Professional Documents
Culture Documents
Malaysia
Malaysia
Research
2019 Vol. 6, No. 2, pp. 74-81
ISSN(e): 2312-6515
ISSN(p): 2313-0423
DOI: 10.18488/journal.74.2019.62.74.81
© 2019 Conscientia Beam. All Rights Reserved.
Fazliza Mohd
1
Inland Revenue Board Malaysia.
Kasim1
Tunku Puteri Intan Safinaz School of Accountancy, Universiti Utara
2
Natrah Saad2+ Malaysia; Tunku Puteri Intan Safinaz School of Accountancy, Universiti
Utara Malaysia, 06010 Sintok, Kedah, Malaysia.
(+ Corresponding author)
ABSTRACT
Article History Tax avoidance has been widely discussed around the globe, particularly among
Received: 15 April 2019 multinational corporations (MNCs). The MNCs are reported to have better
Revised: 21 May 2019
Accepted: 27 June 2019 opportunities to engage in aggressive tax planning techniques. Hence, this study
Published: 9 August 2019 examines the determinants of MNCs tax avoidance strategies by looking at their
effective tax rates (ETRs). This study utilized the tax return form data from the Inland
Keywords Revenue Board Malaysia (IRBM) to model ETRs of the MNCs in Malaysia, as a proxy
Corporate tax avoidance
Effective tax rate of the tax avoidance. Regression analysis was performed in order to meet the objectives
Multinational corporations of the study. The findings suggest that MNCs in Malaysia can be associated with the
Malaysia.
tax avoidance since their ETRs are below the statutory tax rates (STRs) as stipulated
JEL Classification: under the Income Tax Act 1967. The results also suggest that firm’s size, profitability,
H26 (Tax Evasion and extensiveness of foreign operation, capital intensity and leverage are the determinants
Avoidance); M41 (Accounting)
of the tax avoidance of MNCs in Malaysia. The findings would assist the policymakers
on the selection criteria of audit cases by focusing on MNCs with high profitability,
extensive foreign operation, capital intensity and high leverage.
1. INTRODUCTION
Multinational corporations (MNCs) are seen as having better opportunities to avoid income tax and therefore,
they are often associated with the tax avoidance activities. MNCs that engage in tax avoidance will employ
aggressive tax planning techniques such as exploiting any loopholes in the tax legislation to gain tax advantage
from the mismatch between the country’s tax rules in order to minimise their tax burden and subsequently, avoid
from paying their fair share of taxes (Economic Times, 2015). This is achieved by locating their business operations
in a lower tax jurisdictions, shifting income to low-tax jurisdictions, exploiting differences in the tax rules of
different countries and also, taking advantage of the tax incentives provided by host countries (Zimmerman, 1983).
Previous studies indicated that MNCs have greater chances to avoid taxes on the cross-border investments as
compared to strictly domestic investments and thus, resulting in the differences between the effective tax rates
(ETRs) of the MNCs and domestic-only companies (Abdul and Derashid, 2006; Markle and Shackelford, 2012).
Furthermore, the reports on the tax avoidance activities by the MNCs such as Google, Apple, Starbuck Coffee,
eBay and other highly reputable MNCs have triggered intense public discussions at the international level. Those
MNCs are reported to drastically reduce their tax burden on worldwide income by engaging tax avoidance method
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© 2019 Conscientia Beam. All Rights Reserved.
International Journal of Public Policy and Administration Research, 2019, 6(2): 74-81
that revolves around the shifting of income from a higher tax country to a lower or no tax country (Omer et al.,
1993). As a result, the issue has been brought up to the top of the international policy agenda particularly in the
G201 countries as well as the Organisation for Economic Co-operation and Development (OECD). The
governments of developed and developing countries are working together with the OECD to address the issues
under a project known as the Base Erosion Profit Shifting (BEPS).
Based on the above facts, it is crucial to investigate whether MNCs in Malaysia are also associated with the tax
avoidance activities. Hence, this study is undertaken to examine the level of tax avoidance of the MNCs and the
determining factors of such activities. It is important to note that tax avoidance, in this study, is identified by
examining the ETRs of the MNCs. The gap between the firm’s financial accounting and the taxable incomes
resulted from the tax avoidance activities is reflected in the firms’ ETRs as a proxy to the corporate tax avoidance
and the firm’s actual tax burden (Noor et al., 2010).
This study contributes to the existing literature in several ways. This study is hoped to contribute to the
existing literature on the corporate tax avoidance in Malaysia as well as to the other developing countries because
the studies on this issue are limited and largely conducted in developed countries such as in the U.S., United
Kingdom, and Australia.
Besides, this study utilises IRBM’s tax returns database to calculate the ETR as an empirical proxy for the tax
avoidance by utilizing the actual tax payable in order to provide a robust measure on the tax avoidance strategies as
compared to the measure used by re-grossing the current tax expense by the standard tax rate (STR); based on the
assumption that a firm’s current tax expense is the tax liability of the particular financial period. The assumption
may not true because there are differences between the current tax expense and the actual amount of the tax
liability owed to the tax authority as evidenced in the studies by Harris and Feeny (2000) and Lee et al. (2015).
Lastly, the study may enhance the understanding of the firm’s ETRs characteristics particularly on the effect of
those ETRs’ variables by focussing only on the MNCs in Malaysia.
1 G20 is an international forum that brings together the world's leading industrialized and emerging economies. The group accounts for 85 per cent of world GDP
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© 2019 Conscientia Beam. All Rights Reserved.
International Journal of Public Policy and Administration Research, 2019, 6(2): 74-81
of the tax laws (Rego, 2003). The MNCs are able to reduce their tax burden by taking advantages of the tax system
and increase their shareholder values through the earnings per share. Therefore, the MNCs are induced to
continuously avoid taxes which may implicate a lower tax collection of a particular country.
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© 2019 Conscientia Beam. All Rights Reserved.
International Journal of Public Policy and Administration Research, 2019, 6(2): 74-81
tax liabilities by utilising higher investment tax credits (ITC) as well as accelerated capital allowance thus reporting
lower ETRs (McGee and Stickney, 1982). However, there are studies that provide support on the inverse
relationship between ETR and capital intensity that reported firms with heavy capital concentration (highly
capitalised) pay higher income tax thus reported higher ETRs (Janssen and Buijink, 2000; Wang et al., 2014). This
suggests the following hypothesis as H4: There is a significant relationship between capital intensity and ETR.
Previous studies provide an evidence on the negative relationship between ETRs and the level of leverage due
to the treatment on the interest expense in reducing computing taxable income (McGee and Stickney, 1982). The
inverse relationship between leverage and ETR is because of the tax shield theory that was introduced in the study
by Modigliani and Miller (1963) as cited in the study by Zainol (2013). This is due to a tax deduction of having
higher interest tax shield of debt financing as highly leveraged companies have a higher interest tax shield which
consequently, reduces the ETR (Derashid and Zhang, 2003).
Therefore, it is expected that MNCs with higher levels of leverage will have higher engagements in the tax
avoidance activities and will report lower ETRs. This suggests the following hypothesis stated as H5: There is a
significant negative relationship between leverage and ETR.
3. METHODOLOGY
For the purpose of this study, 1,187 MNCs which are categorized as high risk (in respect of transfer pricing
issues) were selected. In line with the sample selection procedure, data are filtered by only accepting ETR in
between 100% and -100% (-100% < ETR < 100%). The final sample comprises of 830 tax entity observations is
summarised in Table 1. Each sample of tax entity, the following information is extracted and computed: tax
payable, total sales, total assets, pre-tax income, debt, equity, fixed assets, foreign sales or purchases, ETR, firm’s
size, profitability, leverage, capital intensity, and foreign activity.
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© 2019 Conscientia Beam. All Rights Reserved.
International Journal of Public Policy and Administration Research, 2019, 6(2): 74-81
Therefore, this finding provides the answer for the first research objective and thus, provides support on the
existence of tax avoidance activities among MNCs in Malaysia.
The results of the regression analysis are presented in Table 4. The adjusted R2 value of 0.217 indicates that
21.7% of the variation in ETR can be explained by the independent variables. The magnitude of the impact of the
independent variables is within the range of the results reported in the previous studies, for example the adjusted R 2
value within the range of 13.1% to 16.1% in Adhikari et al. (2006) and 11.1% to 16.3% in Needham (2013). However,
there are studies that report better results for example the value of adjusted R2 more than 40% in Noor and Matsuki
(2009).
The findings from the regression analysis reveal that all five variables are significantly associated with tax
avoidance activity. In particular, the results support H1, H2, H3, H4 and H5: firm’s size (0.029), profitability (-0.079),
foreign operation (-0.061), capital intensity (0.005) and leverage (-.156) as factors influencing the corporate tax
avoidance.
A positive relationship between firm’s size and ETR denotes larger MNCs pay higher taxes and thus, less
associated with the tax avoidance activity. The relationship is consistent with prior researches, thus concludes
larger MNCs face political costs which increase their ETRs. The finding supports the political cost theory where
the larger companies are supervised and controlled by the government and the public so that the large companies
pay more taxes (Zimmerman, 1983; Omer et al., 1993; Noor et al., 2010; Kraft, 2014).
Meanwhile, a negative relationship between profitability and ETR denotes that highly profitable MNCs will
pay lesser taxes and thus, have lower ETRs. Therefore, the study supports the tax shield or tax strategies theory in
which highly profitable companies have more incentives and resources to engage in tax avoidance strategies and
reports lower ETR. The results supports the assertation that the MNCs have lower ETR by utilizing tax
deductions and credits efficiently as compared to less profitable firms, resulting in greater book-tax differences
(Manzon and Plesko, 2002; Rego, 2003; Zainol, 2013; Kraft, 2014). In addition, MNCs in Malaysia have the
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© 2019 Conscientia Beam. All Rights Reserved.
International Journal of Public Policy and Administration Research, 2019, 6(2): 74-81
opportunities to reduce their tax burden with a wide range of incentives thus able to engage with effective tax
planning. This is because MNCs with greater pre-tax income have more incentives and resources to engage in
effective tax planning to reduce their tax liabilities which will result in lower ETRs. Besides, profitable MNCs are
able to utilise efficiently tax deductions such as the double deductions in terms of research and development
expenditure, promotion of export, brand promotion activity, freight charges and employee training programs as
well as tax credits and exemptions, as compared to less profitable companies.
Similarly, a negative relationship between foreign operation and ETR also implies that MNCs with higher ratio
of foreign operation in terms of sales, purchases or other payment to (from) foreign affiliates will have lower tax
burden and thus report lower ETRs. The finding is consistent with the previous studies, for example the studies by
Harris and Feeny (2000); Kraft (2014) and Rego (2003). MNCs with extensive foreign operations are able to reduce
their tax burden through tax planning activities because they have better economies of scale and scope to tax
planning that is by exploiting the differences in the tax rules of different countries as well as taking advantage of
the tax incentives provided by host countries. The MNCs have better opportunities to engage in the tax avoidance
activities are due to their nature of business operations which involve cross-border transactions. Besides, MNCs
with extensive foreign activities have higher risks associated with the tax avoidance in transfer pricing.
A positive relationship between ETR and capital intensity denotes that highly capital intensive MNCs face
higher ETRs which means the MNCs in Malaysia do not utilise tax saving gained from the write-off cost of
tangible assets over periods much shorter than their economic lives. This result is consistent with the findings in
Janssen and Buijink (2000); Kraft (2014) and Wang et al. (2014).
Also, the result provides strong evidence that leverage has negative relationship with the tax avoidance. The
result is consistent with previous studies for example Noor et al. (2008); Noor and Matsuki (2009) and Zainol
(2013). The finding also supports the assertion on the tax avoidance activities of the MNCs by utilising thin
capitalisation. Moreover, the result suggests MNCs with higher leverage ratio are associated with the tax avoidance
activity because they gain benefit from tax deduction of having higher interest tax shield of debt financing. Thus,
highly leveraged MNCs have higher interest tax shield which reduces the ETR. Tax avoidance activity involves
interest tax shield is a concern by many tax jurisdictions as most countries have introduced thin capitalisation rules
to curb tax avoidance activities involving interest deductions and other financial payments.
5. CONCLUSIONS
This study provides evidence on the existence of the corporate tax avoidance among the MNCs in Malaysia by
examining their ETRs. Besides, this study also reveals that firm size, profitability, foreign operation, capital
intensity and leverage are significant factors influencing the corporate tax avoidance of the MNCs. The findings
would provide a valuable insight and empirical evidence for the Malaysian tax authority, the IRBM in addressing
the issue of aggressive tax planning among the MNCs.
The selection criteria of audit cases by the tax authority can be based on the level of ETRs as suggested in the
study. Currently, the tax authority does not select highly profitable companies for audit because the selection
criteria are usually for companies which report profit below the industry average. Therefore, as suggested in this
study, high profitability should be also be considered as a criteria besides ETR, in a risk assessment for case
selection particularly for MNCs that enjoy variety of tax incentives.
On the other hand, the IRBM should not solely rely on the tax return database submitted by the MNCs but can
further intensity the enforcement activities by focusing on MNCs which have lower ETRs. Moreover, the tax
enforcement can be implemented efficiently by using analytics as described in this study which could reduce the
administrative and compliance costs of the tax authority.
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© 2019 Conscientia Beam. All Rights Reserved.
International Journal of Public Policy and Administration Research, 2019, 6(2): 74-81
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