TAXES AND THE DIVISION OF FOREIGN OPERATING INCOME AMONG ROYALTIES, INTEREST, DIVIDENDS AND RETAINED EARNINGS

How do taxes influence the way U.S. corporations divide foreign affili ate operating income among royalties, dividends, interest, and retaine d earnings? The paper goes beyond previous work that focused largely o n dividend repatriation behavior, and provides a comprehensive analysi s of the disposition of foreign subsidiary operating income. The empir ical results show that taxes have a large and statistically significan t effect on the composition of payments. Own tax prices discourage the payment of dividends, royalties and interest. But dividend and other repatriation taxes do not increase retained earnings, they only alter the composition of payments. The results are, therefore, consistent wi th a generalized Hartman-Sinn model of the mature controlled foreign c orporation that has various alternative repatriation vehicles. Finally , this paper integrates the choice of payments with income shifting am ong countries because the latter maybe part of a low-tax strategy for repatriations. In this general framework, conventional composite tax p rices are not appropriate because the response to a change in a compos ite tax price depends on which components changed. (C) 1998 Elsevier S cience S.A.