Can formula apportionment really prevent multinational enterprises from profit shifting? The role of asset valuation, intragroup debt, and leases


The European Commission has been supporting a transition from a system of separate accounting to formula apportionment. After its 2011 draft directive was rejected by the Council, the Commission presented two new draft directives in October 2016, one stipulating rules for a common tax base and another the terms for consolidation and apportionment. The aspired system of unitary taxation is considered more resistant to profit shifting and assumed to reduce compliance costs. However, there are also doubts about the extent, to which such a system will eradicate tax-planning activities of MNEs. Other concerns have arisen about the practical issue of enforcing uniform rules for asset valuation throughout the member states. We use a dynamic model of tax accounting based on neoclassical investment theory and effective tax rates to determine to what extent formula apportionment mitigates the efficiency of typical profit-shifting strategies. We focus on the roles of transfer pricing and intragroup debt financing (through loans and leases) under both separate accounting and formula apportionment. We also take into account a possible leeway for inconsistent valuation. Our results show that instead of eliminating tax planning strategies, the proposed system might simply induce a shift from manipulating reported profits to influencing the apportionment key. Inside the European Union, the CCCTB may be able to render thin capitalisation rules and transfer pricing documentation redundant. However, formula apportionment invites for new forms of tax planning. It is therefore essential to give credit to these new kinds of tax incentives when implementing a system of unitary taxation.

This is a preview of subscription content, access via your institution.

Fig. 1
Fig. 2
Fig. 3
Fig. 4
Fig. 5
Fig. 6
Fig. 7
Fig. 8


  1. 1.

    In this case, transfer prices differ from prices set according to the ‘arm’s length principle’.

  2. 2.

    See, e.g., Egger and Eggert et al. (2010), who empirically examine the influence of taxes on debt financing in MNEs, pp. 97, 104. See also Mintz and Smart (2004).

  3. 3.

    EC (2011, p. 4).

  4. 4.

    EC (2011, 2016a).

  5. 5.

    UT is already implemented in the US and Canada, See, e.g., Weiner (1999), Stetter and Spengel (2006), and Mintz and Smart (2004).

  6. 6.

    EC (2016b).

  7. 7.

    EC (2016a).

  8. 8.

    The previous solely optional approach was criticised since it might allow for further tax planning strategies. See, e.g., Mintz (2004, p. 231); Oestreicher and Koch (2011). Consequently, European Parliament has voted for the CCCTB to be compulsory. See European Parliament (2012). This opinion was adopted by the EC.

  9. 9.

    For an examination of tax planning via strategic (non)consolidation, see Buettner et al. (2011).

  10. 10.

    EC (2011, p. 4).

  11. 11.

    See, e.g., Devereux (2004, p. 83), EC (2006, p. 3), Mintz (2004, p. 221).

  12. 12.

    See, e.g., Riedel and Runkel (2007), who show that a UT system with a water’s edge may lead to less profit shifting to tax havens compared to an ST system. According to Mintz and Weiner (2003, p. 698), shifting profits is more difficult under UT. Hines (2010, p. 117), mentions ‘the undeniable appeal of reducing certain opportunities of tax-motivated international income reallocation’ even though he is very sceptical towards UT.

  13. 13.

    EC (2011, p. 5).

  14. 14.

    EC (2016a, p. 10).

  15. 15.

    See e.g. Shackelford and Slemrod (1998), Devereux and Loretz (2008), Hines (2010), Spengel and Oestreicher (2011).

  16. 16.

    See Eichfelder et al. (2015, p. 1), based on data of the German Trade Tax (“Gewerbesteuer”).

  17. 17.

    Note that instead of ETRs, Kiesewetter and Mugler (2007) use after-tax NPVs. The two approaches are compatible. Dietrich and Kiesewetter (2011), in contrast, do not allow for any discretion in asset valuation for tax purposes and focus on simultaneous investment and finance decisions comparing different forms of debt-finance with related parties which may or may not be relevant for the allocation formula.

  18. 18.

    See Fuest et al. (2007), Devereux and Loretz (2008), and Oestreicher and Koch (2011).

  19. 19.

    Based on quasi-empirical estimations, Hines (2010) strongly criticises the explanatory power of the proposed apportionment formula. Anand and Sansing (2000) show that single jurisdictions have incentives to deviate from a harmonized formula to increase their welfare. See also Oestreicher and Koch (2011, pp. 83, ff) for a discussion. Ortmann and Sureth-Sloane (2016) investigate the effects, that arise from possibilities of cross-border loss-offset under UT.

  20. 20.

    See Nielsen et al. (2010, p. 122). Roggeman et al. (2013) argue, that more equal weights could distribute the tax base more equally.

  21. 21.

    See, e.g., Pethig and Wagener (2007) and Anand and Sansing (2000) for the tax competition implications of different allocation factors.

  22. 22.

    See, e.g., Sørensen (2004, p. 96), and Wellisch (2004, p. 37), who also note that such a formula would have far-reaching consequences for the nature of tax competition in the EU.

  23. 23.

    This approach is similar to the ‘Massachusetts formula’ applied in most US federal states for UT; see, e.g., Anand and Sansing (2000). In Canada, however, only sales and payroll are used in the formula, see, e.g., Mintz (2004, p. 223), Mintz and Smart (2004, p. 1150), and Stetter and Spengel (2006).

  24. 24.

    For a detailed discussion of the components of the apportionment formula as well as their ‘architecture’, see, e.g., EC (2007).

  25. 25.

    Gordon and Wilson (1986, p. 1357); McLure (1980).

  26. 26.

    The EC plans to implement a harmonized formula. For welfare effects caused by a non-harmonized formula, see Anand and Sansing (2000).

  27. 27.

    See Nielsen et al. (2003, pp. 429 and 435).

  28. 28.

    See Hellerstein and McLure (2004, p. 214), Lodin and Gammie (2001, p. 49) and Sørensen (2004, p. 97). Remember that UT is intended to abolish problems and costs arising from TP documentation.

  29. 29.

    See Wellisch (2004, p. 36).

  30. 30.

    See Sørensen (2004, pp. 95 f).

  31. 31.

    See Weiner (2005, p. 53).

  32. 32.

    See Weiner (1999, pp. 13–15), Eichfelder et al. (2015, p. 16 f).

  33. 33.

    See Eberhartinger and Petutschnig (2015).

  34. 34.

    See Bettendorf et al (2009, p. 8), Mintz and Weiner (2003, p. 700).

  35. 35.

    EC (2007, p. 2).

  36. 36.

    For a similar approach, see, e.g., Mintz and Smart (2004).

  37. 37.

    Other allocation factors may also be vulnerable to manipulation, as empirical studies have shown. See, e.g., Klassen and Shackelford (1998, pp. 400, 404), for empirical evidence of sales apportionment factor management under UT. See also Riedel (2010, pp. 238, 250, 257, f), for evidence of payroll formula distortion.

  38. 38.

    ETRs were first introduced by King and Fullerton (1984).

  39. 39.

    See EC (2001 and 2003).

  40. 40.

    See Schreiber et al. (2002, p. 3).

  41. 41.

    Alternatively, the return or the future value might be used as objective values.

  42. 42.

    Knirsch (2002, p. 17).

  43. 43.

    Ruf (2011).

  44. 44.

    See Devereux and Griffith (1998, pp. 353, 362).

  45. 45.

    See Ruf (2002, 2011).

  46. 46.

    See Knirsch (2002, p. 5).

  47. 47.

    See EC (2016b, p. 16).

  48. 48.

    See Council of the European Union (2011), ‘Parent-Subsidiary Directive’, or Art. 8 d) of the Draft Council Directive on a CTB of 2016.

  49. 49.

    An existing investment portfolio besides the project and its location would affect ETRs under UT and therefore would make it more difficult to interpret our results.

  50. 50.

    Although the assumption may irritate due to the uniform rate of return, it allows to separate tax effects from real economic effects.

  51. 51.

    This assumption indicates that the investment thoroughly consists of depreciable capital. Therefore, the results hold particularly true for high firm-specific capital intensity; see Oestreicher et al. (2009, p. 64).

  52. 52.

    See, e.g., Corbett and Jenkinson (1997) for the empirical relevance of finance by retained earnings.

  53. 53.

    Such room for discretion may result from ambiguity in legal texts or differences in their interpretation among Member States. Additionally, Art. 39 of the 2016 Draft Directive on a CCTB allows for ‘exceptional depreciation’, which may also be subject to some discretion of management.

  54. 54.

    Mintz and Weiner (2003, p. 702 f), claim that countries wish to offer tax incentives, which will be hampered under UT. The possibilities to offer tax incentives could increase under UT, as common depreciation rates are expected to broaden the tax bases on average [for broadening tax bases, see Spengel and Oestreicher (2011)].

  55. 55.

    EC (2016b), recital 19, p. 16 f.

  56. 56.

    Lamotte (2012, p. 277). For further doubts (here regarding a uniform interpretation of anti-abuse rules), see Panayi (2012, p. 258).

  57. 57.

    A heterogeneity of tax laws under FA can be also observed in the United States. Gupta and Mills (2002) show implications for tax planning opportunities.

  58. 58.

    The use of only tangible assets as the apportionment factor is stipulated by Art. 34, EC (2016a) and matches the US approach; see Weiner (2002, p. 526).

  59. 59.

    Note that we do not include a cost function for TP, as in, e.g., Nielsen et al. (2010).

  60. 60.

    Discriminatory taxation of dividends on equity capital compared to interest on debt capital is a common element of most Member States’ tax codes. (The ‘Notional Interest Deduction’ in the Belgian CIT is an exception.) Therefore, the ETR of an indebted firm can be below the STR even in a single country setting. Yet, the objective of UT is not to solve this problem (Devereux 2004, p. 83); thus, financial transactions between an MNE and its owners are ignored in this paper. We focus instead on financial transactions within the consolidated MNE. For tax planning via lending and borrowing, see also Mintz and Smart (2004). Note that Art. 11 of the EC (2016b) proposal offers limited allowance for corporate equity (‘Allowance for growth and investment’), that may reduce some of those additional distortive effects.

  61. 61.

    Mintz and Smart (2004, p. 1152 f).

  62. 62.

    Limitations to deductibility such as thin-cap rules or, e.g., the German ‘business income tax’ are neglected.

  63. 63.

    If the leasing object is accounted for in both countries (‘double-dip lease’), the possibility for the MNE to reduce its tax burden is evident; hence, this case will not be examined [see, e.g., Mehta (2005, p. 95 f)].

  64. 64.

    Such a condition could e.g. be met in cases investments carried out within the EU by non-consolidated MNEs from third countries.

  65. 65.

    Art. 35 no. 2 of EC (2016a) states that with respect to the allocation of assets, ‘except in the case of leases between group members, leased assets shall be included in the asset factor of the group member which is the lessor or the lessee of the asset. The same shall apply to rented assets’. It is not clear from this sentence or from Art. 36, no. 4, whether and how an intragroup lease should be taken into account. Note that in an older publication, the recommendation was to assign the leasing object to only one group member in case of intragroup leases; only for leases with third parties is an assignment to both possible (EC 2007, p. 11).

  66. 66.

    Taxation of profit distribution is irrelevant for the scenario of an investment financed by retained earnings used here: as can be seen in Eq. (4), all NPVs are cut proportionally by the factor \((1 - \tau^{D} )\).

  67. 67.

    However, specific national depreciation allowances may persist in the states. Alternatively, one could imagine an MNE with two very different activities in state F and state H that require completely different assets.

  68. 68.

    This assumption corresponds to the declared intention of the proposal for a CCCTB, EC (2016a). As we have argued above, we have doubts about the viability of such an assumption.

  69. 69.

    Whether the timing and tax rate effects act in concert depends on the specific constellation of input variables that are used for the calculations.

  70. 70.

    The EC tries to prevent a large-scale allocation by implementing provisions like Art. 22 Draft Council Directive on a CCCTB, EC (2016a).

  71. 71.

    EC (2007, pp. 11, 16).

  72. 72.

    See Weiner (2005, p. 21).

  73. 73.

    See Art. 36 no. 4 Draft Council Directive on a CCCTB, EC (2016a).

  74. 74.

    See Riedel and Runkel (2007) for the water’s edge problem. Buettner et al. (2011) provide empirical evidence for strategic consolidation under UT using formula apportionment.


  1. Anand BN, Sansing R (2000) The weighting game: formula apportionment as an instrument of public policy. Natl Tax J 53(2):183–199

    Article  Google Scholar 

  2. Bettendorf L, van der Horst A, de Mooij R, Devereux M, Loretz S (2009) The economic effects of EU-reforms in corporate income tax systems. Study for the European Commission Directorate General for Taxation and Customs Union, contract no. TAXUD/2007/DE/324

  3. Buettner T, Riedel N, Runkel M (2011) Strategic consolidation under formula apportionment. Natl Tax J 64(2):225–254

    Article  Google Scholar 

  4. Corbett J, Jenkinson T (1997) How is investment financed? A study of Germany, Japan, the United Kingdom and the United States. Manch Sch 65:69–93

    Article  Google Scholar 

  5. Council of the European Union (2003) Council Directive 2003/49/EC of June 3, 2003 on a common system of taxation applicable to interest and royalty payments made between associated companies of different Member States. Official Journal of the European Union, 26/6/2003

  6. Council of the European Union (2011) Council directive 2,011/96/EU of November 30, 2011 on the common system of taxation applicable in the case of parent companies and subsidiaries of different Member States (recast). Official Journal of the European Union, 29/12/2011

  7. Devereux MP (2004) Debating proposed reforms of the taxation of corporate income in the European Union. Int Tax Public Financ 11(1):71–89

    Article  Google Scholar 

  8. Devereux MP, Griffith R (1998) Taxes and the location of production: evidence from a panel of US multinationals. J Public Econ 68(3):335–367

    Article  Google Scholar 

  9. Devereux MP, Griffith R (2003) Evaluating tax policy for location decisions. Int Tax Public Financ 10(2):107–126

    Article  Google Scholar 

  10. Devereux MP, Loretz S (2008) The effects of EU formula apportionment on Corporate Tax Revenues. Fiscal Stud 29(1):1–33

    Article  Google Scholar 

  11. Dietrich M, Kiesewetter D (2011) Simultane Investitions- und Finanzierungsentscheidungen einer multinationalen Unternehmung bei Anwendung des Einheitsprinzips. Betriebswirtschaftliche Forschung Praxis 2011:101–117

    Google Scholar 

  12. Eberhartinger E, Petutschnig M (2015) CCCTB—the employment factor game. Eur J Law Econ 2015:1–26

    Google Scholar 

  13. Egger P, Eggert W, Keuschnigg C, Winner H (2010) Corporate taxation, debt financing and foreign-plant ownership. Eur Econ Rev 54(1):96–107

    Article  Google Scholar 

  14. Eichfelder S, Hechtner F, Hundsdoerfer J (2015) Formula apportionment: factor allocation and tax avoidance. Quantitative research in taxation (arqus) discussion paper, 199

  15. European Commission (2001) Towards an internal market without tax obstacles: a strategy for providing companies with a consolidated corporate tax base for their EU-wide activities.

  16. European Commission (2003) An internal market without company tax obstacles achievements, ongoing initiatives and remaining challenges.

  17. European Commission (2006) Implementing the Community Lisbon program: progress to date and next steps towards a Common Consolidated Corporate tax base (CCCTB).

  18. European Commission (2007) Common Consolidated Corporate Tax Base Working Group (CCCTBWG)—CCCTB: possible elements of the sharing mechanism.

  19. European Commission (2011) Proposal for a Council Directive on a Common Consolidated Corporate Tax Base (CCCTB).

  20. European Commission (2016a) Proposal for a Council Directive on a Common Consolidated Corporate Tax Base (CCCTB).

  21. European Commission (2016b) Proposal for a Council Directive on a Common Corporate Tax Base.

  22. European Parliament (2012) Corporate taxation: parliament pushes for a compulsory common base (press release).

  23. Fuest C, Hemmelgarn T, Ramb F (2007) How would the introduction of an EU-wide formula apportionment affect the distribution and size of the corporate tax base? An analysis based on German multinationals. Int Tax Public Financ 14(5):605–626

    Article  Google Scholar 

  24. Gordon R, Wilson JD (1986) An examination of multijurisdictional corporate income taxation under formula apportionment. Econometrica 54(6):1357–1373

    Article  Google Scholar 

  25. Gupta S, Mills L (2002) Corporate multistate tax planning: benefits of multiple jurisdictions. J Acc Econ 33:117–139

    Article  Google Scholar 

  26. Hellerstein W, McLure CE (2004) The European Commission’s report on Company income taxation: what the EU Can learn from the experience of the US States. Int Tax Public Financ 11(2):199–220

    Article  Google Scholar 

  27. Hines JR (2010) Income misattribution under formula apportionment. Eur Econ Rev 54(1):108–120

    Article  Google Scholar 

  28. Jorgenson DW (1963) Capital theory and investment behavior. Am Econ Rev 53(2):247–259

    Google Scholar 

  29. Jorgenson DW (1967) The theory of investment behavior. In: R Ferber (ed) Determinants of investment behavior, pp 129–188.

  30. Kiesewetter D, Mugler J (2007) Gewinnverlagerung im EU-Konzern bei Besteuerung nach dem Trennungs- und nach dem Einheitsprinzip. Bus Adm Rev 67(5):503–518

    Google Scholar 

  31. King MA, Fullerton D (1984) The taxation of income from capital: a comparative study of the U.S., U.K., Sweden and West Germany. University of Chicago Press, Chicago

    Google Scholar 

  32. Klassen KJ, Shackelford DA (1998) State and provincial corporate tax planning: income shifting and sales apportionment factor management. J Acc Econ 25(3):385–406

    Article  Google Scholar 

  33. Knirsch D (2002) Neutrality-based effective tax rates. Tübinger Diskussionsbeiträge, no 249.

  34. Lamotte J (2012) New EU tax challenges and opportunities in a (C)CCTB world: overview of the EU Commission proposal for a draft directive for a common consolidated corporate tax base. Eur Tax 52(6):271–279

    Google Scholar 

  35. Lodin SO, Gammie M (2001) Home state taxation: tax treaty aspects. International Bureau of Fiscal Documentation, Amsterdam

    Google Scholar 

  36. McLure CE Jr. (1980) The state corporate income tax: lambs in wolves’ clothing. In: Aaron HJ, Boskin MJ (eds) The economics of taxation. Brookings Institution, Washington

    Google Scholar 

  37. Mehta A (2005) International taxation of cross-border leasing income. International Bureau of Fiscal Documentation, Amsterdam

    Google Scholar 

  38. Mintz J (2004) Corporate tax harmonization in Europe: it’s all about compliance. Int Tax Public Financ 11(2):221–234

    Article  Google Scholar 

  39. Mintz J, Smart M (2004) Income shifting, investment, and tax competition: Theory and evidence from provincial taxation in Canada. J Public Econ 88(6):1149–1168

    Article  Google Scholar 

  40. Mintz J, Weiner JM (2003) Exploring formula allocation for the European Union. Int Tax Public Financ 10(6):695–711

    Article  Google Scholar 

  41. Nielsen SB, Raimondos-Møller P, Schjelderup G (2003) Formula apportionment and transfer pricing under oligopolistic competition. J Public Econ Theory 5(2):419–437

    Article  Google Scholar 

  42. Nielsen SB, Raimondos-Møller P, Schjelderup G (2010) Company taxation and tax spillovers: separate accounting versus formula apportionment. Eur Econ Rev 54(1):121–132

    Article  Google Scholar 

  43. Oestreicher A, Koch R (2011) The revenue consequences of using a common consolidated corporate tax base to determine taxable income in the EU member states. FinanzArchiv 67(1):64–102

    Article  Google Scholar 

  44. Oestreicher A, Reister T, Spengel C (2009) Common corporate tax base and effective tax burdens in the EU member states. World Tax J 1:46–66

    Google Scholar 

  45. Ortmann R, Sureth-Sloane C (2016) Can the CCCTB alleviate tax discrimination against loss-making European multinational groups? J Bus Econ 86:441–475

    Article  Google Scholar 

  46. Panayi C (2012) The anti-abuse rules of the CCCTB. Bull Int Tax 2012:256–269

    Google Scholar 

  47. Pethig R, Wagener A (2007) Profit tax competition and formula apportionment. Int Tax Public Financ 14(6):631–655

    Article  Google Scholar 

  48. Riedel N (2010) The downside of formula apportionment: evidence on factor demand distortions. Int Tax Public Financ 17(3):236–258

    Article  Google Scholar 

  49. Riedel N, Runkel M (2007) Company tax reform with a water’s edge. J Public Econ 91(7–8):1533–1554

    Article  Google Scholar 

  50. Roggeman A, Verleyen I, Van Cauwenberge P, Coppens C (2013) The EU apportionment formula: insights from a business case. J Bus Econ Manag 14(2):235–251

    Article  Google Scholar 

  51. Ruf M (2002) Extending king and Fullerton for measuring EATR. Working paper, University of Mannheim, pp 1–17

  52. Ruf M (2011) The economic unit of effective tax rates. World Tax J 3(2):226–246

    Google Scholar 

  53. Schreiber U, Spengel C, Lammersen L (2002) Measuring the impact of taxation on investment and financing decisions. Schmalenbach Bus Rev 54:2–23

    Article  Google Scholar 

  54. Shackelford D, Slemrod J (1998) The revenues consequences of using formula apportionment to calculate U.S. and foreign-source income: a firm-level analysis. Int Tax Public Financ 5:41–59

    Article  Google Scholar 

  55. Sørensen PB (2004) Company tax reform in the European Union. Int Tax Public Financ 11(1):91–115

    Article  Google Scholar 

  56. Spengel C, Oestreicher A (2011) Common corporate tax base in the EU: impact on the size of tax bases and effective tax burdens. Springer Verlag, Berlin

    Google Scholar 

  57. Stetter T, Spengel C (2006) Taxation of corporations in Canada: a comparison of tax burdens with the United States and selected member states of the European Union using the European Tax Analyzer—Part 1 & 2. Eur Tax 46(78): 307–316 & 364–374

  58. Weiner JM (1999) Using the experience in the U.S. States to evaluate issues in implementing formula apportionment at the International level. Office of tax analysis working paper 83

  59. Weiner JM (2002) Would introducing formula apportionment in the European Union be a dream come true or the EU’s worst nightmare? Ifo-Studien 48(4):519–532

    Google Scholar 

  60. Weiner JM (2005) Formulary apportionment and group taxation in the European Union: insights from the United States and Canada. European Commission taxation papers, working paper no. 8

  61. Wellisch D (2004) Taxation under formula apportionment—tax competition, tax incidence, and the choice of apportionment factors. FinanzArchiv 60(1):24–41

    Article  Google Scholar 

Download references

Author information



Corresponding author

Correspondence to Dirk Kiesewetter.

Ethics declarations

Conflict of interest

The authors have no conflicts of interest to declare.

Rights and permissions

Reprints and Permissions

About this article

Verify currency and authenticity via CrossMark

Cite this article

Kiesewetter, D., Steigenberger, T. & Stier, M. Can formula apportionment really prevent multinational enterprises from profit shifting? The role of asset valuation, intragroup debt, and leases. J Bus Econ 88, 1029–1060 (2018).

Download citation


  • Effective tax rate
  • Formula apportionment
  • Tax planning
  • Profit shifting
  • Debt financing
  • Leasing

JEL classification

  • H20
  • F21, 23
  • D21