Outward FDI, Profit Shifting, and Its Impact on the Tax Payments of the Parent Firm: A Case of Indian Manufacturing Firms

Abstract

The study examines the links between India’s outward foreign direct investment (OFDI) and possible income-shifting activities by the parent firms. The exercise is undertaken by examining the impact of OFDI on parent firms’ tax payments, profitability, debt, and intangible assets. The study is driven by the observation that nearly 68% of India’s OFDI flows between 2008 and 2020 were directed to offshore financial centers (OFC). The study relies on the Reserve Bank of India’s (RBI) firm-level overseas direct investment data and the Prowess database. We employed the propensity score matching (PSM) technique in combination with the difference-in-difference method to investigate the post-investment effects. Results suggest that overseas investments have resulted in lower payment of corporate taxes, as well as indirect and direct taxes at home. Moderate negative effects were observed in the case of the profitability of the parent firm. On the contrary, OFDI resulted in higher debt levels, particularly for firms investing in OFC destinations. A positive impact on the firm’s intangible assets suggests that income shifting via relocation of intangible assets is not evident. The analysis calls for policies to counter the possible tax leakage at home due to firms investing overseas, especially in OFCs. JEL Classification F23, C14