ERP) systems which companies use to plan, control and manage their resources,” says Christopher Ludwig, a researcher in the ZEW Research Department “Corporate Taxation and Public Finance” and co-author of the study.
This effect has been found to be even stronger if a head of department in accounting is present at these multinationals. “They then have the expertise to hand, which enables them to put additionally acquired information, obtained through analyses of internal data, to further use for tax planning,” Daniel Klein, a researcher at the University of Mannheim and also co-author of the study, explains.
Digital corporations react more quickly to tax rate changes
The study by ZEW and the University of Mannheim additionally shows that international corporations with good digital infrastructure react more sensitively to changes in tax rates than businesses with a lower digitalisation level. Christopher Ludwig explains: “Our findings show that digitalised corporations shift their profits away more quickly from countries with an increased tax rate. Inversely, these businesses are also quicker to relocate their profits to countries with a decreased tax rate.”
For their analyses, the researchers used various data sets on 20 European countries between the years 2005 to 2016. In total, they considered 24,715 businesses which belong to 12,216 multinationals. The CiTDB database from The Aberdeen Group provides information on how European corporations use information technology, and the ORBIS database of Bureau van Dijk provides unconsolidated financial data and information on ownership structure.
Study is first to examine the effect of digitalisation on tax departments
Three IT applications are observed depending on varying levels of use. The corporations examined are divided into groups based on good, average, and poor digital infrastructure. These are: ERP systems which help corporations to plan, control and manage their resources (e.g. staff, capital, stock...), database management systems (DBMS) which allow corporations to set up and manage databases, as well as groupware software which enables communication within the business and cross-border communication among employees.
Up until now, scientific studies solely examined the effects of the digital transformation of corporations on central business areas. The recently published study by ZEW Mannheim and the University of Mannheim is the first to analyse how these technologies are also changing entrepreneurial activity in supporting corporate departments such as the tax department.