DO REPA"I0N TAXES MA'ITER? 

EVIDENCE FROM THE 

TAX RETURNSOF U.S. MULTINA"I0NALs' 

RllcanneAttshuler 

T. Scott Newlon 

William C. Randolph" 

OTA Paper 70 August 1994 

OTA Papers and Briefs are circulated so that the preliminary findings of tax research conducted 

by staff members and others associated with the Office of Tax Analysis may reach a wider 

audience. TBe views expressed are those of the authors, and do not reflect Treasury policy. 

Commentsareinvited,but OTA Papers and Briefs should not bequoted without permission from 

the authors. Additional copiesof thispublication may be purchased from the National Technical 

Information Sewice, 5285 PortRoyal Road,Springfield, VA 22161 

office of Tax Analysis

U.S.Treasury Department 

Washington, DC 20220 

* Prepared for the 1994 NBER Conference on International Taxation. We are very 

grateful to GordonWilsonfor hisassistance inusing the Treasury tax data. We thank Bill 

Gentry and other conference participantsfor valuable comments. We also thank seminar 

participants at the University of Pennsylvania, the University of Toronto, and the 1993 

NBER Sllmmer Institute for helpful comments. 

"Rosanne Altshuler, Rutgers University and National Bureau of Economic Research. 

T.Scott Newlon, Office of Tax Analysis, U.S. Treasury Department. William C. 

Randolph, Congressional Budget Office, U.S. Congress. 
DO REPATRIATION TAXES MA'ITER? EVIDENCE FROM THE TAX RETURNS OF U.S. 

MULTINATIONALS 

ABSTRACT 

An open question in the literature on the taxation of multinational corporations is whether 

repatriationtaxes influence whether the profits of foreign subsidiariesare repatriated or reinvested abroad. 

Theoretical models suggest that dividend remittances should not be influenced by repatriation taxes. The 

results of recent empirical work indicate that dividend remittances are sensitive to repatriationtaxes. This 

paper investigates whether the empirical evidence can be reconciled with the theoretical results by 

recognizing that repatriation taxes on dividends may vary over time and provide firms with an incentive 

to time repatriations so that they occur in years when repatriation tax rates are relatively low. We use 

information about cross-country differences in tax rates to separately estimate the influence of permanent 

tax changes, as would occur due to changes in statutory tax rates, and transitory tax changes on dividend 

repatriations. Our data contains U.S. tax return information for a large sample of U.S. corporations and 

their foreign subsidiaries. We find that the permanent tax price effect is significantly different from the 

transitory price effect and is not significantly different from zero. while the transitory tax price effect is 

negative and significant. This suggests that repatriation taxes do affect dividend repatriation behavior but 

only to the extent that they vary over time. Previous empirical work has apparently measured the effect 

of timing behavior. 

JEL Uassifcarion: H32,H25.H87. 
An open question in the literature on the taxation of multinational corporations is whether taxes 

due on repatriation of foreign source income influence whether the profits of foreign subsidiaries are 

repatriated or reinvested abroad. Theoretical arguments by Hman (1985) suggest that dividend 

payments by foreign subsidiaries should not be influenced by such repatriation taxes. Under this view, 

which is analogous to the "new view" of dividend taxation applied to domestic firms, taxes due upon 

repatriation are unavoidable costs for "mature" foreign subsidiariesthat finance investmentout of retained 

earnings.' As a result, investment and dividend payment decisions are unaffected by those taxes. The 

results of recent empirical work that used cross-sectional data on U.S.multinationals seem to contradict 

Harunan's theoretical result. These studies indicatethat dividend remittances are sensitive to repatriation 

taxes. This presents a puzzle. 

Hartman's analysis (and the 'new view' of dividend taxation) is based on the assumption that 

taxes on dividends are constant over time. This paper investigates whether the empirical evidence can 

be reconciled with the thamtical results by recognizing that repatriation taxes on dividends may vary 

over time. This variability may provide firms with an incentive to repatriate relatively more profits from 

a subsidiary when the tax wst of doing so is temporarily relatively lower than normal, and to retain more 

profits when the tax cost of repatriation is higher than normal.: Such timing behavior could be revealed 

in cross-sectional data hy a relationship kwwn dividend payout levels and the current level of the tax 

cost of dividend payments, when the acnal relationship is haween dividend payout levels and the current 

level of the tax cost relafjw to it.. normal level. If timing opportunities are important to dividend payout 

decisions. then it hecomes dificvlt to interpret the tax effrcv estimated in previous papers. In particular, 

these estimates will tend to conk the effats of permanent tax changes, as would occur due to changes 

in statutory tax rates. with the effrxts of tax changes due to transitory changes in the situation of the 

taxpayer. 
It is impOrtant to distinguish whether cross-sectional differences between subsidiaries in dividend 

payout behavior are due to the current level of the tax cost of paying dividends or the difference between 

the current and the normal, or expected future, tax cost. Making this distinction will help us evaluate 

the effects of tax policy on the location of investment, the form of finance, and tax revenues. More 

specifically, it has implicationsfor the evaluation of policies such as the reduction of withholding tax rates 

in bilateral tax treaties and the repeal of the deferred taxation that foreign profits generally enjoy in the 

United States. The policy implications of this work are discussed in more detail in the final section of 

the paper. 

Micro data can be used to distinguish the effects of transitory variation in tax costs from the 

effects of permanent differences in tax costs. This paper uses a recently created data set containing U.S. 

tax re" information for a large sample of U.S. corporations and their foreign subsidiaries. For some 

of our empirical work, we link the subsidiary-specific data across time to create a p.ane1 data set. To our 

knowledge, this is the largest panel data set in existence that contains tax information on multinationals. 

It is also the only panel data set thu has dailed tu information on both the parent corporations and their 

foreign subsidiaries. 

We use information zhout crossauntry differences in tax rates to estimate separate effects for 

the permanent and transitory wmponents of the tax price of dividend repatriation. The idea is that 

variations across countries in average repatriatton tax prices or in statutory tax rates will be correlated 

with the permanent component of tax price vuiawn. hut unwrrelated with transitory variations. Using 

these measures to const~~ct instrumental vuiahla for the tax price allows us to separately identify 

permanent and transitory tax price effects. Our estimation strategy is similar to that of Burman and 
. Randolph (1!J93),who used state tax rates as instruments to separate permanent from transitory effects 

of taxes on capital gains realizations. 

To preview our results, we find that the permanent tax price effect is significantly different from 

the transitory price effect and is not significantlydifferent from zero, while the transitory tax price effect 

is negative and significant. This suggests that previous cross-sectional analysis has measured the effect 

of timing behavior, either through tax planning that affects both the tax price and dividend payments or 

through companies timing their repatriations to take advantage of exogenous transitory variations in tax 

prices. 

The remainder of the paper is organized as follows. Section I briefly reviews Hartman's analysis, 

the related empirical literature, and some more recent theoretical work in this area. Section I1 derives 

the tax price of a dividend repatriation, Section Ill presents the empirical model, and Section IV describes 

the data. Results are presented in Section V. followed by concluding remarks. 

1. The Hartman Analysis and Subsequcnt Studies 

The United States system for taxing the income earned by the foreign subsidiaries of U.S. 

corporations defers taxation of foreign income until it is hrought back to the United States and provides 

a credit for foreign taxes paid.> Under this credit and deferral system, the two main forms of 

repatriation tax that a firm incurs on income remind from a foreign subsidiary are the residual home 

country tax liability (if any) not offset by the foreign tax credit, and any withholding tax imposed by the 

source country. Harunan (1985) argued that. under a credit and deferral tax system, the repatriation tax 

on foreign source income is irrelevant to the investment and dividend payment decisions of foreign 

subsidiaries that are financed through retained earnings ('mature" subsidiaries). Hartman's insight was 

3 
that, since the repatriation tax is unavoidable, it reduces the opportunity cost of investment and the retum 

to investment by the same amount. As a result, the tax does not affect a mature subsidiary's choice 

between reinvesting its foreign earnings and repatriating funds to its parent.' His analysis is essentially 

an application of the "new view" or "tax capitalization view" of dividend taxation put forward by King 

(1977), Auerbach (1979), and Bradford (1981). The "new view" holds that taxes on dividends (if 

constant over time) have no distonionq effects on the real decisionsof domestic corporations. Although 

Hartman's analysis pertains to the residual U.S. tax on foreign income, it applies equally well to 

withholding taxes. 

Several empirical studies using cross-sections of tax retum data appear to contradict Hartman's 

theoretical result. Mutti (1981) used U.S. tax re" data from 1972 to estimate the effect of tax costs 

on the choice of income remittance channels. He found significant tax effects in estimates of the 

parameters of a dividend equation. Goodspeed and Frisch (1989) and Hines and Hubbard (1990) both 

used 1984 tax re" data of large samples of U.S. corporations and their foreign subsidiaries to 

investigate tax effects on foreign income remittances. Goodspeed and Frisch matched data on parent 

corporations with country-specific information on their foreign subsidiaries in an attempt to quantify 

income repatriation incentives created by the U.S. tax system. By hnher disaggregating the 1984 tax 

retum data. Hines and Hubbard were able to study income repatriation behavior using a data set that 

matched subsidiary-specific information to parent corporation data. Both studies found significant 

evidence of tax effects on income repatriation. Altshuler and Newlon (1993) used U.S. tax return data 

from 1986 to investigate tax effrrv on dividend remittances from foreign subsidiaries to their U.S.parent 

corporations. ?his paper improved upon previous work by providing a more accurate specification of 

the tax incentives facing firms. Results from estimates ofdividend equations indicated a somewhat larger 

and more significant tax effect than had been previously estimated. 

4 
Recognizing that Hartman's,theoretical analysis did not allow repatriation taxes to vary over time 

may help to reconcile it with the empirical results from the above studies. There are at least two different 

ways in which the repatriation tax may vary. First, it may vary over time due to differences between 

the tax base definitions of the United States and the host country of the foreign subsidiary. The U.S. 

foreign tax credit is based on the average foreign tax rate of the subsidiary, where the average is 

calculated with respect to the U.S. definition of the tax base. Differences in tax base definitions may 

vary over time, e.g., if capital cost allowances differ, causing the average foreign tax rate as defined by 

the United States to vary. This variation in the average foreign tax rate causes the foreign tax credit 

ailowed for a given dividend payment to vary over time as well. Such variations in the average foreign 

tax rate may be planned. For example, to the extent that the timing of deductions and credits is 

discretionary, a foreign subsidiary may shift them from years in which it is remitting income to years in 

which it is not remitting income, thereby maximizing the foreign tax credit. This device is known as the 

"rhythm method" in the tax planning jargon.' 

The second cause of variation in the repatriation w is movement by the parent company between 

being in "excess credit," i.e., having more foreign tax credits available than are needed to offset potential 

U.S. tax' liability on foreign source income. and being in "excess limitation," the opposite condition. 

Since the U.S. foreign tax credit operates. to some extent, on an overall basis, excess foreign tax credits 

generated from one source of foreign income can he used to offset potential U.S. tax on another source 

of foreign income that generates insufficient foreign tax credits. If the parent corporation is in excess 

credit, there is no additional U.S. tax wst to repatriating foreign income. If the parent is in excess 

limitation, then the U.S. tax cost of repatriating income from a subsidiary may be positive or negative, 

depending on the average foreign tax rate of rhe subsidiary. 

5 
Several recent theoretical contributions have incorporated a repatriation tax that may vary over 

time and that may be endogenous to the investment and financial decisions of subsidiaries and parent 

corporations. Hines (1989) shows that U.S. tax payments on foreign source income are affected by 

differences in the way the U.S. and host countries determine taxable income. In his model, the 

repatriation tax is a function of the ratio of U.S.defined income to foreign defined income. He points 

out that this ratio may vary over time and may be affected by investment decisions. As a result, 

investment incentives may be influenced by the repatriation tax. Leechor and Mina (1993)make a 

similar argument. In their model, the repatriation tax is also endogenous and the Harunan result obtains 

only when host and home country tax bases, adjusted for inflation, are proportional to each other. 

Altshuler and Fulghieri (1990) offer a model in which parent corporations may switch into and 

out of the excess credit position. This model shows that the Hartman result obtains only when the excess 

credit position is stationary. The insight here is that switching between credit states breaks down the 

equivalence between the impact of repatriation taxes on the opportunity cost of capital and on the returns 

to investment. 

In one sense, none of these recent thwretical contributions has departed from the Hanman result: 

the level of the repatriation tax does not by itself affect the incentive to repatriate income rather than 

reinvest it. Instead, it is the variation over time in the level of the repatriation tax that affects the 

incentive to repatriate income. because this variation provides parent corporations with the opportunity 

to time remittances so that they occur in ycars when repatriation tax rates are relatively low. If these 

theoretical predictions are corra,~,then failure to distinguish between the effects of permanent and 

transitory variation in the tax price when estimating tax effecxs on repatriation of foreign income could 

6 
lead to incorrect results. The effect of permanent variation in the tax price might be overstated, since 

the estimates would confound the effects of permanent and transitory variation in the tax price. 

11. The Tax Price of Dividend Repatriations 

In this section we specify a measure of the tax price of repatriating foreign income in the form 

of dividends and we briefly discuss the factors that may cause that tax price to vary over time.6 To 

understand how these tax prices are derived, some background information on the foreign tax credit is 

useful. The discussion here borrows heavily from Altshuler and Newlon (1993). 

The foreign tax credit has two components. The first, called the direct credit, is a credit for 

foreign taxes paid directly on income as it is received by a U.S.taxpayer. Foreign taxes eligible for the 

direct credit include withholding taxeson remittances to the U.S. taxpayer such as dividends, interest, 

and royalties, and also income taxes on foreign branch operations. The second component, called the 

deemed-paid or indirect credit. is a credit for foreign income taxes paid on the income out of which a 

dividend distribution is made to the U.S. taxpayer. The deemed paid credit is generally a credit for 

foreign corporate income taxes. 

The deemed paid credit for a dividend remittance from a foreign subsidiary is calculated by 

grossing up the dividend to reflea the foreign tax deemed paid on that dividend income.' To illustrate, 

suppose subsidiary i makes a dividend payment. D,. to its parent corporation. The grossed up dividend 

is 

D. + T,D,W,-TJ (1) 

where T,denotes the total foreign income tax paid hy subsidiary i and Y, denotes the subsidiary's pre-tax 

income from the U.S. perspective. which is the suhsidiuy's hwk earnings and profits. Equation (I) can 

7 
be rewritten as Di/(l-~J,where I,represents the average subsidiary tax rate, T,/Y,, on foreign earnings 

from the U.S.perspective. The U.S. tax on the dividend before credits is 7Di/(1-7J, where T denotes 

the U.S.rate of tax. The United States considers that creditable foreign tax was paid on the dividend in 

the amount of riDi/(1-7J. The U.S. tax liability on the dividend payment after the deemed-paid credit 

is therefore Di(T-7J/( 1-7J. 

The amount of foreign tax credit that can actually be used is limited, however, to the amount of 

U.S.tax payable on foreign income. Therefore, if the foreign tax rate, fi, exceeds the U.S.tax rate, 7, 

excess credits are created in the amount of Di(~i-r)/(l-~J. If the foreign tax rate is less than the U.S. tax 

rate, then a US. tax liability of Di(r-7J/(1-ri) accmes and the remitted foreign income is said to be 

creating excess limitation. 

As noted above, the limitation on the foreign tax credit operates to some extent on an overall 

basis. This means that excess credits acming from one source of foreign income can often be used to 

offset U.S. tax (excess limitation) on foreign income from another source. This is called cross-crediting 

or averaging of foreign income. The ability to crosscredit means that the effect of repatriating foreign 

income from a particular source may be positive. negative or zero.' 

Thr Derivation of Tu Prim 

We define the tax price of a divided remittance as the additional global tax liability arising from 

an incremental dollar's wonh of dividend repatriau)ns. Toderive the tax price we must take into account 

both the incremental U.S. and source awntry taxes on a dollar of dividends. The U.S. tax liability 

generated by dividend payments More the toreign tu sralit quals 7Di/(1-7J. The foreign taxes 

creditable against U.S.tax liahility are demal-pard me plus withholding taxes, or 

8 
7iD;/(l-7J + wiDi (2) 

where wi denotes the withholding tax rate in the host country. If the parent is in excess credit, any U.S. 

tax liability on a dollar of dividends is offset by the foreign tax credit. If the parent is in excess 

limitation, the U.S. tax liability equals 

(T-TJDJ(1-71) - uiDi. (3) 

TOcompute the global tax price of a dollar of dividends we add the source country effect to the 

U.S.tax effect. Under a classical corporate income tax system' the total source country tax liability on 

subsidiary i equals 

Ti = 7iYi + u;Di. (4) 

As a result, the only host country tax consequences of a dividend remittance are the associated 

withholding taxes. If the parent is in excess credits there is no U.S.tax consequence and therefore the 

global tax price is a,.If the parent is in excess limitation the global tax price, p, is 

p = (MJ/(I-T;). (5) 

The withholding tax has no ne effect on global taxes because the extra withholding tax paid on the 

dividend remittance is offset hy a reduction of U.S. tax of an equal amount. Due to cross-crediting, the 

global tax price may be negative and dividend payments may reduce the firm's global tax liability.'' 

Expression (5) shows that, if the parent corporation is in excess limitation, then the tax price of 

a dividend remittance is inversely related to the subsidiary's average tax rate, I,. As noted previously, 

to the extent that these variations in 7, are endugmws. e.g. because the timing of deductions and credits 

is elective. they can become a put of tax planning strategies for repatriating foreign source income. Even 

if a subsidiary's average tax rate is relatively umstant. the tax price of remittances will fluctuate 

significantly when the subsidiary's parent switches credit position. Consider a subsidiary with an average 

9 
. tax rate above the U.S. corporate rate. When the parent is in excess limitation, the tax price of a 

dividend remittance is negative [(T-TJ/(I-TJ < 01. When the parent is in excess credit, the tax price 

equals the withholding tax rate. As a result, tax prices for some subsidiaries can be negative in some 

years and positive in others. These changes in tax prices may also be endogenous if parents can control 

their foreign tax credit positions through careful structuring of remittancesfrom foreign subsidiaries. The 

next section presents an estimation strategy to separate the effect of these transitory components of tax 

prices from the effect of changes in the permanent component. 

111. An Empirical Model of Dividend Repatriations 

Previous work by Hines and Hubbard (1990) and Altshuler and Newlon (1993) has estimated a 

simple empirical model of dividend repatriations. For subsidiaries paying a dividend the model takes the 

following basic form: 

d=a,,+a,P+ br+XA+e, (6) 

where d is the dividend payout. expressed as the ratio of subsidiary dividends to assets, P is the current 

tax price of dividend repatriation". r is the after-tax rate of return for the subsidiary, and X is a vector 

of charaaeristics of subsidiary and parent. Equation (6) is not derived explicitly from the firm's 

optimization problem, but can be considered a reduced form suitable for testing the general implications 

of theoretical models such as Hartman's. It is similar to the empirical models used to explain dividend 

payments in a purely domestic context. 

In these previous papers. P was exp?al to have a negative coefficient since higher tax prices 

were expected to reduce the attractiveness of repatriation. 7he after-tax rate of return, r, may have an 

ambiguous effect on the dividend payout. On the one hand, if dividend payments are a residual, then 

higher earnings. which would increase the measured rate of re", could be expected cereris puribus.to 

IO 
increase the dividend payout. On the other hand, a higher after-tax rate of return would increase desired 

investment, having the effect of increasing retained earnings and reducing the dividend payout. Other 

relevant variables are included in X,the most important of which is perhaps the age of the subsidiary. 

Some theoretical literature (such as Newlon (1987) and Sinn (1990)) suggests that older subsidiaries 

should have higher dividend payout ratios. This prediction is a direct consequence of the value of 

deferral when there is a repatriation tax, i.e., if there is deferral, then dividend payouts will on average 

be an increasing function of age, other things constant. 

As noted already, by using the current tax price, P,the above model may confound the potentially 

different effects of permanent and transitory components of the tax price. It is beyond the scope of this 

paper to derive a theoretical model that explicitly incorporates intertemporal variation in repatriation tax 

prices. Instead, we use a reduced form empirical model to test the general implications that could be 

expected from any such model. In particular, a transitory decrease (increase) in the tax price reduces the 

current tiax price relative to future tax prices. and thus enables the firm to increase the value of its foreign 

source income by accelerating (delaying) dividend repatriations. But a permanent change in the tax price 

does not change the relative prices of current and future repatriation. Therefore, one would expect 

dividend repatriations to be affaaxi more by transitory than by permanent changes in tax prices. And 

Hanman's (1985) work would indicate that permanent changes in tax prices should have no effect at all 

on dividend repatriations. 

Based on these considerations. our empirical model generalizes equation (6) to allow for 

differences in transitory and permanent tax price effew: 

d =a+a,(P-Po)++Po+ hr +XA +e, (7) 
where P' is the permanent component of the tax price and hence (P-P? is the transitory component. We 

estimate this in a slightly different form: 

d =a,+ a,P+(%-a,)P'+ br +XA +c. (8) 

One difficulty in estimating equation (8) is that the permanent component ofthe tax price, P', is 

unobservable. To capture the effect of P' we use an instrumental variables approach in which we 

instrument the tax price on a variable, P,that we expect to be correlated with the permanent component 

of the tax price but uncorrelated with its transitory component. This essentially involves replacing P' in 

equation (8) with its predicted value, 

P.=&+6,~'+6g+xS, 

where the coefficients are derived from the regression 

Po=b+b,P +bg +XB+4. 

We experiment with two alternative instruments for the permanent component of the tax price, the 

country average tax price and the country statutory withholding tax rate. These instruments reflect crosscountry variation in taxes that should also he reflected in the permanent component of the tax price but 

not in the purely transitory component. 

For estimation of (8). we use a Tobit procedure hecause dividend payments are censored at zero. 

On the surface, this may appear UM~C~SSV~since acnral dividend payments are, by definition, nonnegative. However, the desired level of dividend payments could be negative. This result would obtain 

if, as suggested by the theoretical work in this area. foreign retained earnings were the preferred source 

of finance for foreign investment hut foreign investment exceeded foreign earnings. Our use of a Tobit 

procedure implicitly assumes that we have modelled dairrd dividends, but only observe actual dividends. 

12 
IV. TheData 

Our data set contains information from three sets of tax and information forms filed by a large 

sample of non-financial U.S.multinational corporations. Subsidiary data are obtained from information 

returns, called 5471 forms, filed for each foreign subsidiary of a U.S.taxpayer. The form 5471 includes 

balance sheet and income statement variables along with detailed information on remittances to U.S. 

parent corporations. For the purposes of this study, we needed to append information on the taxable 

income and foreign tax credit position of parent corporations to the subsidiary specific data from the form 

5471s. We obtained income data from corporate income tax returns filed by the U.S. parent 

corporations. We calculated foreign tax credit positions using data from the form filed in support of 

foreign tax credit claims. Detailed data from foreign tax credit forms and data from 5471 forms is only 

compiled in even years and were available to us only for the years 1980, 1982, 1984, and 1986. 

Calculating subsidiary-specific tax prices for dividend remittances for each sample year also 

requires knowledge of the host country withholding tax rates, the appropriate foreign corporate tax rates, 

and details of host country tax systems. To develop a list of country specific withholding tax rates for 

each sample year. we used the Price Waterhouse guides and tax treaties. These guides also provided the 

appropriate statutory tax rates for the countries in our sample with non-classical (for example. split rate 

and imputation) corporate tax systems. Finally. in each yar of the sample we used the subsidiary's 

average foreign tax rate to mexisure the c0rp)rate tax rate 7,at which dividends are grossed-up and foreign 

tax credits are calculated. To fllcvlatethis rate we divided foreign tax payments by before-tax earnings 

and profits, both obtained from the 5471 form data. 

in some situations, calcvluing average ux rats in this manner may lead to an unsatisfactory 

approximation of I,. In particular. problems arise when subsidiaries report negative earnings and profits, 

13 
receive tax refunds from host countries, repatriate dividends in excess of current earnings and profits, 

and receive dividends from subsidiaries of their own. Where feasible, adjustments were made in these 

cases to arrive at a more satisfactory measure of 7i.'2 Various screens were also applied to the data to 

eliminate observations for which the data were suspect. After these deductions the total number of 

observations in the sample was 22,906. 

Some of the estimation required linking subsidiaries in two consecutive sample years to form a 

panel. This was done largely through an algorithm that matched subsidiaries based on their US.parent 

corporation, company name, date of incorporation and country of residence. Many subsidiaries could 

not be matched on this basis and they therefore could not be included in the panel. The total number of 

.. 

observations in the panel was 7,118. 

Table 1 presents for each country represented in the sample the mean tax price, the standard 

deviation of the tax price. the statutory withholding tax rate and the mean dividend asset ratio for the 

subsidiaries located in that u)unuy for 1984. This tahle provides information that may be valuable in 

evaluating the usefulness of country mean tax prices and statutory withholding tax rates as instruments 

for the permanent component of the tax price. First wte that there is substantial variation in country 

mean tax prices and in statutory Withholding tax rates. Mean country tax prices range from -0.21 for 

Germany to 0.38 for Greece. Statutory withholding tax rates range from zero for a number of tax haven 

countries to 55 percent for Mexico. This degree of variation across countries means that these variables 

may be useful instruments. since the ctoss-awntry variation is presumably correlated with variation in 

the permanent component of the tax price 
Note also that within each country the standard deviation of the tax price is relatively large, in 

no case less than 0.14. This demonstrates that there is a substantialportion of variation in tax prices not 

explained by differences in country statutory dividend withholding and corporate income tax rates. 

Finally, note that no clear relationship between country mean dividend payout ratios and country mean 

tax prices or statutory withholding rates emerges from inspection of Table 1. This presages the results 

presented in the next section. 

V. Results 

Table 2 presents the estimation results. Column 1 of the table presents the results of estimating 

the simple dividend model presented in equation (6) that incorporates only the curreat tax price of 

repatriation. These estimates use the full sample of 22,906 observations. They are presented to check 

that the results with our sample are essentially the same as found by Hines and Hubbard and Altshuler 

and Newlon. 

The results presented in column (1 ) are indeed similar to those found in previous work. The 

coefficient on the tax price is negative uwf statistidly significant and of similar magnitude to the 

estimates in previous papers. To gauge the economic significanceof this coefficient, note that it implies 

that a reduction in tax price of one standard deviation (0.34) implies an increase in the overall dividend 

payout ratio (including those that pay dividends and those that do not) of about 0.004, which is equal to 

about 11 percent of the mean dividend payout ratio of 0.036. Thus, moving the tax price from one 

standard deviation above the mean to one stuwlud deviation below the mean implies an increase in the 

dividend payout ratio equal to hut 22 percent of the mean dividend payout ratio. 

15 
The coefficient on the after-tax rate of return is positive, significant and less than one. This is 

plausible, since it implies that an increase in earnings increases dividend payments. Because it is 

significantly less than 1, the coefficient ais0 suggests that an increase in the after-tax rate of return 

increases retained earnings. Also as expected, the coefficient on subsidiary age is positive and significant. 

Column (2) and the remaining columns of the table present the results of estimating the model 

in equation (8) that distinguishesbetween permanent and transitory tax price effects. To interpret the tax 

price coefficient estimates in these columns recall that in equation (8) the effect of the transitory 

component of the tax price is captured by the coefficient on the current tax price, while the coefficient 

on the permanent tax price equals the difference between the permanent and transitory tax price effects. 

Thus, the coefficient estimates in the first row of the table represent transitory tax price effects, the 

second row coefficient estimates represent the difference between the permanent and transitory tax price 

effects, and the coefficient estimates in the third row, which are sums of the coefficients in the first two 

rows, represent permanent tax price effecu. 

Column (2) of Table 2 shows estimates. using the full sample, of the basic model in which the 

country mean tax price is used as an instrument for the permanent component of the tax price. The 

estimated effect of the transitory component of the tax price (in the first row) is negative and statistically 

significant. Furthermore, it is larger in absolute magnitude than the estimated effect from the model 

excluding the permanent tax price effec?.'' This result implies that transitory variation in the tax price 

has a large effect on the incentive to repatriate inwme. 

The estimated difference haween the prmanent and transitory tax price effects presented in the 

second ruw of column (2) is positive and statistically significant. This implies that the permanent 

16 
. component of the tax price is not only significantly different from the transitory tax price effect, but, 

since the coefficient is positive, cannot have as large a negative impact on dividend repatriations. In fact, 

the estimated permanent tax price effect presented in the third row is not significantly different from zero. 

These results provide support for the hypothesis that the dividend repatriation incentive is affected by 

transitory but not permanent changes in the tax price of repatriation, a result that is consistent with 

Harunan's analysis. 

One potential problem with the results from the basic model in column (2) arises because the tax 

incentive to retain earnings abroad should depend on the expected foreign after-tax rate of return, but we 

use the actual rate for the current year in our estimates. This may bias the coefficient on the after-tax 

rate of return toward zero. More importantly. the difference between the current and expected after-tax 

rates of return will be part of the error term. Consequently, the current tax price and the country mean 

tax price will both be correlated with the error term because both depend on current foreign taxes and 

income. This may bias the coefficients on the ament and permanent tax prices. 

To explore whether this is a significant problem we used the two year lead after-tax rate of return 

as an instrument for the expecqal after-tax rate of re". The motivation for this approach is that, under 

rational expectations, the difference between the future actual and expected after-tax rates of return (the 

forecast error) should be independent of the current after-tax rate of return, which reflects only current 

information. 

This approach reduces the sample size in two ways. First, use of the two-year lead means that 

only the first three years of the data can he usal. S~i:onJ.only observations for which matches could 

I7 
be found in the following year of the sample could be used. As mentioned above, these restrictions 

reduced the sample sue to 7,118. 

There is some risk that the selection of subsidiaries dropped from the sample by these 

requirements was not random. For example, current income repatriation might depend on whether there 

are plans to sell a subsidiary in the future, and subsidiariessold within two years would be excluded from 

the sample. Subsidiaries that are being shut down might also be more or less likely to pay dividends, 

and a subsidiary shut down within two years would be excluded from the sample. If for these or other 

reasons the selection was significantly non-random, selection bias might be induced. 

To investigate whether there is any potential selection bias, column (3) of the table presents the 

results of estimating the basic model of column (2) using the restricted sample. Note that a higher 

percentage of the subsidiaries in the restricted sample pay dividends to their U.S. parent corporation. 

This is cbnsistent, for example. with dividend payments being lower before a subsidiary is sold or shut 

down. But note that based on Hausman tests on the individual coefficients of interest the regression 

results do not differ significantly from those obtained using the full sample. Thus, there are no signs of 

selection bias in the restricted sample. 

Column (4) of the tahle presents the results of the regression using the two-year lead after-tax rate 

of return as an instrument for the expected after-tax rate of ream. The coefficient on the after-tax rate 

of return increases, and the difference is significant has4 on a Hausman test. This coefficient implies 

that a higher expected after-tax rate of re" is asswiatal with greater retention of eamings, but not by 

as much as measured in the previous regressions. The w price coefficients are not significantly different 
fromthose in column @).I' These.results therefore provide no evidence that the permanent tax price 

coefficientsare biased by using the current instead of the expected future foreign after-tax rate of return. 

A second potential problem arises because even after controlling for differences in country 

average tax prices and the other regression variables using the instrumental variables approach the current 

tax price may still be correlated with the permanent tax price. This is because the permanent tax price 

may depend not only on cross-country differences in taxes, but also on the portfolio of subsidiaries held 

by the US. parent corporation, on the parent's U.S. operations, and on expectations about the future. 

This problem also could bias the tax price coefficients. It would tend to bias the transitory tax price 

coefficient toward the permanent tax price coefficient and bias the permanent tax price coefficient (Le., 

the estimated difference between the permanent and transitory tax price effects) toward zero. 

To determine whether this is a serious problem we estimated the model using the change in tax 

price between the current year and the two-year I d as an instrument for the transitory tax price. This 

approach was adopted because the change in the tax price is likely to be less correlated than the current 

tax price with the permanent tax price. The results of this estimation are presented in column (5)of the 

table. There is no significant change in any of the coefficients. they are simply estimated with somewhat 

less precision. Thus. there is no evidence that the tax price coefficients are biased from a correlation 

hetween the current and permanent tax prices. 

A third problem may exist because much of the variation in the country mean tax price comes 

from variations in effective cx)rpc)rue ux rates across countries. hut variations in foreign effective 

corporate tax rates may also affat foreign after-tax rata of re". As a result it may be difficult to 

separately identify the effects of variations in foreign effative tax rates as they affect repatriation through 

19 
their effect on the tax price of repatriation and as they affect repatriation through their effects on the 

foreign after-tax rate of re". For example, a higher foreign corporate tax rate will decrease the tax 

price of repatriation for the subsidiary of a U.S. corporation that is in excess limitation, but it will also, 

ceten's paribus, decrease the foreign after-tax rate of retum, thereby decreasing the incentive to defer 

repatriation of foreign income. Although the models we estimate attempt to avoid this problem by 

controlling separately for the foreign after-tax rate of re", the measure we use is imperfect and hence 

there is some possibility of misspecification biasing the tax price results. 

Our first approach to testing whether this is a significant problem is to use the country statutory 

dividend withholding tax rate in place of the country mean tax price as an instrument for the permanent 

component of the tax price. The statutory withholding tax rate is related to the tax price, but has no 

direct relation to the corporate tax rate. Column (6) of the table presents the results of this estimation, 

using the full sample again. Note that the permanent tax price coefficient changes very little from the 

basic model estimate in column (2). The difference is not statistically significant based on a Hausman 

test. This provides some evidence that there is no serious misspecification problem. 

The approach used to generate the results presented in column (6) may not provide a conclusive 

fix for the potential problem. because country statutory withholding tax rates are correlated with country 

corporate tax rates. To address this additional possible difficulty we remove the correlation from the 

withholding rate instrument. To do this we regress the withholding rate on the country mean average 

corporate tax rate and the country statutory tax rate and use the residual from this regression as an 

instrument for the permanent wmp~ncntof the tiu price In other words, we use as an instrument the 

part of the withholding tax rate thu is orthogonal IO the ctwntry mean tax rate and the statutory corporate 

tax rate. The results of this procedure are prnenrd in column (7) of the table. Here again the 

20 
coefficient on the permanent component of the tax price is not significantlydifferent, based on a Hausman 

test, from the coefficient obtained in the estimates of the basic model presented in column (2). 

VI. Conclusion 

The tax price effects on dividend repatriations found in previous studies using the simple model 

of dividend repatriations apparently measure largely the effect of the timing of dividend repatriations to 

take advantage of intertemporal variation in tax prices. These timing opportunities may arise either 

endogenously, through tax planning that affects both tax prices and dividend payments, or through 

exogenously caused variations in tax prices. Therefore, although repatriation taxes seem to affect 

dividend repatriation behavior. this is apparently only because tax prices vary over time. This result is 

consistent with the prediction of Hamnan's model. 

The results presented here should not he construed to imply that the "permanent" levels of host 

and home country taxation do not affect dividend repatriation by foreign subsidiaries. Host and home 

country corporate taxation will of course affec? the earnings reinvestment decision, and hence the dividend 

repatriation decision, through their impacv on host and home country after-tax rates of return. The 

evidence from our estimates merely implies that host and home country taxation do not affect repatriation 

through the permanent component of the repatriation tax. 

Our results may have policy implications. The most ohvious implications relate to policies on 

dividend withholding tax rates. For example. many capital-importing countries consider lowering 

withholding taxes, either unilaterally or in the umtext of hilateral tax treaty negotiations, to try to attract 

new equity investment. But some countries may he inhihirrrl hy the fear that such a measure would lead 

to increased flight of the accumulated multinational quity 'trapped" by existing high withholding taxes. 

21 
Our results suggest that, as long as the reduction in the withholding tax rate is viewed as permanent, such 

fears are unfounded. Permanent changes in dividend withholding tax rates appear likely mainly to attract 

new equity investment and not to encourage repatriation of equity accumulated from past earnings.” 

To the extent that these results support the Hartman model, they have implications regarding the 

incentive effects of the credit and deferral system that the United States uses to tax most foreign income 

of U.S. multinationals. In panicular, if the repatriation tax is irrelevant for the dividend repatriation 

decision, then, at least as regards retained earnings, the incentives for foreign investment are the same 

as they would be under a system that exempts foreign income from taxation. 

22 
REFERENCES 

Altshuler, Rosanne and Pa010 Fulghieri. 1990. "Incentive Effects of Foreign Tax Credits on 

Multinationals," Columbia University Working Paper #478. 

and T. Scott Newlon. 1993. "The Effects of US. Tax Policy on the Income 

Repatriation Patterns of U.S. Multinational Corporations," in A. Giovannini, G.Hubbard, and 

J. Sled, Studies in Intcnrarional Tarclrion. Chicago: University of Chicago Press,pp 77-1 15. 

Auerbach, Alan J. 1979. "Wealth Maximization and the Cost of Capital," Quunerly Journal of 

Economics, 93. 

Bradford, David. 1981. "The Incidence and Allocation Effects of a Tax on Corporate Distributions," 

Jod of Public Economics, XV. 

Burman, Leonard and William Randolph. 1993. 'Distinguishing Permanent from Transitory Effects of 

Capital Gains Tax Changes: New Evidence from Micro Data," forthcoming, American Economic 

Review. 

Goodspeed, Timothy and Daniel 1. Frisch. 1989. 'U.S. Tax Policy and the Overseas Activities of U.S. 

Multinational Corporations: A Quantitltive Assessment," manuscript, U.S. Treasury Office of 

Tax Analysis. 

Hartman, David. 1985. "TaxPolicy and Foreign Direct Investment," Journal of Public Economics, 26. 

Hines, James R. 1989. "Credit and Defend as International Investment Incentives," manuscript, 

Princeton University, August. 

and R. Glenn Hubbud. 1990. 'Coming Home to America: Dividend Repatriations by 

U.S. Multinationals," in A. Razin UWJ 1. Slemrod,ais., Twion in the Global Economy. 

Chicago: University of Chicago Press. pp. 161-198. 

King, Mewyn. 1977. Public Policy and the Grporarinn. London: Chapman and Hall. 

23 
. Leechor, Chad and Jack Minu. 1993. "On the Taxation of Multinational Corporate investment when 

the Deferral Method is used by the Capital Exporting Country," Journal of Public Economics, 

51. 

Mutti, John. 1981. "TaxIncentives and Repatriation Decisions of U.S. Multinational Corporations," 

Naionaf Tax Journal, 34. 

Newlon, T. Scott. 1987. "Tax Policy and the Multinational Firm's Financial Policy and Investment 

Decisions," Ph.D. Dissertation, Princeton University. 

Price Waterhouse. 1980, 1982, 1984, and 1986. Corporare Taxes: A WorldwideSummary. New York. 

Sinn, Hans Werner. 1990. "Taxation and the Birth of Foreign Subsidiaries," NBER Working Paper 

#3519. 

24 
ENDNOTES 

1. See King (1977), Auerbach (1979) and Bradford (1981). 

2. The term "normal" is used here to imply that there is some permanent, or long-run average, 

repatriation tax cost that the multinational faces. By "normal" tax cost we really mean expected future 

tax cost. 

3. The Subpart F provisions of the tax code provide for accrual basis taxation on certain foreign 

income. 

4, Note that this result does not imply that home and host country taxes have no effect on the 

repatriation'decision. They do have an impact due to their effect on home and host country after-tax rates 

of return, but not through the tax on repatriation. 

5. The rhythm method was a more useful tax planning device for US. multinationals prior to the 

Tax Reform Act of 1986. when the foreign tax credit was calculated year by year. The 1986 Act 

switched to a system in which the foreign tax credit is calculated based on the pool of previously 

unremitted foreign earnings and uncredited taxes. and, therefore, shifting the year inawhich tax credits 

and deductions are taken has much less effect on the foreign tax rate for U.S.foreign tax credit purposes. 

6. Although we focus on dividend payments, income may be remitted to parent companies in the 

form of interest, rents and royalty payments. Previous work by Altshuler and Newlon (1993) suggests 

that dividend payments are the most important channel for income remittances, making up over 60 

percent of the total foreign income derived by U.S. parents from their foreign subsidiaries in 1986. 

7. As mentioned above, for tax years beginning in 1987. the amount of foreign tax credit associated 

with a dividend payment is hasd on the accumulated value of earnings and profits. Although this 

changes the gross-up formula in the text. it is not relevant for our analysis since our data is taken from 

years prior to 1986. 

8. Congress hac restriaat crosscrediting by creating barkers of different types of foreign income 

to each of which a separate foreign tax credit limitation applies. Before the 1986 Act, the period which 

our study covers. there were five separate baskets: (1 ) one for investment interest income, (2) one for 

Domestic International Sales Corporation dividend income. (3) one for the foreign trade income of a 

Foreign Sales 'Corporation. (4) another for distributions from a Foreign Sales Corporation, and (5) one 

for all other foreign source inutme, which we will dI general limitation income. The 1986 Act 

decreased the potential for crosscrediting further by increasing the number of separate limitation baskets 

to nine. 

9. For simplicity we focvs our discusswn in this sdon on the derivation of the tax price of a 

dividend remittance from a foreign subsidiary operating in a country that uses a classical corporate tax 

system. In our empirical work we also take Jails of host country tax systems into account since our 

sample includes subsidiaries that oprzle in countries with split-rate and imputation systems. The 

derivation of the tax prices for thee types ot tax system.. are discussed in detail in Altshuler and Newlon 

(1993). 
10. We neglect here the cases,in which the parent corporation has tax losses, since, as in earlier 

papers by Hines and Hubbard (1990) and Altshuler and Newlon (1993), we include in our sample only 

those U.S.corporations with positive worldwide taxable income. They are excluded here for simplicity's 

sake, since the carryover rules for tax losses and foreign tax credits can interact in ways that may 

complicate the incentives for income repatriation of these firms. 

11. Altshuler and Newlon (1993) also use a measure of the "expected" tax price that attempts to take 

into account the fact that excess foreign tax credits can be carried back to several prior years or forward 

to several future years to offset taxes in those years. 

12. See Altshuler and Newlon (1993) for a description of the methodology. 

13. A Hausman test shows that this difference is statistically significant. 

14. The coefficient on the current tax price is just barely significantly different (T=2.0), but the 

significance is probably overstated since we have not adjusted the standard errors yet to account for 

instrumental variables estimation. 

15. If a reduction in withholding tax rates is perceived by multinational investors as a signal of more 

favorable and stable policies towards multinational investment it may in fact increase reinvestment of 

earnings. 

26 
Table 1: Country Averages, 1984 

Withdividends Mean, dev., holding 

/ assets 

W. Germany. 

JapanNorway.

U. KingdomAustria 

Sweden 

France 

Finland 

Italy 

Denmark 

Luxembourg 

Malaysia 

Peru 

Canada 

Belgium 

Singapore 

Costa Ria 

Netherlands 

New Zealand 

Colombia 

Australia 

SouthAfrica 

Guatemala 

Thailand 

Brazil 

Neth. Antilles 

Bahamas 

Ireland 

Portugal 

HongKong 

Philippines 

Bermuda 

Spain 

Venezuela 

Cayman Is. 

Mexico 

Chile 

Argentina 

Panama 

Taiwan 

Liberia 

GreeceAll subsidiaries 

3.9% -0.21 0.38 15% 

2.7% -0.15 0.48 10 

1.6% -0.1 1 0.19 15 

2.2% -0.10 0.38 5 

4.2% 0.02 0.41 6 

0.7% 0.03 0.34 5 

22% 0.03 0.34 '5 

42% 0.03 0.47 5 

2.4% 0.07 0.26 6 

1.8% 0.07 0.22 6 

1.O% 0.08 0.49 6 

2.6% 0.08 0.29 0 

3.4% 0.08 0.79 40 

3.7% 0.08 0.26 5 

2.3% 0.13 0.35 15 

5.1% 0.13 0.29 0 

4.8% 0.13 0.37 15 

2.7% 0.14 0.20 5 

2.3% 0.14 0.22 15 

4.9% 0.15 0.23 20 

2.2% 0.16 0.24 15 

3.9% 0.16 0.20 15 

3.9% 0.17 0.27 13 

4.7% 0.18 0.18 20 

4.0% 0.19 0.5 1 25 

1.O% 0.19 0.23 0 

3.4% 0.19 0.25 0 

3.6% 0.20 0.25 0 

0.9% 0.20 0.22 25 

4.9% 0.2 1 0.2 1 0 

1.7% 0.22 0.14 20 

3.5 % 0.23 0.23 0 

1.9% 0.23 0.14 18 

2.0% 0.24 0.18 20 

2.8% 0.24 0.23 0 

2.6% 0.25 0.43 55 

5.1% 0.25 0.20 30 

2.8% 0.25 0.29 18 

4.6% 0.26 0.23 io 

3.4% 0.27 0.35 35 

1.2% 0.2 0.15 15 

2- 0.38 0.28 47 

2.9% 0.08 0.34 11 

' Non-classical counvia 
1 

Table 2: Tobit Model Estimation Results 

(dependent variable: subsidiarydividends over assets; standard errors in parentheses) 

Partial sample matched 

RHS variables, Full sample with 2-year leads Full sample 

estimation details (1) 1 (2) (3) I (4) I (5) (6) I (7) 

Current (global) -0.046 -0.059 -0.066 -0.078 -0.070 -0.047 -0.049 

tax price (tp) (.0057) (.0062) (.0109) (.0114) (.020) (.0057) (.0058) 

Permanent ... 0.087 0.092 0.089 0.080 0.080 0.13 

tax prima (.016) (.0263) (.0265) (.031) (.076) (.038) 

Sum of tax price ... 0.027 0.027 0.010 0.010 0.033 0.078 

coefficientsb (.015) (.024) (.024) (.024) (.076) (.038) 

Subsidiary 0.58 0.55 0.49 0.80 0.80 0.55. 0.53 

earnings /assets (.016) (.016) (.027) (.OS) (.OS) (.032) (.021) 

Subsidiary 0.37 0.38 0.33 0.33 0.33 0.38 0.39 

age / 100 (.017) (.017) (.OB) (.OB)(.OB) (.022) (.018) 

Permanent IV 

(1) country mean tp X X X X 

(2) withholding rate X f 

Income IV 

2-year forward X X 

Transitory IV 

2-year change in tp X 

Intercept (1980) -0.29 -0.29 -0.24 -0.28 -0.28 -0.26 -0.2s 

(.0059) (.O060) (.0093) (.012) (.012) (.0051) (.0064: 

1982 Dummy 0.026 0.026 0.038 0.039 0.039 0.030 0.0% 

(.0051) (.0051) (.0071) (.0073) (.0073) (.0054) (.0051: 

1984 Dummy -0.029 -0.030 -0.0037 0.00075 0.00098 -0.030 -0.031 

("3) ("3) (.oOsS) (.ooss) (.0088) ("3) (.0054; 

1986 Dummy -0.012 -0.012 ... ... ... -0.012 -0.01:

(.as)(.as) (-0Ofw 

Observations 22,90(, 22,9Oh 7,118 7,118 7,118 22,906 22,W 

Paying dividends 28% a% 37% 37% 37% 28% 28% 

Notes: 

a Measures the differencebctwrccn effects ofchanges in permanent and transitory tax prices.

(transitory tax pria = current tax pna - pcmnent tax pmr) 

Measures the effect of permanent tax pria changes. holding the transitory tax price constant. 

Usespart of withholding rate onhogonal to the foreign statutory and country mean average tax rates.