Are Tax Avoidance Strategies Effective?

Tax Avoidance & Firm Growth

What follows in the next few pages is a review of whether there is a correlation between tax avoidance with corporations and firm growth. Indeed, looking at the literature reveals that the evidence is mixed but that the overall answer is a condition "yes," that there can indeed be a link between tax avoidance and firm growth. To explain the conditional nature of the answer garnered, one can look to the work of Desai, Foley and Hines (2006) when they assert that "firms with sizable foreign operations benefit the most from using tax havens, an effect that can be evaluated by using foreign economic growth rates as instruments for firm-level growth of foreign investment outside of tax havens" (Desai, Foley & Hines, 2006). They further state that "one percent greater sales and investment growth in nearby non-haven countries is associated with a 1.5 to 2% greater likelihood of establishing a tax haven operation" (Desai, Foley & Fritz, 2006). An alternating viewpoint offered by Desai and Dharmapala states that high levels of tax avoidance along with large book-tax gaps leads to subsequent "negative abnormal returns" on investment (Desai & Dharmapala, 2006).

The type of investments and business structures of a firm play a part in whether tax avoidance correlates to growth. For example, investors in certain types of real estate investment trusts (REIT's) are able to pay no corporate income taxes on those investments so long as a substantial majority of the profits are paid out to investors. This fact alone would correlate to higher growth than if the REIT tax write-off was not present (Fisher, 2002). In that same vein, many firms make use of investments and tax shelters that are tax at the lower capital gains rate rather than corporate income rates, thus an automatic net gain in profits and growth in many cases (O'Neill, 2012). A similar example that shows that at least some forms of tax avoidance and/or in certain types of firms would be tax loopholes for domestic production activities. Firms that make use of those loopholes often realize very promising corporate growth rates in terms of profits, employee headcount and overall revenues (Coy, 2012).

Another example, albeit limited, where a firm can grow itself and reduce its taxes at the same time is what Burger King was pilloried for trying to do in 2014. It was discussed that they would merge with a Canadian company thus making them a company incorporated in Canada rather than the United States. This, by itself, would grow the company (albeit by acquisition/merger) and reduce its taxes at the same time. This is due to the fact that American tax authorities tax income made both domestically and abroad and the Canadian system is more business-friendly (Schaefer, 2014). A company similar to Burger King that is making use of tax avoidance on a grand scale would be McDonald's. They channel a good amount of their franchise income through Luxembourg yet their overall corporate empire is flat or falling rather than growing (Sage & Ralph, 2014). Just as there are winners and losers in that regard, there is also the fact that the size, scope, type and form of the firm has a direct impact on whether tax avoidance leads to growth or is even worth the trouble to begin with. Indeed, many firms in Pennsylvania revealed mixed growth results even with the same tax loophole landscape for all of the firms in general (Scott, 2012). Beyond that, there can be a sapping of growth and profits for firms that are outed for using tax havens and loopholes. Meaning, any growth to be had from tax avoidance could be reduced or even wiped out by a loss in business due to bad public relations fallout (Gallemore, Maydew & Thornock, 2014). That being said, others assert that "well-governed firms" can use tax avoidance and shelters as a means to ensure corporate growth (Wilson, 2009).