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We model the opportunities and incentives generated by international tax differences for international profit shifting by multinationals. Unlike previous work, we consider not only profit shifting arising from international tax differences between affiliates and parent companies, but also from tax differences between affiliates in different host countries. Our model yields the prediction that a multinational's profit shifting in a country depends on a weighted average of international tax rate differences between all countries where the multinational is active. Using a unique dataset containing detailed firm-level information on the parent companies and subsidiaries of European multinationals and detailed information about the international tax system, we test our model and empirically examine the extent of intra-European profit shifting by European multinationals. On average, we find a semi-elasticity of reported profits with respect to the top statutory tax rate of 1.43, while shifting costs are estimated to be 1.6 percent of the tax base. International profit shifting leads to a substantial redistribution of national corporate tax revenues. Many European nations appear to gain revenues from profit shifting by multinationals largely at the expense of Germany.

This paper presents a model of a multinational firm's optimal debt policy that incorporates international taxation factors. The model yields the prediction that a multinational firm's indebtedness in a country depends on a weighted average of national tax rates and differences between national and foreign tax rates. These differences matter as multinationals have an incentive to shift debt to high-tax countries. The predictions of the model are tested using a novel firm-level dataset for European multinationals and their subsidiaries, combined with newly collected data on the international tax treatment of dividend and interest streams. Our empirical results show that a foreign subsidiary's capital structure reflects local corporate tax rates as well as tax rate differences vis-à-vis the parent firm and other foreign subsidiaries, although the overall economic effect of taxes on leverage appears to be small. Ignoring the international debt shifting arising from differences in national tax rates would understate the impact of national taxes on debt policies by about 25%. JEL Classifications: F23, G32, H25