Part 1 - AL-Tax

Chapter 10information: (i) Beneficial strategic effects; (ii) Revenue sharing; (iii) Reputationeffects; (iv) Unrestricted tax setting.In the first case, set out in the key contribution of Bacchetta and Espinosa(1995), countries commit to tax information sharing prior to the noncooperativesetting of nonresident income tax rates. This mimics the important feature ofinternational tax negotiations, in which countries are more willing to agree on taxinformation-sharing treaties (which are long-term in nature) than on key taxincome tax rates and bases (which may be changed more easily). In such a setting,country A may benefit unilaterally by providing some information to country Bbecause it induces this country to set a higher nonresident income tax rate(reflecting the reduced threat of capital flight). In turn, country B’s responseallows country A to set a higher nonresident tax rate too. This beneficial strategiceffect, however, must be weighed against the direct effect of information provisionat unchanged tax rates. If the former is strong enough, however, countries maychoose to provide full information. As Keen and Ligthart (2006b) showed, largecountries always benefit. But for very small countries, the strategic tax rate effectof information sharing may not be large enough to compensate the informationprovidingcountry for the direct harm from its reduced attractiveness to foreigninvestors.A second reason for countries to be motivated to engage in information sharingis the presence of revenue-sharing schemes. As a carrot rather than a stick,some of the additional revenues collected as a consequence of information sharingcan be transferred from the residence to the source country to induce the latterto share information. Keen and Ligthart (2005, 2006b) analyzed the incentiveeffects of such transfers in a setting in which the tax authority can and cannot discriminatebetween residents and nonresidents. There is nothing inherent in theDiamond–Mirrlees (1971) efficiency argument for residence taxation thatrequires all collected revenue on cross-border investment to accrue to the residencecountry. Although the efficiency argument for such transfers is weak, thepositive distributional effects may have a useful role to play in inducing small,low-tax countries to participate in information-sharing agreements. In this way, itmay resolve the conflict of interest between small and large countries (as set outin Keen and Ligthart, 2006b). A practical problem with such revenue-sharingschemes is that the information-providing country does not know exactly – andhas no way to verify – how much additional revenue the residence country actuallycollects as a result of the information passed to it. Consequently, the residencecountry has an incentive to underreport the true amount in an attempt toreduce its transfers to the source country. This probably explains why the OECD247