Income shifting from high-tax to low-tax jurisdictions is considered a primary method of reducing worldwide tax burdens of multinational firms. Current losses also affect income shifting incentives. We extend prior approaches by explicitly considering unprofitable affiliates and test whether the association between losses and tax incentives for unprofitable affiliates deviates from the negative association observed in profitable affiliates. Results suggest that multinational firms alter the distribution of reported profits to take advantage of losses. Our point estimate for profitable affiliates implies that an increase of one standard deviation in the tax incentive, C, of an affiliate with an average return on assets of 13.3 is associated with a lower return on assets of 0.5 percentage points. The same change in tax incentive of an unprofitable affiliate is associated with an increase in its return on assets of approximately 0.7 percentage points, holding assets, labor, productivity, and other factors constant. We further document a larger responsiveness to tax incentives between profitable and unprofitable affiliates in high-tax jurisdictions, consistent with predictions.

Using a survey of tax executives from multinational corporations, we document that some firms set their transfer pricing strategy to minimize tax payments, but more firms focus on tax compliance. We estimate that a firm focusing on minimizing taxes has a GAAP effective tax rate that is 6.6 percentage points lower and generates about $43 million more in tax savings, on average, than a firm focusing on tax compliance. Available COMPUSTAT data on sample firms confirm our survey‐based inferences. We also find that transfer pricing‐related tax savings are greater when higher foreign income, tax haven use, and R&D activities are combined with a tax minimization strategy. Finally, compliance‐focused firms report lower FIN 48 tax reserves than tax‐minimizing firms, consistent with the former group using less uncertain transfer pricing arrangements. Collectively, our study provides direct evidence that multinational firms have differing internal priorities for transfer pricing, and that these differences are strongly related to the taxes reported by these firms.