Taxation and Foreign Direct Investment Dynamics

Taxation and foreign direct investment (FDI) are inextricably linked through a complex interplay of fiscal policy design, corporate decision-making and international regulatory frameworks. National governments deploy corporate tax rates, tax holidays, allowances and other incentives to shape the location decisions of multinational firms. Simultaneously, double taxation agreements and networks of bilateral treaties seek to mitigate the risk of taxing the same income twice, while mechanisms such as withholding taxes on interest and royalties influence the structure of cross-border capital flows. Beyond headline tax rates, the effective tax burden faced by investors emerges from a confluence of nominal rates, enforcement intensity, relief measures and loopholes. This complex landscape gives rise to profit-shifting strategies, treaty shopping and round-tripping of capital, which can distort official FDI statistics. Recent empirical work examines how these factors vary across regions and sectors, how they interact with macroeconomic variables and how unilateral treaty terminations or tax policy adjustments feed back into investor behaviour. A nuanced appreciation of these dynamics is essential for balancing competitiveness, revenue generation and economic stability.

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Taxation and Foreign Direct Investment Dynamics publication trend

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Technical terms

Double taxation agreement (DTA): Bilateral treaty allocating taxing rights to prevent the same income from being taxed in two jurisdictions.

Effective corporate tax rate: Ratio of total corporate tax paid to pre-tax profits, reflecting the true burden on a firm.

Withholding tax: Levy on cross-border payments of interest, dividends or royalties, deducted at source by the payer.

Profit shifting: Strategies by multinational enterprises to reallocate taxable profits to jurisdictions with lower tax rates.

Round-tripping FDI: Capital that exits a country only to return as foreign investment, often to exploit treaty benefits.

Tax incentives: Fiscal measures—such as holidays, allowances or credits—offered to reduce tax liability and attract investment.

References

1. Estimating Round‐Tripping FDI from Firm‐Level Data in China. International Studies of Economics (2024).
2. Tax Incentives and Foreign Direct Investment: Evidence from the Nigeria Listed Manufacturing Firms. Journal of Tax Reform (2024).
3. The impact of unilateral tax treaty terminations on FDI. World Economy (2024).