Patent Concentration, Asymmetric Information, and Tax-Motivated Income Shifting

We study the relation between patent concentration and tax-motivated income shifting. Using affiliate-level data for European multinational corporations (MNCs) and employing the relative share of patents held by an MNC as a measure for patent concentration, we predict and find that tax-motivated income shifting is increasing in the degree of patent concentration. This effect is economically meaningful: A one standard deviation higher patent concentration increases the extent to which affiliate-level profits are sensitive to income-shifting incentives by 25.6 percent. Additional tests exploiting variation in the information set of the local tax authority suggest that patent concentration facilitates tax-motivated income shifting by reducing comparable information available to the local tax authority. Overall, our results suggest that patent concentration shapes an MNC’s incentives to shift income via patents. Our findings also indicate that the effectiveness of tax-policy measures in curtailing this form of income shifting critically depends on their ability to improve the information set of the local tax authority.