Asosiasi Fakultas Ekonomi & Bisnis Indonesia
Tax Incen)ves
Hotel Grand Hya-, Nusa Dua - Bali
10-11 December 2015
Presented by:
Michael Keen
Fiscal Affairs Department, IMF
Context
• “How to…rapidly increase revenues while
maintaining a welcoming investment climate?”
• Professional consensus has been against incenOves
—but increasingly common!
– 1980: less than 40% of LICs in sub-Saharan Africa offered
tax holidays , none had free zones
– 2005: over 80% offered tax holidays and 50% FZs
• Recent report from IOs to G20 Development
Working Group on “OpOons for low income
countries’ effecOve and efficient use of tax
incenOves for investment”
Scope (of the paper and this talk)
• An ‘incenOve’ is a departure, favorable to the
taxpayer, from the general tax rules
– Many forms and objecOves
• Focus on those related to investment—and within
that, on business income taxes
– Though VAT, tariff and PIT incenOves can be important
• And only on naOonal level incenOves
Prevalence
IncenOves are widespread
Countries
Tax holiday/
Reduced
Investment
R&D Tax
Super-
Surveyed
exemption
Tax rate
allowance/
Incentive
deductions
12
92
75
67
83
33
16
88
38
25
31
0
25
88
32
52
12
4
15
80
40
13
0
0
OECD
33
21
36
64
76
21
South Asia
7
100
43
71
29
71
Sub-Saharan Africa
45
78
62
78
11
18
East Asia and Pacific
Eastern Europe and
Central Asia
Latin America and the
Caribbean
Middle East and
North Africa
/1 Number of countries in percent of total in the g roup
Source: James (2014)
When are incenOves desirable?
When the social benefits, from…
• Increased investment…
How big are these?: Survey evidence…
0
1
2
3
4
- 0.3
0.0
0.3
Economic stability
3.82
0.31
PoliOcal stability
PoliOcal stability
3.81
0.28
Local markets
3.65
0.24
Availability of …
3.63
0.15
Economic …
3.51
0.12
Quality of life
3.50
0.10
Transparency …
Labour costs
3.46
0.09
Availability of …
Quality of life
3.32
Costs of raw materials
Local markets
Transparency of legal
…
Availability of skilled labour
Availability of local
Bilateral agreements and
IncenOves package
Export market
Source: UNIDO (2010)
0.06
0.00
Bilateral …
Export market
…
3.22
…
3.05
- 0.01
Labour costs
3.05
- 0.22
Costs of raw …
2.94
- 0.26
IncenOves …
…and econometric evidence
• Is that taxes do affect FDI
– Mainly for locaOon choices/greenfield
• But less marked for developing countries
• Host country tax systems ma-er
– Host taxaOon without deferral reduced value of
incenOves
– As does availability of other tax avoidance devices
• BEPS may make incenOve issues more important
When the social benefits, from…
• Increased investment, including displacement of
other investments
• Impact on jobs
– But what is the counter factual?
• Spillover benefits
– Hard to quanOfy
Food for thought on spillovers
Two empirical studies for Indonesia:
• Foreign acquisiOon of local plants increased
producOvity (Arnold and Javorcik, 2009)
But:
• Aner divestment, producOvity falls—as do
output growth, wages, producOon
employment… (Javorcik and Poelhekke, 2014)
– SuggesOng no ‘handover’ of skills to locals?
…exceed the social costs, from
• Lost tax revenue…
How much is lost? Redundancy can be high
Burundi (2011)
77
Rwanda (2011)
98
El Salvador (2013)
37
Serbia (2009)
71
Guinea (2012)
92
Tanzania (2011)
91
Jordan (2009)
70
Tunisia (2012)
58
Kenya (2012)
61
Uganda (2011)
93
Malaysia (2014)
81
Vietnam (2004)
85
Nicaragua (2009)
15
Thailand (1999)
81
Nicaragua (2009)
51 for non-exporting Mozambique (2009)
outside free zones
/1 Percent of affirmative answers to the question if an incentive was redundant
Source: James (2014)
78
…exceed the social costs, from
• Lost tax revenue
– Which needs to be weighted by the marginal
value of public spending
• Consequent distorOon in rest of the economy
– IncenOves lead to investments that have a lower
pre-tax return than others
PRINCIPLES FOR THE USE OF TAX
INCENTIVES
Design
Types of incenOve
• Cost-based, such as enhanced depreciaOon
Are generally to be preferred to
• Profit-based, such as holidays, reduced rate
because they:
– Target investment itself
– Have less risk of simply giving a windfall to
profitable projects
Economic zones
• Many types
– Export processing, SEZs for domesOc markets too
• Onen non-tax benefits
• Widely seen as important in several countries in Asia
– E.g. Work on China
• But wider experience mixed
– No discernible impact on growth in India
– Much experience of risks to revenue
Eligibility criteria
• Many types, each with their own risk. Eg
– For foreign investment: But round tripping?
– For large investments: But meet commitments?
• 'Strategic sectors’
– But is government good at guessing?
• CriOcal to:
– Target incenOve closely to objecOves
– Consider alternaOve means to those ends
• E.g. with appropriate energy pricing, less need to
support renewables
Types in the region
Source: Wiedemann and Finke (2014).
Governance
Transparency
• Legal:
– Clear legal basis, preferably in tax law
• Economic:
– Clear, public raOonale
– Ex post assessment; tax expenditure analysis a
minimum
• AdministraOve:
– Eligibility criteria clear and verifiable
– Clear, open decision-making process
Authority to grant
• Onen several agencies involved
– Investment PromoOon Agency, Ministry of
Economy, line ministries
• CoordinaOon criOcal
– Possibly through inter-departmental commi-ee
• UlOmate authority to grant naOonal-level
incenOves should be with Minister of Finance
AdministraOon
• Risk of complexity
C ountry
Serbia
A verag e d elay in days for g ranting of incentives
T ax incentive larg ely
d iscretionary?
6
N o
Rwanda
10
N o
Tanzania
15
N o
Ug anda
18
N o
Jordan
21
Yes
N icarag ua
42
N o
Burundi
47
Yes
Kenya
63
Yes
Guinea
80
Yes
Tunisia
95
Yes
S ource: James (2014)
• Importance of on-going monitoring
– Including through filing
• Enforce terminaOon
Reform
Why is it so hard?
• Have observers understated the benefits of
incenOves?
• Lack of transparency
– Costs onen unclear, while alleged benefits can be
easy to point to, losses more nebulous
• IncenOves create vested interests…
– Easier for the few who gain a lot to lobby for than
for the many who each lose a li-le to lobby against
• …and precedents for more
Examples
• Jamaica: Removed many discreOonary incenOves
in 2013
• Egypt: began phasing out holidays in 2005 –
inward FDI doubled
• MauriOus: Aligned EPZ with rest of economy and
removed incenOves (except for small businesses)
Regional coordinaOon
• Some efforts (SADC, EAC, WAEMU, Central Am.)
• But not easy: to be effecOve, need to cover…
– Full range of instruments
• E.g. If agree to eliminate incenOves, may compete on
general CIT rate
– Wide enough range of countries
• …and incenOve of each is to remain outside
PracOcal tools
Tax expenditure reviews
• Measure revenue foregone, usually without
allowing for
– Investment responses, implying overesOmaOon of
revenue cost
– Avoidance opportuniOes created, implying
underesOmaOon
• A first step in evaluaOng incenOves
– Require company level data
– Including for holiday firms (and, ideally, related
companies)
• Increasingly common (though onen crude)?
– India, Malaysia, Nepal, Pakistan,Philippines, Sri Lanka
QuanOfying effects on incenOves to invest
• Impact depends on ‘effecOve’ tax rates (ETRs),
reflecOng not just statutory rate, but details of
base
• This impact can be complex…
– E.g. Holiday firm may wish to delay investment
– Interest deducObility plus accelerated depreciaOon
can already mean a subsidy at the margin
• But methods to esOmate are now rouOne
For example
Source: Wiedemann and Finke (2014).
32
Concluding
Concluding issues
• How common are posiOve/negaOve
experiences with incenOves?
• Are some types more effecOve than others?
• Is there a need for some degree of
internaOonal cooperaOon?
References
Arnold, Jens and Beata S. Javorcik (2009), “Gined Kids or Pushy Parents? Foreign
Direct Investment and Firm ProducOvity in Indonesia,” Journal of Interna-onal
Economics 79(1): 42-53.
IMF and others (2015), “OpOons for low income countries' effecOve and efficient use
of tax incenOves for investment” (and background paper), at
h-ps://www.imf.org/external/np/g20/pdf/101515.pdf
James, SebasOan, 2014, “Tax and non-tax incenOves and investments: Evidence and
Policy ImplicaOons”, Investment Climate Advisory Services. World Bank Group, June
2014.
Javorcik, Beat and Steven Poelhekke (2014), “Former Foreign Affiliates: Cast Out and
Outperformed?” CESifo WP 5111
UNIDO (2011), Africa Investor Report: Towards evidence-based investment promo-on
strategies
Wiedemann, Verena and Katharina Finke (2015), “Taxing Investments in the AsiaPacific Region: The Importance of Cross-Border TaxaOon and Tax IncenOves,” ZEW
Discussion paper 15-014
Hotel Grand Hya-, Nusa Dua - Bali
10-11 December 2015
Presented by:
Michael Keen
Fiscal Affairs Department, IMF
Context
• “How to…rapidly increase revenues while
maintaining a welcoming investment climate?”
• Professional consensus has been against incenOves
—but increasingly common!
– 1980: less than 40% of LICs in sub-Saharan Africa offered
tax holidays , none had free zones
– 2005: over 80% offered tax holidays and 50% FZs
• Recent report from IOs to G20 Development
Working Group on “OpOons for low income
countries’ effecOve and efficient use of tax
incenOves for investment”
Scope (of the paper and this talk)
• An ‘incenOve’ is a departure, favorable to the
taxpayer, from the general tax rules
– Many forms and objecOves
• Focus on those related to investment—and within
that, on business income taxes
– Though VAT, tariff and PIT incenOves can be important
• And only on naOonal level incenOves
Prevalence
IncenOves are widespread
Countries
Tax holiday/
Reduced
Investment
R&D Tax
Super-
Surveyed
exemption
Tax rate
allowance/
Incentive
deductions
12
92
75
67
83
33
16
88
38
25
31
0
25
88
32
52
12
4
15
80
40
13
0
0
OECD
33
21
36
64
76
21
South Asia
7
100
43
71
29
71
Sub-Saharan Africa
45
78
62
78
11
18
East Asia and Pacific
Eastern Europe and
Central Asia
Latin America and the
Caribbean
Middle East and
North Africa
/1 Number of countries in percent of total in the g roup
Source: James (2014)
When are incenOves desirable?
When the social benefits, from…
• Increased investment…
How big are these?: Survey evidence…
0
1
2
3
4
- 0.3
0.0
0.3
Economic stability
3.82
0.31
PoliOcal stability
PoliOcal stability
3.81
0.28
Local markets
3.65
0.24
Availability of …
3.63
0.15
Economic …
3.51
0.12
Quality of life
3.50
0.10
Transparency …
Labour costs
3.46
0.09
Availability of …
Quality of life
3.32
Costs of raw materials
Local markets
Transparency of legal
…
Availability of skilled labour
Availability of local
Bilateral agreements and
IncenOves package
Export market
Source: UNIDO (2010)
0.06
0.00
Bilateral …
Export market
…
3.22
…
3.05
- 0.01
Labour costs
3.05
- 0.22
Costs of raw …
2.94
- 0.26
IncenOves …
…and econometric evidence
• Is that taxes do affect FDI
– Mainly for locaOon choices/greenfield
• But less marked for developing countries
• Host country tax systems ma-er
– Host taxaOon without deferral reduced value of
incenOves
– As does availability of other tax avoidance devices
• BEPS may make incenOve issues more important
When the social benefits, from…
• Increased investment, including displacement of
other investments
• Impact on jobs
– But what is the counter factual?
• Spillover benefits
– Hard to quanOfy
Food for thought on spillovers
Two empirical studies for Indonesia:
• Foreign acquisiOon of local plants increased
producOvity (Arnold and Javorcik, 2009)
But:
• Aner divestment, producOvity falls—as do
output growth, wages, producOon
employment… (Javorcik and Poelhekke, 2014)
– SuggesOng no ‘handover’ of skills to locals?
…exceed the social costs, from
• Lost tax revenue…
How much is lost? Redundancy can be high
Burundi (2011)
77
Rwanda (2011)
98
El Salvador (2013)
37
Serbia (2009)
71
Guinea (2012)
92
Tanzania (2011)
91
Jordan (2009)
70
Tunisia (2012)
58
Kenya (2012)
61
Uganda (2011)
93
Malaysia (2014)
81
Vietnam (2004)
85
Nicaragua (2009)
15
Thailand (1999)
81
Nicaragua (2009)
51 for non-exporting Mozambique (2009)
outside free zones
/1 Percent of affirmative answers to the question if an incentive was redundant
Source: James (2014)
78
…exceed the social costs, from
• Lost tax revenue
– Which needs to be weighted by the marginal
value of public spending
• Consequent distorOon in rest of the economy
– IncenOves lead to investments that have a lower
pre-tax return than others
PRINCIPLES FOR THE USE OF TAX
INCENTIVES
Design
Types of incenOve
• Cost-based, such as enhanced depreciaOon
Are generally to be preferred to
• Profit-based, such as holidays, reduced rate
because they:
– Target investment itself
– Have less risk of simply giving a windfall to
profitable projects
Economic zones
• Many types
– Export processing, SEZs for domesOc markets too
• Onen non-tax benefits
• Widely seen as important in several countries in Asia
– E.g. Work on China
• But wider experience mixed
– No discernible impact on growth in India
– Much experience of risks to revenue
Eligibility criteria
• Many types, each with their own risk. Eg
– For foreign investment: But round tripping?
– For large investments: But meet commitments?
• 'Strategic sectors’
– But is government good at guessing?
• CriOcal to:
– Target incenOve closely to objecOves
– Consider alternaOve means to those ends
• E.g. with appropriate energy pricing, less need to
support renewables
Types in the region
Source: Wiedemann and Finke (2014).
Governance
Transparency
• Legal:
– Clear legal basis, preferably in tax law
• Economic:
– Clear, public raOonale
– Ex post assessment; tax expenditure analysis a
minimum
• AdministraOve:
– Eligibility criteria clear and verifiable
– Clear, open decision-making process
Authority to grant
• Onen several agencies involved
– Investment PromoOon Agency, Ministry of
Economy, line ministries
• CoordinaOon criOcal
– Possibly through inter-departmental commi-ee
• UlOmate authority to grant naOonal-level
incenOves should be with Minister of Finance
AdministraOon
• Risk of complexity
C ountry
Serbia
A verag e d elay in days for g ranting of incentives
T ax incentive larg ely
d iscretionary?
6
N o
Rwanda
10
N o
Tanzania
15
N o
Ug anda
18
N o
Jordan
21
Yes
N icarag ua
42
N o
Burundi
47
Yes
Kenya
63
Yes
Guinea
80
Yes
Tunisia
95
Yes
S ource: James (2014)
• Importance of on-going monitoring
– Including through filing
• Enforce terminaOon
Reform
Why is it so hard?
• Have observers understated the benefits of
incenOves?
• Lack of transparency
– Costs onen unclear, while alleged benefits can be
easy to point to, losses more nebulous
• IncenOves create vested interests…
– Easier for the few who gain a lot to lobby for than
for the many who each lose a li-le to lobby against
• …and precedents for more
Examples
• Jamaica: Removed many discreOonary incenOves
in 2013
• Egypt: began phasing out holidays in 2005 –
inward FDI doubled
• MauriOus: Aligned EPZ with rest of economy and
removed incenOves (except for small businesses)
Regional coordinaOon
• Some efforts (SADC, EAC, WAEMU, Central Am.)
• But not easy: to be effecOve, need to cover…
– Full range of instruments
• E.g. If agree to eliminate incenOves, may compete on
general CIT rate
– Wide enough range of countries
• …and incenOve of each is to remain outside
PracOcal tools
Tax expenditure reviews
• Measure revenue foregone, usually without
allowing for
– Investment responses, implying overesOmaOon of
revenue cost
– Avoidance opportuniOes created, implying
underesOmaOon
• A first step in evaluaOng incenOves
– Require company level data
– Including for holiday firms (and, ideally, related
companies)
• Increasingly common (though onen crude)?
– India, Malaysia, Nepal, Pakistan,Philippines, Sri Lanka
QuanOfying effects on incenOves to invest
• Impact depends on ‘effecOve’ tax rates (ETRs),
reflecOng not just statutory rate, but details of
base
• This impact can be complex…
– E.g. Holiday firm may wish to delay investment
– Interest deducObility plus accelerated depreciaOon
can already mean a subsidy at the margin
• But methods to esOmate are now rouOne
For example
Source: Wiedemann and Finke (2014).
32
Concluding
Concluding issues
• How common are posiOve/negaOve
experiences with incenOves?
• Are some types more effecOve than others?
• Is there a need for some degree of
internaOonal cooperaOon?
References
Arnold, Jens and Beata S. Javorcik (2009), “Gined Kids or Pushy Parents? Foreign
Direct Investment and Firm ProducOvity in Indonesia,” Journal of Interna-onal
Economics 79(1): 42-53.
IMF and others (2015), “OpOons for low income countries' effecOve and efficient use
of tax incenOves for investment” (and background paper), at
h-ps://www.imf.org/external/np/g20/pdf/101515.pdf
James, SebasOan, 2014, “Tax and non-tax incenOves and investments: Evidence and
Policy ImplicaOons”, Investment Climate Advisory Services. World Bank Group, June
2014.
Javorcik, Beat and Steven Poelhekke (2014), “Former Foreign Affiliates: Cast Out and
Outperformed?” CESifo WP 5111
UNIDO (2011), Africa Investor Report: Towards evidence-based investment promo-on
strategies
Wiedemann, Verena and Katharina Finke (2015), “Taxing Investments in the AsiaPacific Region: The Importance of Cross-Border TaxaOon and Tax IncenOves,” ZEW
Discussion paper 15-014