Country Portfolio and Taxation: Evidence from Japan

Journal of Business Ethics (2020)Cite this article

Abstract

This study investigates the conditions under which host country portfolios are more likely to regularize corporate tax behavior. We use a sample comprising data on Japanese multinationals covering 2004 to 2014 to examine the relationship between foreign direct investment (FDI) host country portfolios and tax avoidance from the perspectives of investor protection and ethical standards. Our multivariate regression results show that the number of countries with strong investor protection/high ethical standards in the FDI host country portfolio is negatively related to tax avoidance. We also find that the effect of investor protection/ethical standards is less pronounced when the degree of indulgence is high. Further analyses show that the relationships we find are affected by disclosure requirements, local regulations, and accounting standards. These findings remain unchanged after several sensitivity checks. Overall, this study contributes to the business ethics literature by showing that FDI host country investor protection and ethical standards are external monitoring mechanisms for mitigating tax avoidance by multinationals.

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Notes

  1. 1.

    Stakeholder theory posits that corporate stakeholders are all groups who are affected by the corporation and who need to be considered and satisfied in order for the corporation to thrive in the long run (Freeman 1984).

  2. 2.

    See the article “SoftBank failed to report income of ¥93.9 billion from tax haven units, sources say” (https://www.japantimes.co.jp/news/2018/04/18/business/corporate-business/softbank-failed-report-income-%C2%A593-9-billion-tax-haven-units-sources-say/); see the article “Kyocera busted for tax evasion” (https://www.osot.com/kyocera/?doing_wp_cron=1585056923.2844939231872558593750); see the article “Denso hit by ¥1 billion in back taxes” (https://www.japantimes.co.jp/news/2010/07/02/business/denso-hit-by-1-billion-in-back-taxes/#.XnoQrXJUtlw).

  3. 3.

    See the article “Toshiba unit, Pagcor concessionaire face tax evasion raps” (https://news.abs-cbn.com/business/08/02/12/toshiba-unit-pagcor-concessionaire-face-tax-evasion-raps); see the article “Brazil charges 14 in local Mitsubishi carmaker tax avoidance case” (https://www.reuters.com/article/brazil-corruption-mitsubishi/brazil-charges-14-in-local-mitsubishi-carmaker-tax-avoidance-case-idUSL1N1FU2B4); see the article “How Japan's Marubeni stumbled in China after rapid expansion” (https://www.reuters.com/article/us-marubeni-china-insight/how-japans-marubeni-stumbled-in-china-after-rapid-expansion-idUSBREA4A0AQ20140511).

  4. 4.

    Following the Longman Business English Dictionary (Pearson Education 2007), we define investor protection as “actions to make sure that investors do not lose money if their investments are not repaid.”.

  5. 5.

    Following the Longman Business English Dictionary (Pearson Education 2007), we define ethical standards as “standards relating to principles of what is right and wrong.”.

  6. 6.

    An indulgent society pursues satisfaction relatively freely, provides weak control, and has less strict social norms (Hofstede et al. 2010).

  7. 7.

    Here, taxable income equals income tax expenses divided by the statutory corporate tax rate. The statutory corporate tax rate in Japan is 30% for 2003 to 2011 and 25.5% for 2012 to 2014.

  8. 8.

    We obtain country-level information on legal systems and degrees of development from the CIA Factbook and UNCTADstat, respectively.

  9. 9.

    We obtain firm-year-level host country information for Japanese multinationals from Toyo Keizai’s Overseas Japanese Companies database (“OJC database” hereafter).

  10. 10.

    The ETR is truncated to the range from 0 to 1.

  11. 11.

    For example, the mean values of long-run cash effective tax rates based on the U.S. setting, Malaysian setting, and Australian setting are 0.294 (Kubick et al. 2015), 0.221 (Salihu et al. 2015), and 0.171 (Taylor and Richardson 2012), respectively.

  12. 12.

    A higher level of disclosure requirements is defined as disclosure requirements that are higher than the upper quartile for all country observations. Disclosure requirements are estimated following La Porta et al. (2006).

  13. 13.

    The information on local audit regulators is obtained following Lamoreaux (2016).

  14. 14.

    The information on the adoption of IFRS by jurisdiction is obtained from the IFRS official website (https://www.ifrs.org/use-around-the-world/use-of-ifrs-standards-by-jurisdiction/).

  15. 15.

    The ETR2 is truncated to the range from 0 to 1.

  16. 16.

    Rule of law is estimated following La Porta et al. (1998).

  17. 17.

    The information on the corruption perceptions index is obtained from the Transparency International’s website (https://www.transparency.org/en/cpi).

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Acknowledgements

I sincerely appreciate the constructive comments from Steven Dellaportas (editor) and two anonymous JBE reviewers. I also thank Gia M. Chevis, Tetsuyuki Kagaya, Yoshinori Kawamura, Takuma Kochiyama, Koreyoshi Seki, Noriyuki Tsunogaya, Naoki Watanabel, and participants at the 10th Conference of Culture & Accounting Association, the 33rd Annual Conference of Japanese Association for International Accounting Studies, the 28th Asian-Pacific Conference on International Accounting Issues, and 2019 American Accounting Association Annual Meeting for helpful comments. This study was supported by the Grant-in-Aid for Early-Career Scientists, JSPS KAKENHI Grant Number JP19K13847.

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  1. Faculty of Business Sciences, University of Tsukuba, Tokyo, Japan

    Junjian Gu

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  1. Junjian Gu
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Appendices

Appendix 1

See Table 9.

Table 9 Definitions of variables
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Appendix 2

See Table 10.

Table 10 Descriptive information by FDI host country/jurisdiction
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Gu, J. Country Portfolio and Taxation: Evidence from Japan. J Bus Ethics (2020). https://doi.org/10.1007/s10551-020-04660-9

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Keywords

  • Tax avoidance
  • Japanese multinational
  • Investor protection
  • Ethical standard
  • Indulgence