Internal Digitalization and Tax-efficient Decision Making

This paper investigates the effect of firms’ investment in digitalization on tax-induced incomeshifting. We put forward a novel, micro-level digitalization index based on a survey monitoringEuropean firms’ digital technology usage. Our index captures if firms have implemented up tothree key software solutions to digitally monitor and manage firm performance: Enterpriseresource planning (ERP) software, database management systems (DBMS) and groupwaresoftware. We show that digitalization boosts tax-induced income shifting. We find thatcommunication between firms via groupware software seems to be a key enabler of taxstrategies to shift income. We instrument for investment in digitalization to mitigate potentialendogeneity concerns. Further, we show that digitalized firms promptly adjust reported profitsin response to income shifting incentive shocks. Overall, our findings suggest that digitalizationis a crucial foundation for timely, data-driven decision making in tax departments ofmultinational corporations and increases support functions’ performance in terms of taxinducedincome shifting