Regulating international debt shifting : a comparison of new Norwegian regulation with traditional thin-capitalization rules

Abstract

Tax planning behavior, where debt is used to minimize the tax payments, has received considerable attention in Norway recently. To limit such tax planning behavior, several of Norway’s largest trading partners have implemented rules to prevent thin-capitalization. This theoretical thesis presents the general design of the new Norwegian earnings-stripping rules as well as the main features of traditional thin-capitalization rules. The predictions from the theoretical modeling show that the new earnings-stripping rules may restrict excessive use of debt. However, the legal and theoretical review also suggests that the rules contain weaknesses that hamper the effectiveness. The weaknesses are primarily that companies can make structural changes to avoid that interest expenses will be denied deductibility. These structural adaptations involve splitting up assets, substitution between internal and external debt, and creating organizational structure that makes it possible to have a higher debt ratio. Briefly reviewing empirical papers provides evidence that the shortcomings found during the theoretical analysis may limit the effectiveness of the new Norwegian rules.