TAX CONCESSIONS represent perhaps the most widely adopted measure in developing countries to promote economic development. Today virtually all developing countries—and many developed countries, too—offer inducements to approved enterprises in the form of reductions in or exemptions from import duties and income taxes for given periods of time. Some countries also provide relief from taxes on sales (including exports) and property, as well as relief from stamp taxes and other levies.
The provisions governing tax benefits are usually incorporated in investment codes. Most laws of general application have been adopted since World War II. In all but 10 of 85 countries recently listed by the United Nations, the relevant legislation was enacted after 1950; two thirds of these plans were adopted during 1955-63, many of them originating with the new African states.1
Tax-incentive schemes have been adopted despite the skepticism of many fiscal experts over their efficacy. The basic question raised by critics is whether the economic benefits of the additional investment attracted outweigh the revenue loss from those who would have invested without the special treatment. Other major criticisms relate to possible inequities arising out of special tax privileges, the effects of tax benefits on the international allocation of capital, and the proper organization and management of an effective investment-incentive scheme.
Most of these tax-incentive laws are so new and empirical studies of their operation so scanty as to preclude a definitive appraisal of their contribution to new investment. This paper reviews some of the general considerations and evidence relevant to the adoption of a tax-incentive program, but it offers no general conclusions on the advisability of the policy. The objective is more technical. Recognizing the widespread interest in investment-incentive plans and their appeal to the less developed countries, the paper examines the different approaches followed and compares the principal features of a number of representative schemes to evaluate their relative merits, with a view to aiding in the establishment of better standards for investment codes and for their operation. Next, the paper deals with the harmonization of tax-incentive laws of different countries. A final section presents conclusions on the principal features of investment-incentive plans.
Factors Influencing Investment in Developing Countries
Investment opportunities and the investment climate
Although investment codes usually apply equally to domestic capital, they are designed primarily to attract foreign capital and perhaps can best be analyzed from that point of view. Most investors prefer to invest in their own country unless the opportunities for profits from foreign investment are sufficiently greater to outweigh the obstacles encountered in connection with it. They more readily accept normal familiar risks than unfamiliar risks abroad, especially in many developing countries where governments may be unstable, and capital investment exposed to unusual risks of expropriation, currency restrictions, and price, wage, and other controls. In many countries, inflation may further jeopardize earnings and maintenance of capital.
The conditions influencing investment, generally encompassed by the term “investment climate,” may not be enough to equalize foreign and domestic investment opportunities. According to a recent report of the [U.S.] Advisory Committee on Private Enterprise in Foreign Aid,
… the characteristic reaction of businessmen who have sensed the unfamiliar risks posed by the less-developed world has been to turn elsewhere for opportunities. This is not to imply that once the climate were improved, all the conditions to attract foreign direct investment would be satisfied. A favorable climate must be thought of as being a necessary, but not a sufficient condition for attracting foreign investment. The improvement of climate, therefore, is only a first step in persuading businessmen to investigate the many opportunities in the less-developed world.2
There is no simple panacea for deficiencies in a country’s investment climate. Some countries, especially in French-speaking Africa, undertake long-term enterprise agreements in an attempt to stabilize conditions for periods up to 25 years. Enterprises in capital-exporting countries can also insure some of the risks. Under the program of the U.S. Government, for example, insurable risks in certain developing countries are limited to: (1) inconvertibility of earnings and repayment of principal, (2) losses due to expropriation, (3) losses due to war or revolution, (4) losses on housing-mortgage loans, and (5) up to 75 per cent of investment losses arising out of such other risks as the President shall determine. But a favorable climate can be established only by the record of a government’s attitude and performance with respect to private business, and an unfavorable experience is difficult to live down. The enactment of an investment code sometimes seeks to provide the desired assurance against confiscation and against nonconvertibility, but the performance can be no better than that permitted by the stability of the government and viability of the economy.
One obstacle to long-term investment may be the tax structure. A harsh and discriminatory tax system may reflect an unfriendly attitude toward private business and deter business investment. In many developing countries, tax rates and taxable incomes are designed to encourage permanent business operations in the country. “Reasonable” taxation in this respect would appear to be an indispensable condition to attract long-term foreign as well as domestic capital. It may take the form not only of moderate rates on corporate profits and distributions, but also liberal provisions for the determination of business taxable income. As noted above, long-term fiscal agreements in some countries protect investors against increases in tax rates for many years. Unless there is a prospect of reasonable taxation for the future, the purposes of temporary tax concessions to attract new businesses may be frustrated.
The role of investment incentives
Developing countries provide many different types of tax concessions to attract foreign and domestic capital. Their principal purpose is to enhance the profitability of a newly established business or expansion of an existing business which will contribute to the country’s economic objectives. Relief from customs duties on imports of equipment and construction materials enables a firm to reduce its capital requirements and lower its fixed costs. Relief from duties on imports of raw and semiprocessed materials and of components generally provides a competitive advantage in establishing a domestic or foreign market. Relief from income taxes increases the profit prospects of a new venture and enables a firm to recover its capital costs more quickly, thereby reducing the risks of investment. With few exceptions, these benefits are temporary so that a long-term business can be expected to operate under a country’s permanent tax regime, if it is successful.
Especially when customs duties and taxes are high, their complete or partial exemption may provide an incentive for new investment. Such tax inducements may serve a useful purpose in calling attention to the profit prospects of investing in certain types of businesses that a country is seeking to promote. By discriminating in their favor through tax benefits as well as other provisions of the investment laws, it may be possible to direct new investment along certain desired channels. Once established, the business can be expected to contribute to the financing of the government by payment of normal taxes.
Most countries limit tax benefits to certain priority industries that they are seeking to stimulate in accordance with their development plan. These may be selected with the objective of developing import substitutes or of stimulating export industries such as mining, agriculture, forest products, or manufacturing. Many countries are also interested in the development of housing, hotels, transportation, and power.
In recent years, considerable attention has been given to promoting manufacturing industries because of the belief that industrialization is the salvation of countries heavily dependent on the export of primary products. Latin American countries, for example, have been convinced of the need for more rapid growth of manufacturing, at least until a better balance has been reached with the other sectors.3 This policy has been greatly influenced by the thesis of Raúl Prebisch, former Director of the Economic Commission for Latin America (ECLA), and, since 1964, Secretary-General of the UN Conference on Trade and Development (UNCTAD), that the development of manufacturing must be promoted in order to redress the adverse trend in the terms of trade experienced by primary producing nations vis-à-vis industrial nations.4 Other countries have also embraced this thesis. Some, however, especially in Africa and Asia, have emphasized the need to exploit their natural resources for export, by the development of minerals, forests, and especially plantation-type farming. These projects also include the expansion of plants for the processing of local products for export.
Problems raised by industrial incentive laws
The diverse views reflected in the industrial development laws of many countries need to be explored before a sound investment incentive program can be developed. Listed below are some of the many basic questions for which satisfactory answers are required:
(1) What criteria should be employed in determining the industries and products for promotion through tax benefits?
(2) What should be the nature and extent of the tax benefits granted for their development, including the time period for which granted?
(3) What machinery should be established to administer the program? Should it be administered on a quasi-automatic qualifying basis or by discretionary authority of a government agency? What criteria should be adopted for awarding contracts to individual companies?
(4) What controls should be instituted to follow up on the approved companies, and what sanctions should be employed to assure compliance with the terms of the contract?
(5) How effective are the incentive plans in attracting new investment, and how do the benefits compare with the costs in terms of revenue sacrificed?
(6) What is the feasibility of minimizing intercountry competition for new industries by greater uniformity of tax benefits among competing countries?
(7) What tax policies should be adopted by capital-exporting countries in order to strengthen the industrial incentive laws of developing countries?
The analysis in this paper focuses on these questions. To facilitate this analysis a survey was made of the experience with investment-incentive laws in 13 countries.5 These were selected on the basis of their geographical representation, length of experience, and availability of relevant data. Additional material was drawn from the investment laws of other developing countries and from other studies and reports in this field. Analysis of these more conventional tax-incentive laws follows a description of the long-term fiscal systems and enterprise agreements employed in French-speaking countries in Africa.
Long-Term Fiscal Systems and Enterprise Agreements
Fiscal benefits conferred under long-term fiscal agreements vary according to the relative size of investments undertaken and their potential contribution to the economic and social development of the country.
Long-term fiscal systems
The primary and distinguishing aim of long-term fiscal systems is stabilization of tax charges, direct as well as indirect. In Ivory Coast and Mauritania, the system is known as the long-term fiscal system (régime fiscal de longue durée). In the Central African Republic, Congo (Brazzaville), Chad, and Gabon—all members of the former Equatorial African Customs Union before being joined by Cameroon—it is class C of approved enterprises. In Cameroon, Dahomey, Mali, and Niger, stabilization of taxes is not accorded under a separate system but is included as a part of the enterprise agreement.
In some countries (e.g., Dahomey) the system also broadens the scope of other fiscal benefits and lengthens their duration for some approved enterprises. In Ivory Coast, on the other hand, fiscal benefits and their duration under the system are identical to those granted to priority enterprises, the least important class of approved enterprises.
Despite these differences in classification, the similarity of the provisions of the investment laws which stabilize taxes in these countries is apparent. Long-term fiscal systems usually entitle the approved enterprise to the following benefits:
(1) Stabilization of all tax rates at the level prevailing when the enterprise is approved and for an extended period of time, generally up to 25 years.
(2) Exemption from any modifications in tax assessment and collection procedures during this period.
(3) Exemption from new taxes introduced during this period.
Tax stabilization for an increasing number of enterprises (usually of large size) tends to undermine the revenue structure of a growing economy and to impair its flexibility. One goal of tax policy in most of the less developed countries is to increase the ratio of taxes to national income, especially from the growing sectors of the economy. Frequent applications of the stabilization clause make it increasingly difficult for governments to raise adequate revenue from the most promising sources. With a growing economy dominated by large enterprises whose taxes are frozen, sometimes at a relatively low level, the country is left with the alternative of increasing tax rates for those not benefiting from this system.
On the other hand, governments are not always successful in tying the hands of succeeding governments for long periods.6 Conflicting contractual rights and changing economic and social conditions during the long period of the agreement can be expected to develop. Approved businesses, therefore, are frequently obliged to make tax concessions in adjusting to new conditions.
A system of enterprise agreements was introduced in the African Financial Community (CFA) before independence, on November 13, 1956. The investment laws of all CFA countries have carried over this provision. To be entitled to such a contract, the approved enterprise is expected to undertake, over a stated long period of time, a substantial amount of investment. Enterprise agreements are widely used for mineral exploitation.
An enterprise agreement requires the enactment of a law which specifies the guarantees conferred on the enterprise, as well as its obligations. Enterprises holding the long-term fiscal status are not necessarily approved under the enterprise agreement in all countries.7 On the other hand, some countries (e.g., Ivory Coast) require that priority enterprises granted the status of an agreement should be approved under the long-term fiscal system. Generally, Ivory Coast enterprises meeting the conditions of the latter system apply for an enterprise agreement because its benefits are wider in scope.
Firms benefiting from an enterprise agreement generally do not receive any tax advantages in addition to those granted under the long-term fiscal system. Therefore, the long-term fiscal system can be viewed as a special case of the enterprise agreement. The major difference is that the scope of tax stabilization is much wider and is extended to many other fields. Other than fiscal guarantees, a standard enterprise agreement usually includes the following guarantees:8
(1) General guarantees such as avoidance of any discrimination against the approved enterprise during the duration of the agreement (the nondiscrimination clause extends to the enterprise founders, stockholders, and regular employees).
(2) Juridical guarantees, which secure the application of the provision of corporate law and regulations such as those related to corporate management and transference of shares either to nationals or foreigners (like other stabilization provisions, these rules cannot be modified during the stabilization period).
(3) Financial guarantees that provide for repatriation of capital and profits (they also include the entitlement of foreign employees to certain portions of their earnings within the country).
(4) Economic guarantees, which cover almost every other aspect of carrying on business, such as the tax-free importation of primary material and capital equipment necessary for the activities of the enterprises (they also include the right to employ foreign personnel as regular employees).
Investment-Incentive Laws—Qualifying Factors
Eligibility for preferential tax treatment under investment-incentive laws basically reflects a country’s development strategy. This is fundamentally a matter of what specific projects should qualify for what benefits—questions that are answered in the light of the importance of the contribution that the project can make in fulfilling the country’s development plan, or of its contribution to economic development, generally in accordance with certain priorities.
The industrial incentive laws are typically designed to attract foreign as well as domestic capital for investment in industries that will contribute effectively to the industrial development of the country. Frequently this objective is tied in with the stimulation of employment in certain regions of the country, as in Ecuador, Israel, Morocco, Pakistan, and Senegal. Israel’s law well expresses these objectives:
… to attract capital to Israel and to encourage economic initiative and investments for foreign and local capital with a view to:
(a) The development of the productive capacity of the national economy, the efficient utilization of its resources and economic potential, and the full utilization of the productive capacity of existing enterprises:
(b) the improvement of the balance of payments of the state, the reduction of imports, and the increase of exports;
(c) the absorption of immigration, the planned distribution of the population over the area of the state, and the creation of new sources of employment.9
The Philippines’ declared policy is “to encourage the establishment of basic industries through the grant of tax exemptions directed at accelerating the pace of economic and social development of the country.”10 Mexico states as its purpose “the development of national industry through the granting of tax concessions which will stimulate the establishment of new industries and the better development of existing ones.”11 And Ivory Coast’s objective is to encourage participation in the execution of the country’s plan for economic development, and to undertake investments of particular importance for the country’s development.
Probably most industrial development laws are expressly designed to attract new industries and thus to attain greater diversification of industry. These attempts appear to be motivated primarily by the desire to develop import substitutes and thereby achieve greater national self-sufficiency. All the 13 countries studied in detail aimed to encourage manufacturing, but only 7 covered mining and 5 covered agriculture, including cattle raising, and forestry (Israel, Ivory Coast, Nigeria, Panama, and the Philippines). Five favored hotels, but only one real estate. Also covered in 5 countries were selected service industries, including transportation, electric power, and repair services; only Morocco covered banking and insurance.
On the other hand, the investment incentive codes of 13 of 16 African countries specifying the nature of coverage included agricultural projects—mostly plantation-type—and 3 (Chad, Mauritania, and Niger) included fishing. Many of these countries also favored real-estate development (e.g., hotels, housing, and office buildings); a few encouraged transportation and power projects as well.
Thus, there is a great diversity among countries in the type of industry favored. These different objectives reflect differences in economic circumstances. In some countries, the domestic market is small, and the greatest opportunities lie in stimulating the production and processing of agricultural products for export, or in promoting tourism. In others, the internal market is large, and there are better opportunities to realize economies of scale, as in India, Argentina, Brazil, and Nigeria, or in areas such as Central America and the Central African Customs and Economic Union.
Unless there are prospects of placing production of a commodity on an efficient basis—to produce and sell it at a competitive price—special tax concessions and other privileges would not appear to be warranted. This is the announced position in Israel, presented by the Director of the Israel Investment Authority:
In former years, enterprises which could assure large scale employment for immigrants were approved, but more recently, and since there is now full employment, the government gives preferences to investments in branches that produce export goods or commodities that replace imports. More recently still, stress is laid not only on the amount of dollars which the economy can earn by exports or by producing goods to replace imports, but also on the price of such products. In other words, we take into consideration whether the product can compete abroad at the prevailing official rate of exchange.12
Consistent with their objectives of diversifying and broadening the manufacturing base of their economy, many countries restrict tax benefits to so-called pioneer industries (e.g., Malaysia, Nigeria, and other African countries which favor high-priority industries). Some countries (e.g., Costa Rica, Jamaica, and Mexico) followed this policy in their earlier laws but have since liberalized the laws to cover established industries as well. Although the Trinidad and Tobago code specifies pioneer industries, the concept is broad enough to include “any industry for which there is a favorable prospect of development.”
Generally a pioneer industry is regarded as one that is not already carried on in the country, or one not producing enough to meet current or expected domestic requirements. Such industries are identified by an official list in many countries (e.g., Nigeria) or are determined administratively on application; in Korea, these are specified by statute. Pioneer-industry policy is dictated by the desire to encourage the development of new or necessary industries that will reduce the country’s dependence on imports. The pioneer status granted to a firm gives it a preferred position in getting established, usually through exemption from import duties and income taxes and through other tax concessions. It may also be protected by high tariffs. The following arguments are made in favor of this approach, as distinguished from a more general approach that would encourage investment in existing industries as well:
(1) Investors who open up new industries contribute more to economic development and face greater risks than those who enter the field pioneered by others.
(2) The pioneer-industry approach protects existing producers against unfair competition that might be induced by special tax concessions; similarly, investment in a new industry might be deterred if equal opportunity were offered competing firms.
(3) It is unnecessary to grant exemptions to other than the first firm, since its operation should be sufficient to determine the feasibility of the production.
Against these points, the following arguments are made:
(1) New industries may not incur any greater risks than others, especially when the first domestic producer enters a market already developed by importers; if this is not the case, the risk of developing the market may be reduced by a protective tariff.
(2) A more open policy is better calculated to avoid a domestic monopoly, especially if a protective tariff is erected. A product may already be in commercial production yet fail to satisfy the market at a reasonable price and quality.
(3) A pioneer-industry approach fails to take into account potential foreign markets. A rigid policy in this respect may therefore preclude the establishment of more than one business to exploit new agricultural production or processing of agricultural crops.
(4) It is difficult to define a pioneer industry because of close substitutes of products as to quality and other characteristics.
(5) A strict adherence to a pioneer-industry provision in the law is relatively inflexible and leaves less scope for judgment as to the proper path of economic development. A rigid policy of discouraging newcomers to the field may result in the freezing of existing technology and the danger of obsolescence.
Probably most countries take a less restrictive view of industrial development than is implied by the pioneer-industry approach. While recognizing the need to introduce new industries, their primary object seems rather to exploit fully the natural resources of the country. In Pakistan, for example, “primary emphasis must inevitably rest on the development of industries based upon or connected with agriculture and the raw materials available in the country.”13 This condition is relaxed only for industries like steel, heavy engineering, manufacturing of heavy goods and spare parts. Central American countries generally favor new industries over established industries by more liberal tax concessions; until 1954, Costa Rica recognized only “totally new industries.” Mexico amended its law in 1946 to provide for benefits not only to “new” industries but also to “necessary” industries “which have as their purpose the manufacture or fabrication of articles not produced in the country in sufficient quantity to meet the requirements of national consumption.”14 In January 1955, a new law was enacted whose declared purpose is “the development of national industry through the granting of tax concessions which will stimulate the establishment of new industrial activities and the better development of existing ones” (italics supplied).15
To avoid excess capacity, countries should exercise considerable discretion in limiting tax and other benefits to new firms in established industries.16 Benefits should be accorded only to new projects needed to supply the present and projected gap in demand for a quality product at a reasonable price, and only to an extent that does not jeopardize the position of the first company or companies qualifying. In several countries with pioneer laws (e.g., Costa Rica, Mexico, Panama, and Puerto Rico), all firms in the industry are entitled to the same benefits as the first one that qualifies, provided they agree to assume the same obligations. The size of the market is the limiting factor in Costa Rica.17 The period of tax benefits is usually limited to the unexpired period of the initial grant. In Mexico, this most-favored-company rule was dictated by the constitutional injunction against special tax privileges. All firms seeking the benefits must be treated in the same manner as the first qualifying firm and be able to produce within the country at least 60 per cent of the direct cost of the article covered. Between January 1, 1955 and June 30, 1958, Mexico made 107 out of the 143 grants under the most-favored-company provision.18
A few countries providing tax holidays make no distinction between pioneer and established businesses, but grant tax benefits to all new firms which qualify under statutory criteria. These include India and Pakistan (see p. 262). Also, India and other countries have adopted a system of investment allowances (or grants) which generally apply to all new investment in machinery and equipment, as well as to other specified investment. This policy neither imposes any limitations as to industrial capacity nor encourages a privileged position in any industry.
The basic dichotomy of purpose in stimulating export industries as well as import-substitute industries is illustrated by Jamaica’s enactment in 1956 of a separate Export Industry Encouragement Law, supplementing the Pioneer Industries Encouragement Law of February 1949. In September 1961, a Presidential Resolution expanded Mexico’s concessions to enterprises exporting industrial goods; the duration of the benefits ranges from 5 to 10 years, depending on the importance of the industry. Also, Ivory Coast makes no distinction between new industries and those already existing, but expressly covers ventures relating to the processing of local products, such as rubber, cotton, sugar, corn, and coffee, which have an export market. This is typical of the investment laws of tropical African countries. Israel gives preference to proposals of companies that will export a considerable part of their output.
The encouragement of assembly-type industries by means of tax concessions poses a serious question. A basic issue is whether the gain from domestic employment in the production of durable goods (e.g., radios, television sets, trucks, automobiles, refrigerators, or combination and packaging of different chemicals) will offset the higher costs—and possibly higher prices—of the operation, considering the loss of import-duty revenues on the commodity.19 As an example of the simplest form of operation, import-duty concessions could be made for the importation of hammer heads and handles for assembly in the country; because of the small labor and other local cost involved in assembly, little foreign exchange savings would be realized. The other extreme is exemplified in many countries by the assembly of automobiles.
The question posed by so-called screwdriver industries is answered in many countries by the requirement that local labor provide no less than a certain minimum percentage of the value added. For example, Ecuador places in preferred Category A only assembly and construction industries which incorporate no more than a certain maximum of imported components. Lesser tax benefits are given to firms if imported components represent more than 70 per cent of the value of their finished goods. In order to qualify for tax benefits in Mexico, assembly industries cannot use foreign parts representing more than 40 per cent of the direct costs, provided 35 per cent of the parts are produced by exempt companies; for industries exporting finished or semifinished products, at least 60 per cent of the direct costs must be of domestic manufacture. Other countries (e.g., Chile and Peru) require that no less than a certain minimum part of the labor incorporated in a product or of the value added by manufacture originate within the country. This requirement is also an integral part of the Central American Agreement on Fiscal Incentives to Industrial Development.20
Many countries (e.g., the Philippines and Pakistan) specifically exclude packaging and assembly-type operations. In other countries entering upon a new phase of their industrialization (e.g., Chile, Israel, Iran, and Mexico) the emphasis is increasingly on the manufacture of components that will contribute to further integration of the production process in the country.
Size of firm
Some countries set a lower limit on the size of a firm that can qualify for tax and other benefits; others graduate the benefits with size of assets or some other measure. In Senegal, for instance, a firm making a priority investment can qualify if it submits plans for an investment of at least CFAF 40 million (about US$160,000) to be carried out in 3 years, or creates at least 40 jobs for Senegalese supervisory employees. Pakistan requires a paid-up capital of not less than Rs 50,000 (US$10,500); Ceylon specifies a minimum employment of 25 persons. The Malagasy Republic, Malaysia, Nigeria, and Togo vary the number of years of exemption with the amount spent on fixed assets; in Nigeria, they range from 2 years for a minimum amount of £5,000 to a maximum of 5 years for an investment of over £100,000.
In other countries, unusually large projects are accorded more favorable tax treatment. In addition to the provisions of the law governing normal projects, Sierra Leone’s Development Ordinance (1960) conveys unusual authority to the chief executive to grant “any special concessions to any company” with a project which will lead to the development of the country’s resources or which, because of its large scale or for any other reason, is likely to be of special value to the economy (Article 18). Liberia also provides longer term benefits (up to 10 years) to large projects that are believed to be of special importance to the economy.
These special concessions provide greater bargaining power for attracting an unusually large venture—such as a petroleum refinery—that might otherwise be located in a competing country. These establishments might find other types of tax benefits—such as accelerated depreciation or an investment allowance—more advantageous than the tax holiday offered under the standard provisions of many investment codes. On the other hand, bargaining for these exceptions not only may delay introduction of the new industry but also may result in undue tax concessions to projects that are of dubious benefit to the economy.
Some countries have since regretted the large revenue loss involved with long-term concessions and the monopoly situation created thereby.
Another important criterion for awarding incentive contracts is the amount of employment expected to be generated. As indicated above, this is one of the special considerations in Senegal and in Ceylon. In earlier years, enterprises that assured a large-scale employment for immigrants to Israel were approved; with full employment, emphasis has shifted to production of exports and import substitutes. Mexico requires not only that 60 per cent of direct costs be of national origin but also that 10 per cent of the value must be added to this from labor and earnings.
A number of countries also consider the company’s stated policy as to employment of local labor. Libya requires that at least 90 per cent of the total number employed in any enterprise be nationals; the remaining 10 per cent must be approved before establishing the business. In Trinidad and Tobago, no approved firm may employ a person not ordinarily a resident of the Caribbean territory without prior approval by the minister concerned; the minister must be satisfied that the services of persons with specific skills and technical qualities are necessary and are not locally available. The Philippines also gives preference to firms which have greater Filipino participation and control, and Nigeria and Liberia consider the training and employment of nationals.
Direct employment of the population is an important aspect of economic development that every country endeavors to encourage, while seeking greater utilization of domestic raw materials and other resources. It is one measure of the size of an enterprise and its contribution to economic development. The extent of local labor utilization also has important implications for the type of tax concession granted, that is, whether it encourages greater employment of labor or of labor substitutes, i.e., capital. But there are other objectives of economic development plans that may be best achieved through improvements in technology and labor savings, whose end result is greater efficiency and competitive advantage.
Nature and Extent of Tax Benefits
The primary objective of the tax concessions provided in most investment-incentive laws is to induce the establishment of new businesses that otherwise would not be established. The nature, extent, and duration of such benefits depend on a variety of considerations. Among the many factors influencing new investment, in addition to the rather intangible investment “climate,” are the relative profit opportunities in the country. These opportunities, in turn, depend on other factors such as the size of the market and protective tariffs; cost and skills of the labor supply; cost and availability of materials, transportation, and power; and the general level of taxation (including duties on imported construction materials, machinery, raw materials, and supplies; income taxes; and other taxes on property, sales, and business activity). Clearly, the higher the level of taxes, the greater the value of the temporary relief. If taxes are low, or tax enforcement is lax and evasion is the rule, the advantages of tax concessions are correspondingly reduced.
Tax relief is described as having two dimensions—extensity and intensity. The former term applies to the scope of investments eligible, the latter to the amount of fiscal benefits available for eligible investments.21 Most investment laws provide preferential tax treatment of both imports and income. Some extend the benefits to taxes on property, sales, exports, and various business privileges and transactions. The extent and duration of the exemptions (i.e., their total expected value) vary widely from country to country, and may even vary considerably within one country, depending on the nature and size of the business, its location, and other factors.
Remission of import duties is generally thought to be of greater potential value to most manufacturing businesses than income tax concessions. The value in a particular case depends of course on the nature of the industry, scope of the exemption, and the level of import-tax rates.
The exemption from import duties on construction materials, machinery, and equipment is important in lowering the fixed costs of the new enterprise and placing it on a better competitive basis. Also, by reducing its capital requirements, such exemption eases the financing of a business.
Virtually all countries provide for full or partial exemption of duties on the construction materials, machinery, equipment (including automotive), and supplies necessary to build and install a new facility. This relief is usually conditioned on the unavailability of domestic materials of comparable quality and price. Full exemption is typically provided, but in several countries it is partial. Algeria grants total or partial exemption, depending on the industry; Congo (Brazzaville) provides for reduced duties on equipment and machinery; and Guinea’s reduction depends on the nature of the enterprise. The Philippines is withdrawing its tax exemption of imports of machinery, spare parts, and equipment by reducing the exemption to 75 per cent in 1966-68 and to 50 per cent in 1969 and 1970, after which full payment will be required.
A less uniform exemption policy is followed for imports of raw materials, semifinished materials, and components which go into the finished product. Typically, an exemption from customs and fiscal duties is provided for a definite period of years, dating from the first importation. Some discretion may be retained, however, as in Nigeria, which provides for partial or complete exemption for up to 10 years; exemption may be partial (e.g., Algeria, the Malagasy Republic, and Morocco). The percentage of exemption may also vary with the classification of the enterprise, as in the Central African Republic, Ecuador, and several Central American republics. In Central America a twofold classification is followed by some countries (e.g., Honduras), whereby “basic,” “necessary,” and “useful” industries are entitled to exemption from duties for periods ranging from 3 to 10 years, depending on whether they are “established” or “new.” The Philippines does not exempt raw materials from its import taxes, except for goods imported under special acts such as those governing the promotion of fertilizer production and textiles. Neither India nor Pakistan appears to provide for any exemption of raw materials from import duties.
Different policies are followed for imports of supplies, lubricants, fuels, packing, and similar materials. In general, these are partly or wholly free of duties and related taxes on imports. It is not unusual, however, to tax purchases of petroleum products such as lubricating oil, diesel oil, and gasoline.
A special problem arises as to the duration of these benefits. In general, the time span corresponds to that provided for exemption of other taxes, including those on earnings, sales, and property. In several countries, however, the exemption is permanent. Ecuador provides for a permanent 100 per cent exemption of customs duties and 50 per cent exemption of consular fees under its Industrial Encouragement Law of 1964; Jamaica offers a permanent exemption under its Industrial Incentives Law but not its Pioneer Industries Encouragement Law.
For other taxes a temporary exemption may be sufficient to enable a business to get established. But a business which relies heavily on foreign components and materials that are normally subject to a high tariff might not survive when the exemption is withdrawn, unless it operates in a protected market. If there is an indefinite exemption from high duties to encourage production for a domestic market, the business will continue to enjoy a preferred position against competitors, unless they too are granted similar benefits. Guatemala’s policy is to terminate the exemption as soon as the Ministry of Economy determines that the articles subject to this privilege are being produced in the country in sufficient quantity, at the required quality, and at competitive prices, to satisfy local demand (Article 30). If the duties on raw materials are lowered to all, the government may suffer undue revenue loss unless this is compensated for by an excise tax on the finished product.22 On the other hand, a permanent exemption of raw materials is indispensable to the development of an export industry in a number of countries (e.g., the Republic of China, Jamaica, and South Korea).
Income tax deferral and exemption
Investment-incentive laws are perhaps more commonly associated with relief from income taxes. These concessions take a wide variety of forms, which may be classified in two major categories: (1) investment allowances (or grants),23 which provide for a write-off of depreciable property in addition to that provided by depreciation allowances and in a few countries have been converted to outright grants (in addition, depreciation may be accelerated through initial allowances or faster write-offs in the early years, and (2) partial or complete tax holidays for a period of years (some countries also exempt from taxation all or part of income reinvested in the business).
Investment allowances and grants
Many techniques have recently been developed to accelerate the tax-free recovery of a capital investment. Postponing or reducing income tax liabilities in the early years speeds up the cash flow from operations and puts more funds at the disposal of the firm to finance current capital requirements. By the same token, the lower tax liabilities enhances the rate of return on investment in the early years. As indicated above, a clear distinction should be made between accelerated depreciation, which simply defers tax payments, and investment allowances which permit deductions in excess of the cost of depreciable assets to be taken in the early years, thereby arbitrarily reducing income tax liabilities.
Several countries, mostly members of the British Commonwealth, have relied almost exclusively on these techniques to induce new investment. Jamaica has perhaps the most liberal investment allowances of any country. Under the Pioneer Industries Encouragement Law (one of several investment incentive laws), one fifth of capital expenditures on building, plant, machinery, or extension of a pioneer factory may be deducted from taxable income in any 5 of the 8 years from the start of production. This 100 per cent allowance is taken after ordinary depreciation. In addition to the exemption of profits on net income not exceeding 6 per cent of capital employed, India, since 1955/56, has allowed a “development rebate” with provision for an 8-year carry-over of any unused rebate; initially the rebate was equal to 25 per cent of the cost of new plant and machinery, and later (1962) was reduced to 20 per cent (40 per cent for new ships). Though once given to most new facilities, this rebate is now extended on a more selective basis for investment undertaken after April 1, 1966; some industries are given a development rebate of 35 per cent. (Pakistan introduced a similar provision, at a 20 per cent rate, in 1962/63, but withdrew it in 1963/64.) Former British East African territories have also adopted investment allowances to stimulate new investment. These investment allowances in Kenya and Uganda are at a 20 per cent rate for industrial buildings and manufacturing machinery as well as approved hotels. In Malawi the rate is 10 per cent.
Only recently (1963), Turkey introduced an investment allowance equal to 30 per cent of investment expenditures made in commerce and industry (including tourism) in developed regions; the percentage is increased to 40 per cent for agricultural investment and to 50 per cent for investment in underdeveloped regions.
The investment allowance has recently evolved into a direct grant in Morocco, Canada, and the United Kingdom. Though similar in principle to the allowance, the grant is payable whether or not the firm has taxable income. The early availability of benefits makes the grant system particularly interesting to new businesses which have limited capital and which are not immediately profitable. Grants have the effect of reducing capital costs (and immediate capital requirements) by as much as 20 per cent in Morocco, 33⅓ per cent in Canada, and 45 per cent in the United Kingdom.
The new investment code of Morocco, adopted December 31, 1960, authorizes the Minister of Finance to grant a capital-equipment bonus of up to 20 per cent of the investment undertaken on approved projects submitted before December 31, 1962. The bonus is paid in installments, with full payment upon completion of the approved program.
In Canada, the Area Development Incentives Act, approved in June 1965, authorized grants for the location or expansion of manufacturing or processing operations in designated areas before April 1, 1967. The rate ranged from 33⅓ per cent on the first $250,000 to 20 per cent on the amount over $1 million to a maximum of $5 million. The grants were not taxable, and were not deductible from capital costs for depreciation purposes. This development-grants program was intended to replace the existing 3-year tax-holiday provision.
The United Kingdom’s recent adoption of investment grants to manufacturing and mining industries is also of considerable interest.24 These grants, which will replace the investment allowances, now amount generally to 25 per cent of new plant and machinery purchases for qualifying processes; the rate for development areas is set at 45 per cent. Administered by the Board of Trade, the benefits give qualifying companies outright money grants which have the effect of reducing capital costs by 25 per cent or 45 per cent. The grants are not included in taxable income. However, the depreciable basis of the assets is reduced by the amount of the grant, and the system of initial allowances has been abolished.
Tax holidays, or partial or complete exemption from income taxes for specified periods, are the most common type of tax inducement and take a variety of forms. The usual provision is outright exemption for 2-5 years (e.g., Malaysia and Nigeria, 2-5 years; Pakistan, 2-6 years; Republic of China, Ivory Coast, and Sierra Leone, 5 years; and Trinidad and Tobago, 5 years, renewable for 5 years). Holidays in other countries range up to 10 years and more (e.g., Ghana, 4-10 years; Liberia, 5-10 years; Senegal, 8 years; Chad and Congo (Brazzaville), 10-15 years; and Niger and Uruguay, 10 years). Togo provides an exceptionally long holiday (5-25 years). The period allowed may vary with the size of capital investment (e.g., Malaysia, Nigeria, and Togo); with the region of the country in which the investment is made; or with other factors such as the class of industry and degree of priority of the investment.
It is not uncommon to provide a greater incentive for the location of new industries in relatively undeveloped areas within the country.25 Thus, Pakistan provides a 6-year period for industries locating in East Pakistan (except for certain cities) as well as parts of West Pakistan, against 4 years and 2 years in the more industrialized areas. Senegal offers an 8-year exemption period for firms locating outside the Cap Vert area, against 5 years for those locating within this area. Ecuador, Israel, Morocco, Puerto Rico, and many other countries also provide more attractive benefits to businesses locating outside established urban areas.
In some countries only part of the income tax is exempted. For example, Costa Rica provides for full exemption for the first half of the period, and 50 per cent for the second half; Ecuador’s exemptions vary with the priority of the new business: 100 per cent for the Special Category and Category A, no income tax exemption being allowed for Category B. Similar differentiation is in effect in Central America. Although either 50 per cent or 100 per cent exemption may be allowed in Jamaica, at the discretion of the Minister, virtually all grants have been at 100 per cent. Since 1963, Puerto Rico has adopted an exemption period of 10, 12, or 17 years, depending on the location of the business, but with the option (elected before “commencement of operations”) to have a 50 per cent exemption for double the period.
Some countries with two or more classes of income tax allow exemption from only one class. Thus, qualified companies in Israel are exempt from the 25 per cent income tax but are subject to the 28 per cent profits tax; in Mexico they are exempt from only the Schedule II tax, equivalent to as much as 40 per cent of earnings.
India follows a different approach in limiting income tax exemption to earnings less than 6 per cent of average capital employed; earnings in excess of this amount are subject to the full schedule of income taxes. The Sudan follows a similar policy in exempting earnings up to 5 per cent of invested capital, taxing those in excess at half rates. Ecuador, in 1964, restricted its exemptions to 12 per cent of paid-in capital.
In June 1959 the Philippines took the unusual step of repealing all income tax exemptions under its Basic Industries Act, thereby limiting incentives to special import taxes, compensating tax, and tariff duties on machinery spare parts and equipment. Exceptions are made under special laws of limited coverage, such as the law governing the overseas shipping business, which grants a 10-year income tax exemption under certain conditions. Approved new investments in Panama also are subject to all income taxes, these companies being protected only against an increase in income tax rates during the contract period.
In general, the tax holiday begins with the day of initial production or the day of first commercial sales. The income tax exemption period, therefore, may not coincide with the period for other taxes. Exemptions granted an existing business usually begin on the date of the official approval. Since this date may fall within the business fiscal year, some provision may need to be made for the allocation of income during the final year of the exemption period.
When a country’s efforts are directed toward the stimulation of exports, provision may be made for the exemption of income derived from export sales. For example, Uruguay exempts from tax the income received from the export of goods fabricated in the country. For purposes of determining nontaxable income, total income is apportioned to export sales by its ratio to total sales. Panama also exempts from tax the income derived from sales abroad, except to the Panama Canal Zone. Jamaica’s Export Industry Encouragement Law provides for complete exemption from income tax, and Korea’s law provides an exemption of 50 per cent of profits from export sales.
More restricted benefits are given in other countries. Greek firms exporting agricultural, industrial, or handicraft products may deduct from taxable income up to 4 per cent of their gross receipts from exports; this may be tantamount to full exemption in some cases. Ceylon exempts 5 per cent of the value of goods exported, and the Republic of China provides for a deduction from taxable income equal to 2 per cent of export sales.
This type of exemption presents an administrative problem in determining the net income attributable to exports. Unless a separate company is established which is wholly devoted to export production, as in Jamaica, problems may arise in the allocation of costs—especially indirect costs—to the sales abroad. Allocations based on the proportion of foreign to total sales may be misleading because of differences in pricing domestic and foreign sales as well as in differences in allocable costs. The use of fixed percentages of export sales is of course quite arbitrary and results in haphazard benefits.
Comparative merits of investment allowances and tax holidays
The question arises of the superiority of one form of income tax relief over the other. Tax-holiday provisions are more widely employed than investment allowances (or, more recently, grants) whose use appears to be limited substantially to a few British Commonwealth countries, Morocco, and Turkey. The two approaches may be evaluated not only as to their effectiveness in inducing new investment, but also as to their effects on resource allocation, administrative feasibility, and other features.
From an incentive standpoint, the basic considerations are the effects on investment risks and profitability. Both tax holidays and investment allowances can mitigate risk by permitting an earlier recovery of capital than would be possible with normal taxation, and both permit a higher net rate of return than could be realized with full taxation. Since both schemes operate by removing income tax liabilities that would otherwise accrue, they are more significant when income tax rates are high than when they are low.
The variables that influence reactions to the two forms of incentive are numerous and complex, and a full comparative analysis will not be attempted here.26 A few points, however, will be noted.
For a project undertaken by a new company with no other taxable income, income tax exemption for a period of years is likely to be more attractive than an investment allowance. Within the exemption period the tax holiday will always give at least as much benefit as the tax allowance, since the latter can do no more than wipe out the income tax liability; the tax holiday will give more benefit if profits exceed the amount of the investment allowance. The only possibility for greater benefit from an investment allowance arises out of a carry-forward of unused allowance (or operating loss) to years beyond the period that would be covered by the tax-holiday alternative. This may occur if profits during the holiday period are too small to absorb the allowance. No doubt some enterprises are started in the expectation that profits will not be realized for the first several years. For such enterprises, an investment credit, with a carry-forward, may be more attractive than a short tax holiday. In general, however, it seems likely that most investors base their plans on the expectation of a fairly prompt flow of profits at a rate high enough to reach a cumulative total greater than 40 to 50 per cent of investment—a liberal investment allowance figure—in the first 3 to 5 years.
The result is less certain for a going business making a series of investments over a period of years than for one undertaking a single project. For an expanding firm, a tax holiday becomes less and less attractive as each passing year reduces the remaining period of exemption unless the law provides for exemption of earnings on an expansion of the business.27
The tax-holiday approach concentrates on new firms and directs its benefits to them, whereas the investment allowance approach usually makes no distinction between investment in new and established firms. (Investment allowances are especially attractive to established, profitable firms because they are likely to have enough income to take immediate advantage of the allowance as to investments made for replacement or expansion.) Many governments have favored tax holidays because they have been particularly concerned with the establishment of new business enterprises, which are recognized to face initial difficulties. However, it can be argued that the extension of benefits to established firms, as well as new firms, is a positive advantage of the investment allowance approach on the grounds that the expansion of established firms tends to make the best use of scarce managerial talents and capital.
An investment allowance probably is also administratively more feasible than a tax holiday, and better lends itself to investment incentives of general rather than selective application. New investment in specified industries could automatically qualify, and the allowances administered through the regular audit of income tax returns. This is the system in India and East Africa, which avoids other problems of determining whether a particular enterprise meets standards of the kind usually associated with tax holidays. The simplicity of the investment allowance, however, is obtained at the expense of selectivity and may, therefore, be considered inconsistent with other objectives. The use of an investment allowance also makes it unnecessary to distinguish between the investment of a new business and that of an established business. If an expansion of an existing project warranted special incentives, the investment allowances could be applied more simply than tax exemption. The use of a tax holiday in these cases presents formidable accounting and enforcement problems in allocating earnings to the additional assets.
Tax holidays are generally believed to hold more dramatic appeal for investors than investment allowances do, partly because of the simplicity of tax exemption and the ease of understanding the benefits offered. The appeal is especially strong, of course, if the business is expected to realize large profits during the holiday period. The promotional appeal of tax holidays, however, may have been somewhat diluted by their spread among countries and the extensive advertising of them in the competition for new industries.
In favor of tax holidays, it is argued that they are neutral between capital-intensive and labor-intensive types of business, whereas investment allowances are biased in favor of the former. Since capital is ordinarily scarcer than labor in the less developed countries, an incentive scheme offering special inducements to the use of capital-intensive methods is questionable. Tax holidays may be more suitable than investment allowances in countries with surplus labor, especially where handicraft-type industries offer good prospects for export, as in Jamaica and Trinidad and Tobago. Alternatively, it has been suggested that labor-surplus countries might appropriately offer subsidies based on the number of workers employed rather than on investment.28
Agricultural enterprises may derive little benefit from investment allowances because much of the investment is in nondepreciable property in the form of land and intangible developing costs.29 A tax holiday may be better adapted to the encouragement of agricultural development, but may not be suitable when the enterprise goes through a long period before it becomes profitable, as when elaborate preparations are necessary to prepare the land for cultivation or when tree crops are produced.
The tax benefit to investors and the revenue loss to the state under an investment allowance are limited to a specified percentage of the value of eligible assets, but depend on the amount of profits realized under the usual form of tax holiday. Hence, the tax holiday is subject to a greater risk of providing unnecessarily large benefits for highly profitable enterprises. However, the open-ended feature of a tax holiday can be avoided by limiting the tax exemption to earnings that bear some fixed ratio to the investment. For example, Senegal restricts exempt earnings to 100 per cent of approval investment, and Liberia’s new code sets a 150 per cent limit. Some countries (e.g., Ecuador, India, Iraq, and the Sudan) limit tax exemption to annual earnings less than a specified percentage of invested capital, and other countries suspend benefits if earnings are excessive. Guatemala, for example, suspends the exemption if annual earnings exceed 20 per cent of invested capital. In the Philippines the exemption was forfeited if profits exceeded 30 per cent of the cost of production.
Other relevant income tax provisions
Besides the more common investment allowances (or grants) and tax holidays, incentives associated with income tax include (1) deferral of depreciation under tax holidays, (2) loss carry-overs, (3) special tax treatment of dividends, and (4) special incentives for reinvested earnings.
Deferral of depreciation under tax holidays
Under several laws originating in the British Commonwealth countries, ordinary depreciation deductions may be deferred until the expiration of the tax-exemption period. In Nigeria, a pioneer company is deemed to start a new business on the day following the end of the relief period. Capital allowances—initial and annual—are then allowed on this “new value”; if the holiday period is extended because of losses, the rate of the initial allowance is reduced by one fifth for each year of extension. Jamaica, Trinidad and Tobago, Pakistan, Ghana, Malaysia, and Sierra Leone all have similar provisions. The Equatorial African countries (e.g., Gabon) also permit the postponement of depreciation charges to a 3-year period following tax exemption. Such provisions unduly magnify the value of the income tax exemption. This practice, in effect, permits the tax-free recovery of capital investment more than once: first, when the depreciation is deferred during the exemption period, and second, when it is subsequently deducted in computing taxable income. Moreover, such postponement would appear to complicate business accounting, and to present serious problems of reconciling tax returns with business financial reports.
An important prerequisite to the mitigation of tax impediments is the averaging of income over a period sufficiently long to permit the offsetting of operating losses against net operating profits. Such a provision is all the more essential to a system of investment incentives if the investors are to realize their tax benefits—whether in the form of investment allowance or tax holiday. For accelerated depreciation or investment allowances, provision is typically made for the carry-over of losses until the depreciation (or investment allowance) is absorbed. Thus, India provides that if the profits of a business in any year are not sufficient to absorb the allowances, the excess of the permissible allowances can be carried forward indefinitely and set off against the profits of later years (provided the ownership has not changed).
Many countries provide for a carry-over of net losses incurred during the tax-holiday period. One of the more liberal provisions of this sort is that of Sierra Leone: “Any loss incurred in a development enterprise during the tax holiday period taken as a whole shall be available for setoff without limit of time against the income arising from the development enterprise during the year or years of assessment immediately following the tax-holiday period.”30 Israel permits loss carry-overs up to 7 years, and Mexico up to 5 years. Nigeria has an unlimited loss carry-over period in general, but for purposes of the tax holiday, a company is permitted to extend the period 1 year for each year it incurs a loss. In Trinidad and Tobago, losses incurred in any accounting year during the pioneer period may be set off against income in the postpioneer period.
Jamaica approaches this problem in another way. An approved firm may postpone the tax relief for not more than 3 years, when profits may be low; in addition, there is a general 6-year loss carry-over period. In Puerto Rico, also, a business may defer the “commencement of operations” for 1 or 2 years, so as not to waste part of the exemption period on unprofitable operations. If a net operating loss remains after the termination of the exemption period, losses may be carried over for 5 years.
Special tax treatment of dividends
Probably in most countries the tax exemption of corporate earnings extends to dividends as well. But the tax exemption may be restricted because of its effect on reinvestment of earnings and on earnings transferred abroad. To encourage reinvestment of tax-free earnings, Sierra Leone requires that they be credited to a special reserve; if distributed within the term of the exemption and 5 years thereafter, they are subject to income tax. (It is understood that exceptions to this rule have been made for large investors.)
Generally, however, domestic distribution of tax-free earnings is not subject to personal income tax, whether made during or after the exemption period. Nigeria, Jamaica, and Pakistan provide for the exemption of distributions until they exceed the total tax-free profits. Trinidad and Tobago, on the other hand, limit the exemption to dividends made within 2 years after the tax holiday ends, and Ceylon to those made within the exemption period. (No problem arises, of course, where corporate dividends are not subject to personal tax, as has occurred in Morocco and several Central American countries.)
The exemption of dividends may be nullified for distributions abroad, where the stockholder’s country of residence may tax all or part of dividends that are remitted. Tax treatment by capital-exporting countries varies considerably for foreign income received by a resident individual or corporation but falls into four main categories: (1) complete exemption of dividends received from a foreign subsidiary (e.g., Canada, the Netherlands and Switzerland); (2) in most countries, credit for taxes levied by the foreign country, i.e., reduction in the tax assessed on dividends by the amount of the tax applicable to such dividends (grossed up by the amount of the tax) in the country where the subsidiary is located (e.g., Denmark, Germany, Japan, Spain, the United Kingdom, and the United States—Germany provides an option to be taxed at a flat 25 per cent rate, and Germany and Spain limit the credit to the foreign tax on dividends—direct credit—whereas the others credit the foreign corporate tax as well—indirect credit); (3) tax on foreign dividends at a preferential rate (e.g., Belgium, France, Italy, and Portugal, as well as the U.S. income tax of certain Western Hemisphere trade corporations incorporated in the United States at a reduced rate of 14 percentage points below the ordinary corporate rate); and (4) full tax on foreign dividends, allowing only a deduction for the foreign tax applicable, that is, a tax only on dividends net of foreign tax (Austria, Luxembourg, Norway, and Sweden).31
In addition to the above tax provisions of general application, capital-exporting countries have also entered into double-taxation treaties with many developing countries, in which special recognition is given to the tax exemption provided by the latter. These take the form especially of a tax-sparing agreement, under which the capital-exporting country allows a deduction from tax which would have been paid but for the exemption provided under the investment incentive law of the developing country. In the case of the tax-deduction country, the investor’s tax liability to his home country is reduced by a fraction of the tax reduction granted by the developing country. Japan has negotiated tax-sparing treaties with India, Pakistan, Singapore, and Thailand; Israel with Denmark, Finland, France, Italy, Norway, Sweden, and the United Kingdom; and the United Kingdom with Pakistan. Exemption of dividend income is provided in other treaties (e.g., those of Germany with Israel, Ceylon, and India and those of Sweden with Thailand, India, and Pakistan). The United States has negotiated several tax-sparing agreements which the U.S. Senate has failed to ratify. Present U.S. policy is opposed to this method of encouraging foreign investment.
The taxation abroad of dividends that are exempt under the tax-holiday provisions of investment laws partly frustrates the incentive effect of the exemption; failure of the country of origin to tax such dividends under these conditions results in a needless loss of revenue by that country, and a revenue gain by the capital-exporting country. Unless the country of residence exempts dividends received from abroad or provides for tax sparing, there is no good reason for the developing country to sacrifice this revenue, especially if the foreign country taxing such dividend income provides a credit for taxes paid abroad. Therefore, a number of developing countries make the treatment of dividends contingent on the tax treatment by the country to which they are remitted. Guatemala, Jamaica, and Trinidad and Tobago, for example, exempt only distributions made abroad that are not subject to tax in a foreign country with which these countries have no tax treaty. A similar provision was incorporated in the draft Central American Agreement on Fiscal Incentives to Industrial Development.32
Special incentives for reinvested earnings
Since profits of established businesses are a primary domestic source of capital for new investment, some countries provide special incentives for the reinvestment of earnings. Such a policy, of course, is not effective during a tax holiday but may supplement the tax-incentive laws through general legislation, or follow the tax-exemption period when expansion is considered.
Effective in January 1963, Tunisia provided that income reinvested for certain purposes may be deductible from taxable income. This provision also applies to income reinvested for extension of industrial, commercial, or agricultural buildings and installations. The Republic of China also exempts earnings retained in expanding production of a preferred enterprise or invested in any other firm whether or not it is a preferred enterprise. Uruguay has long provided that up to 80 per cent of net taxable income allocated to the installation, enlargement, or replacement of industrial equipment may be exempted from the ordinary business tax in the year earned; the new investment must be completed by the end of the third taxable year after which the exemption is claimed. Until invested, the funds must be placed in public obligations and deposited in the Bank of the Republic. (This provision is in addition to its general industrial incentives law to encourage new industries.) In Ecuador, industrial and mining enterprises, hotels, and others using mechanical equipment but not benefited by the Industrial Encouragement Law are eligible for a special deduction of 30 per cent (up to 50 per cent of the earnings) on amounts invested in new machinery or equipment or the construction of new installations, for renewal or improvement. As an alternative to normal depreciation, Costa Rica permits a deduction from taxable income of up to 50 per cent of the prior year’s profit if it is invested in capital goods used by agricultural or industrial enterprises. Somalia provides for the exemption of up to 25 per cent of profits invested in capital assets. Some Central American countries, Chad, Morocco, and Senegal, among other countries, also provide for relief of taxes on reinvested earnings. Korea repealed its provision, effective in 1966, which allowed a 50 per cent reduction in tax for earnings invested within a 3-year period.
The tax exemption of reinvested earnings is incompatible with a tax holiday except so far as it may apply to the postholiday period. For this reason, it is generally found outside the investment incentive laws (as in Uruguay and Ecuador), or is applicable to a lower order of priority than the tax holiday, as in Central America. It may be operable, of course, in connection with a system of investment allowances or other incentives.
Without controls, such exemption is likely to result in substantial revenue losses, but enforcement of controls may entail high administration costs. It is not enough to verify that earnings have been retained; it is also advisable to see that they are properly invested within the specified period.
Since the funds available for business investment flow not only from earnings but also from other internal and external sources, such a provision raises many problems. One problem is the identification of funds made available from earnings as distinguished from depreciation allowances and external loans or sale of business assets. Can it reasonably be assumed, for example, that new investment is financed first from earnings rather than from depreciation allowances? This problem is further complicated when the investment is not all made immediately but is completed over a period of time, or, indeed, is deferred for 2 or more years. In countries with high interest rates, businesses may take advantage of reinvestment allowances in order to defer payment of income taxes, even at high penalty rates for failure to invest the funds in new plant and equipment. One way of meeting this problem is to require the temporary investment in government securities of an amount of funds equal to earnings, as Uruguay does. It would appear much simpler and more logically correct, however, to provide a system of investment allowances, or credits, based on the amount of investment in qualified assets.
In addition to income tax and customs exemption, relief from other taxes is frequently given. Of 13 countries studied in detail, 8 provide additional tax benefits, and 5 provide none (India, Jamaica, Morocco, Nigeria, and Trinidad and Tobago, apparently in the British tradition—except for Morocco).
Some countries have virtually a complete system of tax exemption. One of these is Ecuador, which provides for exemption not only from production tax for exports, import duties, and capital tax but also from stamp and sales taxes for limited periods. Puerto Rico also grants blanket exemption from all taxes, including real and personal property taxes, license fees, excises, and other municipal taxes. Honduras and Nicaragua provide for exemption, over a limited period, from taxes on the establishment and operation of plants, taxes on production and factory sales, and property taxes on direct investment in plant. Senegal exempts approved firms from export duties as well as turnover taxes and the buildings tax. In addition to exempting approved enterprises from export and sales taxes, Panama provides guarantees against increases in social security taxes, stamp taxes, notary and registration fees, real estate taxes, tourist taxes, and business license taxes.
In most Equatorial African countries imposing export duties, approved firms are wholly or partly exempt. Ivory Coast, for example, provides for a 50 per cent reduction of export taxes for a 10-year period. Niger offers 50 per cent relief, and Senegal and Ghana 100 per cent. The Malagasy Republic offers exemption or reduction of export duties. Complete exemption is the rule in Ecuador, Mexico, and Panama, among other countries. Costa Rica provides relief from export taxes when necessary to make the product competitive in foreign markets.
Other countries exempt approved firms from property tax. Israel, for example, has long extended property-tax relief; since 1961, a two-thirds exemption for 5 years has been in effect. Costa Rica provides a 5-year exemption from land taxes, Ghana from state and municipal taxes, the Philippines from property taxes on machinery and equipment installed outside chartered cities, and Ivory Coast from taxes on commercial and industrial sites. Exemption of property taxes is usually circumscribed because they come under the jurisdiction of municipalities.
A number of countries in Africa and Latin America provide exemption of approved manufacturers from all or part of the general sales or turnover taxes. Members of the Central African Customs and Economic Union follow this policy as to goods sold in the state in which manufactured. Ecuador provides 100 per cent exemption from tax on sales of firms in the Special and A Categories, and 50 per cent on those in Category B. Mexico exempts approved firms from its (Central Government’s) share (60 per cent) of the 3 per cent commercial receipts tax.
An important policy question arises on the tax exemption of domestic sales made by approved firms because of their unusual advantages of importing tax-free raw materials, components, and supplies. Unless the government taxes these sales, it may have to compensate for the revenue loss by alternative forms of tax which would find less justification on equity grounds. Costa Rica has recognized this problem in reserving the right to levy a selective sales tax on approved manufacturers of import substitutes. This is negotiated by the government within limits established by law, and has resulted in substantial offsets to revenue losses suffered from lower imports of finished goods. Also, Colombia’s new sales tax, which became effective in January 1965, is assessed equally on imports and domestic sales of manufactured goods, whether or not manufactured by approved priority enterprises.
The development of new industries in many countries is supported by protective tariffs. In some countries (e.g., Mexico, Nigeria, Jamaica, and Pakistan), protection is already built into high tariff rates on many consumer goods; in other countries, machinery is provided for selective increases to foster the establishment of infant industries.
Costa Rica provides for the tripling of existing tariff rates on imports of foreign goods similar to those produced under the Industrial Protection and Development Law, when it is determined that the protection is indispensable to the establishment, stability, or progress of the national industry. This higher tax is suspended when it is determined that the original need for it no longer exists.
Panama grants protection to qualifying businesses if the article manufactured meets the country’s needs as to quality, quantity, and price, and is similar to the foreign competitive article. About one half of all approved firms have been given such protection.33 In Honduras, the legislature may raise duties on competitive imports to protect infant industries, on recommendation of the Minister of Economy and Finance. The amount of the recommended increase depends on existing international agreements and the economic and social effects of the rates.
India also protects indigenous industries from foreign competition in the initial stages. This protectionist policy, begun in 1945 by an interim Tariff Board, has been continued by the Tariff Commission, established in 1952 as the principal agency advising the Government on the need of particular industries for tariff protection. The Commission may also recommend protection for an industry that has not started production but is likely to do so if given suitable protection. Pakistan also established a Tariff Commission, in 1950, to recommend protective tariffs for industries that satisfy certain conditions of essentiality. Nigeria, too, grants tariff protection when it can be shown that the protection will promote the growth of efficient industry.
The President of the Philippines is empowered to increase tariff rates up to five times current rates when they are determined to be in the national interest, but has seldom done so. Other countries (e.g., Ceylon, Dahomey, Ghana, Guinea, Israel, and the Malagasy Republic) provide protection to approved enterprises.
Many new businesses prize tariff protection more than any other investment-incentive provision because it enables them to operate in a sheltered market. The Mexican tariff is considered possibly the biggest factor in promoting new industries. Because of the difference it makes between success and failure of a new enterprise, it is said to make possible the profits to which the tax exemption applies.34 In Central America, tariff protection is considered more important than incentives.35
The danger is that the protection may continue beyond the initial period necessary to get the business established so that the government finds itself nurturing businesses that never can stand on their own feet. As a result, the country may pay too high a price to encourage new industries which may need continued tariff protection to be able to withstand competition from imported goods.36 When such protection is found necessary, it would appear desirable to grant it for a limited period of time, so that its continuation would require a re-examination of the entire situation. Consideration should be given to the desirability of making approval subject to a legislative vote.
Administration of the Benefits
Determining the eligibility of a new project for the benefits of an investment code usually depends not only on the criteria written into the law but also on procedures established for their interpretation and application in each case. A few laws are more or less automatic in their application, but most have well-defined administrative procedures for selecting qualifying enterprises.
India illustrates the nondiscretionary approach to the award of tax benefits. Its income tax law exempts earnings not in excess of 6 per cent of capital employed for all new industrial undertakings (and hotels), provided only that they are new businesses, engaged in a manufacturing process carried on with power (or employ 20 or more employees without power). A development rebate is granted all firms for all new plant and machinery installed, ranging from 20 per cent for most businesses to 35 per cent for certain priority industries and to 40 per cent for ships. Although the Central Government has power to exclude any particular project, apparently it has never done so. In 1959, however, the grant of the development rebate was made subject to certain conditions regarding the use of the funds from the taxes saved.
Pakistan follows a similar policy in the administration of its tax-holiday benefits. A firm otherwise eligible to do business in Pakistan may qualify under the income tax law if it is (1) based primarily on Pakistani raw materials, with certain exceptions, (2) operated by a limited company with a paid-up capital of not less than the equivalent of US$10,500, and (3) reinvests at least 60 per cent of its earnings. If the Central Board of Revenue is satisfied that it meets the conditions, it is eligible for the benefits.
The Republic of Korea follows the unusual policy of listing in its tax statute the industries qualifying for exemption. These fall into two categories: heavy industries, entitled to full and partial exemption for 5 years; and light industries, exempted for 3 years. There are no other legal requirements, except minimum capital.
In other countries a new company may qualify as a pioneer industry through regular administration channels. In both Trinidad and Tobago and Nigeria, pioneer status may be granted only to a firm qualifying in a list of pioneer industries approved by the head of the state, but a new business may also request that its industry be given pioneer status if it is not already on an approved list. In Nigeria, an application for pioneer-industry status is published; 30 days after publication the Federal Minister of Industries submits the application, together with his recommendation, to the President for approval. A similar procedure is followed in granting a pioneer certificate to a company qualifying in a pioneer industry. Ecuador also publishes a list of industries (selected by the Planning Board) under which any new firm may qualify for its Special Category benefits. African countries that are influenced by the French legal systems (e.g., Niger, Dahomey, Ivory Coast, and Cameroon) enumerate approved industries in their development plans or laws.
Wherever the law is selective and a determination must be made of the eligibility of each project and the extent of the tax benefits awarded, the government agencies most concerned should participate in the decision. This participation is usually through an advisory board made up of representatives of the agencies to review the proposals and to make recommendations to the chief executive or top executive council for final decision. Depending on how the government is organized, the following agencies should generally be represented: planning or development board, to see that the projects are consistent with the country’s economic plan; minister of finance, because of his responsibility for the revenues; minister of economy (or of commerce and industry); minister of agriculture, where agricultural projects are covered; and other agencies concerned with investment laws. It is also important to have a technical staff that is qualified to review and appraise the technical merits of the proposal, based on feasibility studies.
Most countries have established special machinery for the review of applications for incentive contracts, usually by a special board or council on which the interested government departments are represented. Israel has established an Investment Center (consisting of a Board and a Director appointed by the Government) which has the authority to approve new projects. The Ministers of Finance and of Trade and Industry are charged with implementation of the law and may confirm, cancel, or modify board decisions. In Ivory Coast, requests for priority status are made to the Minister of Finance, Economic Affairs, and Planning. However, final approval is in the hands of the Council of Ministers.
The Philippines has taken a further step of establishing a Board of Industries (directly responsible to the President and to the Congress), which processes all applications and grants exemption certificates, administers compliance with the law, undertakes necessary market research, and compiles statistical data relating to tax-exempt industries.
In Ecuador, a committee composed of the Minister of Finance, Minister of Development, and the Technical Director of the Planning Board has the responsibility for approving applications for tax exemption. Applications are first sent, however, to the Planning Board and Ministry of Finance; the Planning Board then studies and classifies the project in accordance with the standards established by law and appropriate rules. This report is then sent to the Interministerial Development Committee, whose Secretary is the Director General of Industries under the Minister of Development. Approval is evidenced by the signature of the two ministers concerned.
In Mexico the Ministers of Finance and of Economy are jointly responsible for approval of applications, on recommendation of an interministerial committee. This committee, composed of representatives of the General Bureau of Manufacturing Industries (Ministry of Economy) and the General Bureau of Financial Studies and the Department of Subsidies and Exemptions (Ministry of Finance), has also included a representative of the Bank of Mexico.37 Technical studies are made by the General Bureau of Financial Studies and the Department of Industrial Investigations of the Bank of Mexico; these two agencies submit a written report to the interministerial committee.
Costa Rica has greatly elaborated these procedures by the establishment of a Consultative and Coordinating Commission for Industrial Development, which also includes representatives of private industry.38 In addition to the Director of Industries and the Director of Economy, the Commission includes two representatives of the national banking system, a representative of the Central Bank, one from the commercial banks, one from the National Production Council, and two delegates of the Costa Rican Chamber of Commerce. The Bureau of Industries receives all applications filed with the Ministry of Agriculture and Industry and is directly responsible for providing technical and administrative assistance to the Commission. Guatemala requires consultation with seven different institutions, including the Chamber of Industry, any one of which virtually holds a veto over a new project.
In many of the new nations of Africa, the authority to examine and approve new investment projects rests with the ministers of finance and of industry and commerce (e.g., Ivory Coast, Nigeria, Senegal, and Tanzania). This division of authority has always generated considerable rivalry between the two major departments over the control of new investments.39 But in most of the new nations a new pattern of government control is emerging in the form of an investment commission or similar quasi-government agency.40 In Guinea it is known as the Commission of Economic Control, which is a member of the Bureau Politique National du PDG (Parti Démocratique de Guinea). In Ghana it functions as the Capital Investment Board, which grants approval for capital investments, maintains liaison between investors and the government departments, and grants exemption or licenses to assist new enterprises. The composition of an investment board follows a fairly uniform pattern. The minister of economy or of industry is usually its president. Other members are drawn from ministries, parliament, and chambers of commerce; bank directors, and commissioners of taxation and customs are also included in some countries.
The operations of the investment commission are illustrated by its organization in Gabon. It includes the Minister of Planning, Chairman; Minister of Finance; the minister especially concerned with the activity of the enterprise under consideration; four members of the National Assembly; the Director of the National Economy; the Customs and Indirect-Tax Commissioner; two representatives each of the Chamber of Commerce, Industry, Agriculture and Mining; two representatives of the trade associations in whose field of activity the requesting enterprise is engaged. The chairman of the Gabon commission is required to call a meeting within one month of the filing of a complete set of documents; it may then issue an opinion on the project, provided at least six members are present. If approved, the project is submitted to the Council of Ministers, which issues a decree granting preferential treatment.
Rules versus authority
The sharp contrast between the quasi-automatic qualification of a new firm in some countries (e.g., India and Pakistan) and the administrative discretion prescribed in other countries suggests a fundamental issue of governmental policy. Although the discretion of the executive is variously circumscribed in the latter countries, as we have seen, a decision must nevertheless be made in each case, based on an evaluation of supporting evidence. In part, the two different approaches reflect the opposing views as to pioneer industry and most-favored-company policies, described above; they also reflect other factors considered below.
The success of the discretionary approach depends heavily on the quality of its administration. Although, in principle, tax benefits should be awarded only when deemed necessary to induce investment that otherwise would not be undertaken, in practice this ideal probably is never fully realized; at best, then, a discretionary approach can only keep the revenue loss within reasonable limits. Successful administration requires a staff of trained economists and production, marketing, and financial technicians, who are not always available in developing countries. As a result, awards may be made indiscriminately, and are sometimes influenced by political pressures and bribery. The system of administrative control also frequently delays decisions, with the result that worthwhile projects may be delayed or deterred (see below).
At the other extreme, the blanket qualification of all who meet the general criteria provided in the law furnishes a more open and objective procedure that is free of administrative uncertainties. But, unless the standard level of benefits is limited, this may be more costly in revenue loss. Also, such standardization of benefits may fail to attract those industries which are most essential to economic development, and may subsidize secondary and tertiary industries which may already be well supplied.
One answer to the dilemma is to build in a more elaborate system of semiautomatic provisions under a discretionary system that narrows the scope of administrative judgment without removing it entirely. Standards could be set up in terms of employment, size of investment, amount of value added, value of exports, classification of product, new and established industries, and other factors. Benefits could be scaled to these various criteria, as provided in some laws, including the proposed code for the Central American common market (see below, pp. 311-12). However, the great variety of activities covered by an incentive program cautions against a rigid set of rules that may fail to anticipate changes in the economy and may prejudice the approval of desirable new ventures. Moreover, it is virtually impossible to measure the potential economic benefits of a new investment by a combination of such arbitrary standards. A certain measure of administrative discretion is most desirable for the successful implementation of an investment-incentive program.
Effective administration requires a reasonably quick decision on the eligibility of a new project for tax and other benefits. Promoters of new business have often been frustrated by inordinate delays and “run arounds” from one agency to another, including repeated requests for additional information. In the past, it was not uncommon for investors in Costa Rica to wait some 18 months.41 In Guatemala, applicants are required to publish excerpts from their application three times, to permit opponents to be informed and to be heard; seven institutions are consulted, including the Chamber of Industry, before a decision is made. The procedures in Nigeria are also time consuming and the subject of much complaint; the principal source of delay is generally agreed to be the cumbersome machinery and lack of coordination among the various agencies concerned.42
A survey of Ghana’s procedures under its former plan disclosed that it took from 9 to 12 months or more for complete disposal of applications.43 Some applicants, impatient with delays, went ahead with their plans and were rejected on grounds that they had already established the industry. Delays were attributable principally to the cumbersome procedures themselves: waiting for meetings of the Pioneer Industries Committee or Cabinet, publication in the Gazette, submission of additional information, delays in consideration by ministers. As a result a cabinet committee was appointed to recommend streamlined procedures, which were adopted in subsequent legislation; these placed all key administrative functions under the Minister of Finance.
Some countries attempt to speed up the process by establishing a maximum statutory period for action. The Mexican law, for example, requires all applications to be acted upon within a period of 90 days from the date on which the applicants provide all documents and data to the satisfaction of the ministers. Because of repeated demands for new information, however, it has taken from 6 to 12 months or more for firms to obtain a contract. Nicaragua requires that the applicant for classification of a plant be notified within 30 days of the receipt of the application in due form. After classification, the executive branch issues a decree, countersigned by the Ministers of Economy and Finance, specifying the benefits granted and the obligations entailed. The grantee then has 30 days to accept these conditions. The applications are reviewed with a minimum of delays, and decisions are made within 2 to 3 weeks of submission.44 Here the Instituto de Fomento Nacional assumes responsibility for assisting prospective investors. Decisions are made by a commission representing the Ministers of Economy, Finance, and National Planning, and there are no representatives of private industry who might raise objections on the score of protecting existing businesses against new competition, as is alleged to have happened in Costa Rica and Guatemala.
Time limits are also used in other Latin American countries and Africa, as well as in other parts of the world. The Investment Code of Niger, for example, provides that the Commission “shall submit its reasoned opinion within 45 days after the application for approval is filed with the Ministry of Industry and Commerce.”
Because of the divided authority that generally governs the grant of tax exemptions and their administration, it is necessary to assign some government agency or official with primary responsibility for coordinating and controlling these activities. Such officers serve as the central point for submission of applications and are given responsibility for initiating necessary action for approval, appeals, preparation of any contractual arrangements, and similar matters. Once notification of approval is given and published in the official gazette and a contract signed, it is then necessary to assign responsibility for seeing that the terms of agreement are carried out.45 These are matters relating to the agreed time of start of construction and production, employment of nationals, use of national materials, price and quality controls, customs drawbacks, statistical reports, and many other legal and technical matters covered by the country’s laws and the contract of agreement.
The requirements imposed on grantees vary from country to country (except within common market or customs union areas) and will not be reviewed here. Frequently one important stipulation is the time required to complete plant and to tool up for production. Such a provision is especially important when exclusive rights are granted and failure to fulfill the time agreement may preclude the grant of similar benefits to others for early exploitation of resources.
In Costa Rica the law is administered by the Ministry of Industries. In order to control the operations, specific obligations are imposed on the grantee: to request approval of changes in plans; to advise on sale or transfer of the plant or other facilities; to keep a detailed record of merchandise imported under customs exemptions; to present an annual income tax return, even though exempt; to present other data requested by the appropriate authority; and to introduce an accounting system for determining the cost of production. There is also an obligation to file an annual report on progress and operations during the year.
Mexico exercises a closely controlled surveillance to insure that the conditions of the grants are fulfilled. This responsibility is placed on the Bank of Mexico and the Ministry of Finance; although administration is supposed to be joint, the principal responsibility has fallen upon the Minister of Finance.46 Exempt firms are required to pay a levy equal to 2 per cent of the taxes saved, to cover costs of administration. Field inspections are made by the Bank of Mexico, usually once a year, and a report is prepared on the conditions found. One serious problem is the allocation of costs of production to exempt articles when more than one product is manufactured. Agreement is usually reached on accounting standards for this purpose.
In Israel the law is administered by the Investment Center Board; its Director has considerable executive responsibility for enforcing the provisions of the law, acting under the general policies determined by the Board. The Board may suspend the benefits or cancel an approval after advance notice if the grantee fails to comply with the terms of the agreement. This has often happened.
The investment law of Ivory Coast charges the Minister of Finance, Economic Affairs, and Planning with the execution of the law. A number of decrees establish standard procedures for applying and carrying out the terms of the new venture. Priority enterprises are required to maintain certain accounts and registers for imports of materials and capital equipment, as well as data relating to exports. However, the Secretary of State for Industry is charged with enforcing compliance from a technical point of view. Verification relates to such matters as value of investment, origin and value of equipment and machinery purchased, quantity and quality of output, and professional qualifications of personnel employed and their classification.
The Minister of Trade and Industry has primary responsibility for administering the industrial incentive laws of Jamaica. (The Collector General of Customs is responsible for granting licenses to hotels under the Hotels Aid Law.) The Commissioner of the Income Tax issues a certificate to the approved enterprise covering the income tax benefits, and the Collector General of Customs administers the duty-free imports.
All countries provide for sanctions against violations of the terms of the incentive laws and contracts. These are usually in the nature of fines for such offenses as the diversion of tax-exempt imports to nonqualified purposes, failure to keep adequate records, and failure to start production within the agreed time. More serious failures to live up to the terms of the contract may result in suspension or cancellation of the tax benefits.
In Trinidad and Tobago, contravention of restrictions on imports is subject to a fine of three times the value of the article. A fine of £2,500 is imposed on a pioneer manufacturer who refuses to keep the required record of articles imported or prevents the marking and inspection of such articles. Failure to commence construction or production of marketable quantities of a pioneer product as specified in the contract may cause revocation of the contract, unless the Governor in Council is satisfied with the reasons for delay. Similar provisions are common in other countries.
Appraisal of Tax-Incentive Programs
To appraise the experience with the operation of investment-incentive laws, it is important to know the record of new businesses formed, including the number of projects approved in different industries, the amount of capital involved, size of employment, payrolls, and other relevant data. This information is available for a number of countries covered in the survey. These data, however incomplete, provide evidence of the progress made, but leave unanswered many crucial questions about the role played by the tax incentives themselves. In some countries the record probably would have been a little different if no such incentives were provided; in others the provisions may have played a critical part in attracting some new industries; and in still others there may have been a singular lack of success despite the liberality of the benefits. Because of wide differences in the size of markets, business opportunities, and investment climate in different countries, it is not possible to generalize about the effectiveness of tax benefits in inducing new investment.
The following analysis will focus on some of the key problems that appear to determine the success or failure of an incentive scheme: What is the nature and structure of the benefits that appear to be most attractive? How successful has the plan been in attracting foreign capital? What is the cost to the economy in relationship to the benefits received? How does the administration of the program influence the attraction of new industries?
Role of incentive programs in economic development
Where private enterprise is subordinated to the role of the state, private investment cannot be expected to flourish. In some countries the industrial sector is either pre-empted by the state or finds its opportunities circumscribed by restrictive laws and distrust of capitalistic methods. The United Arab Republic and Yugoslavia, for example, have severely restricted the role of private industry, and Algeria requires state participation in all important activities.47 Guinea and Ghana, under its former regime, limited the role of private industry by classifying their economy into a state-owned sector, a private sector, and joint state-private sector; Ghana added a cooperative sector, according to which the government initiated a new industry in the expectation of the private sector taking over. In some countries, there is fear that the government will nationalize a business initiated by private enterprise. To help allay investors’ fears, Algeria’s 1963 code provided that no expropriation can be made “before the amortization of the invested capital has been assured,” or within a period of 10 years after the establishment of the enterprise.
Ghana’s experience illustrates the deterrent effects of a government’s ambivalent policy toward private investment. In 1959 the enactment of its Pioneer Industries and Companies Act superseded the earlier investment ordinance of 1943; this was accompanied by the Import Duties Act, which provided for the remission of import duties to approved companies. This program was adopted to attain a rapid rate of industrial growth in the transition to a true socialist state. But by 1962, dissatisfaction with the law and lack of significant success in attracting new industries led to the suspension of all benefits so as to permit a review of the situation.48 By then, an estimated 42 companies had received pioneer status and were employing about 5,000 workers. (These do not take into account other larger projects—Volta Dam and Smelter Projects and AGIP Refinery—which were approved by special legislation.)
The new Capital Investment Act of 1963 provided for a Capital Investment Board to promote new investment, liberalized tax benefits, and guaranteed compensation for nationalization; it also removed restrictions on transfer of earnings and capital, and better defined the conditions for qualifying. The initial interest in the new law, however, was followed by a serious decline in new applications because of a deterioration in the business climate.49 Between the beginning of 1964 and February 24, 1966 (the date of the revolution), 25 approvals were granted involving capital outlays of £G 22 million, including £G6 million of foreign currency; applications virtually ceased during the 6 months to the end of February 1966. With the establishment of the new government, 31 applications were received during the first 11 months.
The Philippine record evidences some leveling off in the importance of tax-exempt industries following the curtailment of tax and other benefits in 1959. Between 1958 and 1962 the number of tax-exempt firms remained fairly constant at around 600, although their capitalization grew about 50 per cent from ₧510 million to ₧760 million.50 Employment by these companies, which expanded to a maximum of 76,220 in 1960, has since remained stable at around 70,000 and accounts for less than 1 per cent of total employment. Between 1958 and 1963, annual gross private domestic investment grew from ₧733 million to ₧1,956 million, in current prices; this represented an increase of 167 per cent, reflecting in part the inflationary situation. (At constant prices (1955 = 100), the increase was approximately 45 per cent.) New investment of industries qualifying for import-duty exemption rose to 6.7 per cent of total gross private domestic investment in 1960 but declined to around 5 per cent in 1961 and 1962.
Factors other than the curtailment of tax benefits may have contributed to the lessened attraction of foreign and other capital; these included foreign exchange and trade restrictions (abolished January 1, 1962). Also, the Philippines long delayed enacting a foreign-investment law that would clarify the rights and obligations of foreign investors. Except for U.S. citizens (until 1974), foreigners may not own more than 40 per cent of capital used to exploit natural resources.
Tax concessions appear to play a large role in the economic development of Panama.51 Companies eligible under Panama’s production development law of 1950 have realized substantial tax benefits, including long-term exemption from certain import duties and stabilization of income tax, social security taxes, stamp taxes, and certain other fees; in 1957 the law was amended to limit the import-duty exemption to 15 years, to repeal the freeze on taxes, and to limit the income tax exemption of profits on foreign sales to 15 years. However, additional benefits are frequently granted by special legislation.
During the 12-year period, May 1950-November 1962, 211 contracts were issued under the development laws of 1950 and 1957.52 Of these, 78 contracts were for a period of 25 years or more, and 99 ranged between 15 and 24 years. As of 1962 an estimated 33 firms which were still in business continued to receive special tax concessions. Of these, approximately one half were given tariff protection as well as import-duty exemption.
Although Panama’s market is small, it enjoys many natural advantages such as location as to trade channels, and no restrictions are imposed on foreign payments and capital transfers. Rather high protective duties are also believed to have been a substantial inducement, and many of the protected firms probably would not long survive if these duties were reduced.53
Jamaica and Trinidad and Tobago
Jamaica has three distinctive tax-incentive laws of general application, in addition to special laws covering hotels, factory construction, cement manufacture, and petroleum refining. Two of the general laws—the Pioneer Industries Encouragement Law and the Industrial Incentives Law—were enacted to stimulate domestic industries; the third—the Export Industry Encouragement Law—was intended to promote export industries. The Pioneer Industries Law sought to accomplish its purpose by a 100 per cent investment allowance—20 per cent of depreciable assets in each of any 5 of the first 8 years. Consistent with its primary purpose of stimulating employment, the Industrial Incentives Law provides tax holidays of 7 or 6 years: an option of either 100 per cent54 exemption for 7 years, with notional depreciation, or full exemption for 4 years and partial exemption for 2 but with deferment of depreciation allowances until after the fourth year. Export industries may elect the benefits under either the Pioneer Industries Law or the Industrial Incentives Law. All three laws provide for rebates of duties on certain imports.
Jamaica’s efforts appear to have been rewarded less by increased investment than by the stimulation of labor-intensive industries. By the end of 1964 there were 118 firms operating under the Industrial Incentives, Pioneer Industries Encouragement, and Export Industry Encouragement Laws, with a total capital investment of over £8 million (about US$23 million).55 Between 1956 and 1963, investments in subsidized industries ranged between 6.5 and 40 per cent of total manufacturing investment, averaging about 17.5 per cent.56
Employment in these companies has gone up rapidly in recent years, and they now account for about 18 per cent of the total value added by manufacturing.57 Between 1959 and 1964 their payrolls rose from 2,210 to 8,253 employees. Almost 60 per cent of this increase in employment is attributable to the Export Industry Encouragement Law. In March 1965, 28 companies were operating under this law; 16 manufactured clothing and 5 leather products. These companies exported goods amounting to £3.7 million in 1963 and £4.4 million in 1964, practically all to the United States.58 Recent improvements are believed to be due largely to Jamaica’s low labor costs and unorganized labor, which have attracted garment industries from Puerto Rico, where labor costs have been rising. An important offsetting factor, however, is the U.S. import duty and import quotas.
Trinidad and Tobago’s Aid to Pioneer Industries Ordinance grants a 5-year tax holiday, renewable for an additional 5 years in special cases. A separate law, Income Tax (in Aid of Industry) Ordinance, provides accelerated depreciation allowances to specified industries, mainly for plant and machinery. These allowances also apply to the pioneer industries on expiration of their holiday period. Pioneer companies are exempt from duty on raw materials, supplies, and manufactured components.
Fragmentary data suggest that the incentive law plays a relatively large role in Trinidad and Tobago. From the inception of the Aid to Pioneer Industries Ordinance, in 1950, to March 1965, tax concessions covering about 225 separate projects were granted to 167 firms; of these, 22 or more firms have ceased operations.59 These new industries contributed to an average annual rate of increase of about 10 per cent in the value added in the manufacturing sector between 1950 and 1962. Some measure of their importance is indicated by the fact that the total investment of these companies represented 10 to 12 per cent of gross domestic private investment between 1959 and 1964. No adequate employment data are available.
The programs in Guatemala and Costa Rica have been compared unfavorably with those in Nicaragua and El Salvador because of their less aggressive promotional activities.60 Approval of new projects in Costa Rica is alleged to be impeded by dilatory tactics, and it has not been unusual to wait for a year and a half for approval. However, there is evidence of recent improvement in the Costa Rican performance. The annual number of contracts approved rose from 30 in 1961 to 72 in 1964 and to 86 through November 1965, and the planned investment rose from an annual average of ¢ 46 million in 1960-62 to over ¢ 150 million in 1965. By November 1965, approval had been given to 310 projects involving investments of ¢ 483.6 million.61 Through 1963, investment proposed under these grants represented roughly 15 per cent of gross domestic private investment. About one fourth of this 6-year total was concentrated in chemicals, including sizable projects for plants producing cement, fertilizer, and petroleum products.
Through August 1965, virtually all the recent contracts under the new law (1959) provided for exemption from customs duties on machinery and equipment, and more than three fourths exempted duties on raw materials and exports. Complete income tax exemption, however, was accorded to only 6 companies, these being in new industries, with most of the remainder receiving relief only for reinvested earnings.62 The exemption period ranges from 2 to 10 years, with about two thirds of the projects granted 8 to 10 years.
Costa Rica has been favored by relative political stability. Also, it has one of the largest markets in Central America, being exceeded only by that of Guatemala (with 35 per cent of the population and largest gross national product) and by that of El Salvador. However, because of its higher living standards, the Costa Rican market is more attractive for some products. The possibility of negotiating agreements with the Government for protective tariffs in consideration of a selective sales tax on the commodity manufactured enhances this attraction.
Mexico has had a succession of industrial development laws since 1926. Present legislation, enacted in 1955, continues the main pattern of its predecessors, with benefits granted both to new and necessary industries, and with further subclassification into basic (10 years), semibasic (7 years), and secondary (5 years). Although intended to encourage manufacturing development, it covers as well certain heavy services and repair industries. Among the major conditions are the limitation of imported raw materials to 60 per cent of total direct costs and the requirement that at least 10 per cent of total value be added by the grantee.
During 1958-63 an average of about 35 contracts were approved annually, with no recognizable trend. These involve projected investments averaging about Mex$370 million per year and about Mex$10 million per project. Much of this investment (about 40 per cent) is concentrated in paper and chemicals; electrical appliances, machinery, and metal fabricated products accounted for most of the balance.63
While perhaps important for key projects, Mexico’s Law for the Development of New and Necessary Industries does not appear to have been a sizable factor in its industrial growth in recent years. During 1958-62, the planned investment in exempt industries averaged only about 2.3 per cent of gross domestic private investment. As previously indicated (p. 260), a large proportion of this was represented by investment of existing firms that claimed exemptions under the most-favored-company treatment.
The limited scope of the investment law appears to reflect the government’s administrative policy as well as some features of the law itself. One is the delay involved in securing approval, ranging at one time between 12 and 18 months, and sometimes as long as 2 years.64 As a result, virtually all investors actually began operations long before the application was acted upon. There has also been great uncertainty over approval, with about one third of formal applications being denied in the past; moreover, maximum income tax exemption is rarely given: between January 1955 and June 1958, only 4 of 36 grants were given the full 40 per cent.65 Other formal requirements of the law, together with regular annual surveillance, also tend to militate against its use. Many small companies are reported to avoid the elaborate reporting and other legal requirements, especially in view of the lax administration of the tax laws themselves.66
Israel’s Law for Encouragement of Investment, first approved in 1950, appears to have exercised an appreciable influence on the nature and amount of its capital development. Despite changes in the law, it has essentially provided for exemption of import duties, partial exemption of property taxes, and partial income tax exemption for typically a 5-year period. Benefits are provided not only for new enterprises but also for expansion of existing enterprises. The yearly record of approved projects since then does not provide a reliable index of its reception because of the higher percentage of projects that were approved and then withdrawn in the earlier period. However, in the 4 years 1959-62, when the situation stabilized, 1,337 projects were approved, entailing a total investment of I£371.1 million plus $460.0 million.67 The preponderance of investment was in industrial enterprises, with large shares going to shipping, hotels, real estate, and finance. The total represented about 6.2 per cent of gross domestic investment. Census data for 1961 show that approved manufacturing firms accounted for 28 per cent of employment and 40 per cent of value added by industrial firms.68
The earlier efforts concentrated on providing employment for an expanding population. With close to full employment in recent years, the program has become increasingly selective, with attention centering on projects contributing to Israel’s technological and general skills as well as exports. The emphasis also has shifted from simple assembly-type operations to the output of a range of complete new products, and the ability to compete in the foreign market has received more consideration. As a result of this more selective policy, the number of refusals increased from about 40 per cent in 1959 to 60 per cent in 1962.69
The apparent success of Israel’s program is largely attributable to the wide measure of economic freedom, and the greater strength and stability of the economy in recent years. The expanding market, which has been protected by high tariffs, import quotas, and in some cases total embargo, has produced good profit opportunities, although export sales have also contributed.
Ecuador’s incentive program, instituted in June 1957 and amended in August 1962 and December 1964, is believed to have met with some success. By 1965, 236 new firms had received tax-exemption privileges, ranging from 5-year complete exemption from income and other taxes for the Special Category to partial exemption for those in Category C.70 Investment flowed mostly (35 per cent) into the chemical, rubber, and paper industries; large amounts were also invested in textiles, food, and metal product industries.71 Between 1960 and 1965 these companies are estimated to have accounted for about 12 per cent of total private capital formation.72 In 1965 they employed more than 4,500 workers and produced about 5 per cent of the total value added by industry.73
Many conditions in Ecuador are favorable for investment, including relatively stable prices, relative freedom of transfer of capital and earnings, a growing economy, protective duties, and generally good profit prospects. Although the continuity of government has occasionally been interrupted, there has been little or no threat to private enterprise.
Other African countries
Information on the efficacy of investment incentives in other parts of the world is fragmentary, little research having been published. From the introduction of Ivory Coast’s investment law in 1957 through April 1964, the country approved 48 contracts, of which 8 were long-term enterprise agreements. These projects called for a total investment of CFAF 14,072 million, CFAF 8,412 million going to the priority projects. This represented an estimated 12.5 per cent of total private investment during 1958-65. Ivory Coast accounted for 45 per cent of the total approved in the entire West African Monetary Union during this period, evidencing the greater attraction of the relatively more advanced and larger markets for new promotion.
Nigeria enacted the Industrial Development (Import Duties Relief) Ordinance in June 1957 and its Industrial Development (Income Tax Relief) Ordinance in 1958, the latter superseding the 1952 Aid to Pioneer Industries Ordinance. Most of the companies granted import duty relief do not enjoy pioneer status. Pioneer-industry companies apparently have accounted for a substantial part of the industrial development since enactment of the law. Between 1955 and 1965, 134 companies have been formed in 64 pioneer industries; their combined estimated capital investment of £68.5 million represents about 45 per cent of total industrial investment in Nigeria.74 These are mostly large or medium-scale businesses; more than half operate in three industries—metal, textile, and food processing—and produce primarily for the domestic market rather than for export.75 No complete data on employment of these companies are available, but rough estimates place the total at 100,000.76
The amount of new investment approved under the investment law of Morocco increased steadily between 1960 and 1964. (In 1963 the total was swelled by three hotels.) These expenditures now account for about 10 to 12 per cent of gross domestic investment.77
Attraction of foreign capital
The success of an investment-incentive program can also be evaluated by its attraction of foreign capital. Although most investment laws do not distinguish between foreign and domestic investment, they are designed primarily to induce foreign investment in the country.
About 40 per cent of the S/513 million authorized for investment in Ecuador from August 9, 1962 to December 31, 1964 came from foreign sources;78 in 1965, however, the preponderance of the capital (80 per cent) was from domestic sources.79 No restrictions are made on investment of foreign capital, and capital and earnings may be repatriated with little difficulty. Earnings and interest remitted abroad are subject to a 40 per cent witholding tax unless exempted.
It is difficult to determine the extent to which fiscal incentives have attracted foreign capital to India, but it is believed to be small. Net inflow of foreign capital into the private sector between 1950 and 1960 is estimated to account for a little over one tenth of the net capital formation of the sector.80 Because of India’s nonselective incentive system, it is not possible to determine how much was identified with the reduced tax liability.
Pakistan has made various guarantees and concessions to foreign capital, including free remittance of earnings and repatriation of capital invested in approved industries after September 1, 1954. Relief from double taxation is available for investors in many countries with which Pakistan has agreements. A State Bank of Pakistan survey places the inflow of foreign investment (cash, reinvested earnings, and capital equipment) during 1950-60 at Rs 290 million. A little less than one fourth of the total inflow was in manufacturing and a little over two fifths in mining and quarrying.81
Foreign capital has played a prominent part in Israel’s investment program. Between 1959 and 1962 the amount of foreign capital entailed under approved investment plans increased from 28.5 per cent to 77.0 per cent of the total; preliminary figures for 1963 show a drop.82 The United States and Canada are the most important sources, followed by Latin America and Switzerland. However, much of the foreign capital flowing to Israel is not covered by approved investment projects. The incentive law of Israel imposes no conditions on the participation of citizens as to financing, management, or employment. Nonresidents are entitled to repatriate capital investment in approved projects and to reinvest earnings, under certain restrictions, at the official exchange rate.
Foreign capital has played an important role in Jamaica’s industrial development. At the end of 1964, 44.1 per cent of the total number of firms were foreign, but they accounted for 58.4 per cent of the total capital investment in approved businesses.83 In Trinidad and Tobago the number of domestic firms greatly outnumbered the foreign ones—107 against 60 foreign in March 1965, but foreign capital dominates.84 A survey of 1959 capitalization of 52 firms showed that 83.4 per cent of the total was foreign in origin. Most of this (over 40 per cent) was from the United Kingdom, and the next largest part (27.5 per cent) from the United States and Canada.85
Recently there has been a substantial flow of foreign capital to Nigeria, much of which has been attracted by the expanding petroleum industry, which does not qualify for pioneer status.86 It is significant, however, that all but 5 of the 134 pioneer companies established between 1955 and 1965 were owned exclusively by foreigners or jointly by foreigners and the Nigerian governments;87 of the 60 jointly owned companies, 10 are financed almost entirely by Nigerian governments, the rest predominantly by the foreign owners. A survey of 366 companies undertaken in 1963 showed that 81 per cent of the foreign investment was by branches of foreign companies, with the remainder divided about equally between subsidiaries of foreign companies and local firms.
Cost in revenue
In the last analysis, the efficacy of an investment-incentive program must be evaluated in terms of the price paid—or revenue sacrificed—in exchange for the benefits of the new business to the economy. Given a basic revenue system that reflects the public view of the proper distribution of tax burden, any exception such as tax relief to attract new industry is a subsidy that can be justified only for valid economic or social purposes. At most, the tax concessions, in principle, should be only sufficient to induce the establishment of a new business or the expansion of an existing business in the country.
Because of the different degrees of risk in most new ventures, it is difficult to gauge the size of benefits necessary to attract a new business. At best, the award is based on well-informed negotiations between the government and the promoter; or it may be automatically granted in accordance with some criteria established in the law. In some cases the threat of locating elsewhere is a decisive element in such decisions. In many cases it can be presumed that the government surrenders more than is necessary to secure establishment of the business. Since it is impossible to determine by how much tax benefits actually exceeded the amount that was necessary to induce the business, it is not possible to measure the cost of these programs against the benefits received.
Nevertheless, it is of some interest to estimate, so far as possible, the gross revenue loss attributable to investment-incentive programs, and to try to discover what importance is attached to such benefits by business promoters. The amount involved may then be appraised in the light of total employment and incomes generated currently, as well as the longer range effect on the growth of the economy in future years, especially when the tax exemption terminates and these companies are fully-fledged taxpayers.
Needless to say, the value of the exemption varies with the size and scope of the tax concessions granted. If the business would ordinarily be taxed at modest rates, or by reason of lax administration evade its true tax liabilities, there would be little if any advantage in seeking the tax benefits. Indeed, they may be against the advantage of some firms when the tax relief entails burdensome compliance costs and regular government surveillance. It is notable, however, that the paramount advantage is generally found with respect to import duties—especially exemption of raw materials and supplies—rather than with income taxes, although the situation of course varies with individual firms and countries. Exemption from import duties is usually more essential than income tax relief to manufacturing businesses that depend on imported materials or components.
The industrial development laws of Costa Rica have accounted for a large part of total customs exemptions. The value of exemptions jumped from ¢ 14.2 million in 1963 to ¢ 37.1 million in 1964, when it amounted to 18.5 per cent of all customs revenues and 8.5 per cent of total revenues.88 However, the government recoups some of these losses by a consumption tax (Ley del Impuesto de Consumo) enacted in early 1964. This authorizes the Executive to impose sales taxes on items that had come to be produced domestically under the Industrial Protection and Development Law, including a compensating tax on the imports. Complete discretion was given to the Executive to negotiate the tax with the manufactures in matters such as the items taxed and tax rates under general rules laid down by law. By the end of 1965, 5 different items were subject to sales tax, and they accounted for more than 20 per cent of the total internal excise and sales taxes collected in 1965.89
A questionnaire survey shows some evidence of the effect of Costa Rica’s investment laws on the decision to invest there.90 Although practically every firm surveyed mentioned tax relief as a factor, roughly two thirds of the respondents indicated that they would have made the investment even if it were not available. Different firms were interested in different aspects of tax relief, but the incentives apparently were of greater importance to smaller firms than large ones, especially those dependent on imports. Exoneration from income tax was of less significance, partly because of the likelihood of operating losses in the formative years.
Fiscal data for Mexico through 1957 show that the gross revenue sacrificed was relatively minor in relation to total tax revenues. Between 1949 and 1957 it averaged 2.8 per cent of hypothetical tax receipts (including the revenue loss).91 Import duties accounted for 47.4 per cent of the revenue loss, income tax 32.5 per cent, and commercial taxes 20.1 per cent. The total loss ratio remained remarkably stable from year to year, although its composition changed. In the early years (1948-52), income tax loss equaled or exceeded that attributable to import duties.
Mexico’s long experience raises the question of the need for substantial tax incentives in a country that has reached its stage of development. The earlier tax benefits, it is believed, did help to attract basic producers such as iron and steel and cement companies, and was of some importance to nonbasic industries. After 1950, however, its attraction diminished as the law became more restrictive and the benefits were curtailed.92 According to a survey based on experience before 1959, tax exemption was not a decisive factor for any firm, and most firms did not even take it into account: 14 firms stated that they “definitely” would have started business without the exemption; 9 “probably” would have started; and only 1 probably would not have started.93 It is also reported that all the 150 companies (covering 160 projects) which were denied exemption between 1951 and 1955 undertook operations anyway. Nevertheless, 11 firms reported that the exemption had been “very helpful” and 12 that it had been “helpful”; only one stated that it had not helped.94
Tax exemption thus appears to have been only a minor factor in stimulating Mexico’s industrialization. Tariff protection, according to Ross and Christensen, can be said to be important in that it made possible the profits to which the tax exemption applies, and proved to be the biggest factor in the economic feasibility studies.95 Considerable impetus, however, is ascribed to the provision of the incentive law which requires a 60 per cent limit on the percentage of direct costs which may be accounted for by raw materials from foreign sources.96 This is believed to have accelerated the establishment of many suppliers and ancillary industries.
Jamaica and Trinidad and Tobago
The income tax forgone by Jamaica represents a modest part of total corporation-tax revenues, and was partly compensated for by tax on other incomes generated. Between 1959 and 1963 the gross revenue loss ranged between 1.3 and 2.8 per cent of corporate-tax revenues and averaged about 2.2 per cent.97 These income tax benefits were greatly exceeded by relief from customs duties and tonnage tax: in 1963, duty drawbacks amounted to 2½ times and, in 1964, unaccountably triple the income tax relief.98 Virtually all of the customs relief was received under the Export Industry Encouragement Law, without which the Law probably would not have met with any success. The formation of these new businesses undoubtedly contributed to a much higher volume of imports which were converted to finished goods for export. So the absolute amount of import duty relief is a very misleading measure of “cost” to the Government.
Over a 10-year period the ratio of benefits to cost of the Pioneer Industries Encouragement Law and the Industrial Incentives Law is estimated at 0.38.99 If indirect benefits attributable to the income-generating effect are included, the benefit-cost ratio increases to about 0.66. However, since most of the investments probably would have taken place in the absence of the tax benefits, the real benefit-cost ratio was considerably lower. Chen-Young concludes that “in their present form the tax incentives to firms oriented to the local market do not appear to be economically justified.”100
The excessive liberality of the Panama law was recognized in 1957, when it was amended to reduce the maximum exemption period from 25 to 15 years and to eliminate the tax-stabilization provisions. Except for special legislation, the remaining major tax concessions cover only import duties, export taxes, and income taxes on foreign sales. The gross revenue loss in 1961 is estimated at about 9.3 per cent of total revenue that otherwise would have been collected, with import duties accounting for about three fourths of the loss.101 Although income tax relief is of less importance, the five most profitable firms account for more than 90 per cent of the total. The OAS survey of Panama’s revenue system concluded that the current law has three major shortcomings: (1) excessive exemption period; (2) excessive liberality of the tariff protection; and (3) the unnecessarily broad customs exemptions.102
The Philippines has also curtailed the liberality of the tax concessions under its Basic Industries Act. In 1959 it made all qualified companies fully subject to income tax; in 1961 it repealed all previous tax-exemption laws and defined more explicitly those industries provided relief from special import tax, compensating tax, and tariff duties; and in June 1964 it limited exemption to basic industries with a profit on domestic sales of 30 per cent or less of the cost of production. According to present law, exemptions from the various import duties are scheduled to diminish from 100 per cent through December 31, 1965 to 50 per cent in 1969 and 1970, after which they will terminate. As a result, the relative tax loss from the Basic Industries Act has been significantly reduced. Between the fiscal years 1958/59 and 1963/64, the ratio of gross tax loss to actual tax revenues declined from about 12.5 per cent to 1.6 per cent. Inclusion of the tax concessions from the various special incentive laws raises the 1963/64 ratio to about 3.2 per cent of total tax revenues.103
It is estimated that Nigeria’s pioneer industries laws accounted for a reduction of about £6 million in income taxes between 1955 and 1965; this revenue loss approximated 10 per cent of corporate taxes that otherwise might have been collected.104 Import duty concessions to pioneer companies during this period are estimated at £17 million. If the cost of other direct financial benefits of £14.3 million provided by the Nigerian Government is taken into account, the total cost amounts to an estimated £37.3 million. Whether these tax inducements are essential to the attraction of foreign capital is very debatable. One expert believes that although they are extremely generous, they are nevertheless necessary to compete in the international capital market.105 This view is disputed by Aluko, who concludes that they play a minor role in inducing the large international businesses to establish themselves in Nigeria, and need drastic revision if the interests of the country are to be served equally with those of foreign investors.106
During a recent 3-year period the tax benefits realized by approved companies in Morocco are estimated about 1.8 per cent of total tax revenues.107 About 40 per cent of this amount is attributable to exemption from customs and about 25 per cent to the investment bonus.
India’s tax-holiday and investment allowances are nonselective in application, and it is not possible to identify the revenue loss. Partial data suggest that the total reduction in revenues (including the loss-offset provision) amounted to about 3 per cent of total taxes raised between 1957/58 and 1961/62.
The revenue cost of the Republic of China’s tax-exemption laws has risen steadily from less than 1 per cent of total tax revenues otherwise collectible in 1957 to 13.5 per cent in 1964. Import duties and commodity taxes have been the major source of tax remissions for exports, while income taxes and stamp taxes have been most important under the investment program. In the fiscal years 1963 and 1964, remitted customs duties amounted to 39 per cent of actual collections and income taxes exempted under the tax-holiday provisions represented 29 per cent of actual corporation income tax revenues.108
The Republic of Korea’s tax-exemption program represented about 8 per cent of corporate taxes collected in 1964, and its reinvestment allowances another 10 per cent. However, the gross revenue loss from both measures amounted to about 2.2 per cent of total Central Government tax revenues.109
Summary of appraisal
It is impossible to determine conclusively the “success” or “failure” of any country’s investment-incentive program because we do not know what the record would have been in its absence. While few would question the positive influence of tax benefits in stimulating new investment, few agree on the weight that should be attached to them.110 Fragmentary questionnaire data in several countries suggest that their role in promoting new domestic industry has often been overestimated. There appears to be some correlation between the opportunities for private investment in different countries, including the government’s attitude toward free enterprise, and the record of industrial and agricultural development. This relationship suggests the need to adjust the value of the incentives in general to the level of economic development, as well as to the political and economic risks incurred in new business ventures.
Because of limited data on employment and the value added by approved firms, the amount of investment may be taken as one measure of their importance. Data for several countries indicate that they account for up to 12 per cent or so of gross private investment. This ratio appears to be a respectable proportion when it is considered that the incentives cover substantially only one segment of total investment—that represented by manufacturing industry and in some countries hotels as well as agriculture—and exclude housing, transportation, public utilities, and commercial buildings. In several countries an appreciable contribution also appears to be made to total direct employment.
Against these benefits must be weighed the costs. The only measurable costs are in terms of gross tax revenues sacrificed, which range from 2 per cent to 13 per cent of total tax revenues otherwise collectible by the countries covered. These data can be misleading, however, because they do not take account of tax revenues generated by the new ventures. Moreover, this revenue would not be lost if the venture were not formed in the absence of the tax concession. This is most clearly true of import duties, which account for most of the loss in the countries covered, since many export and import substitute industries could not survive without exemptions from duties on raw materials, components, and supplies. Assembly-type businesses and those intended to promote exports are most affected. The true revenue loss, which cannot be estimated, is attributable to tax concessions granted for investments that would have been made anyway.
An economic cost to the community is incurred if the tax concessions cause resources to flow into less productive uses than they would have gone into under a more neutral tax system. Perhaps the outstanding examples are certain import-substitute industries which can exist only with a high degree of protection from tariffs or quantitative restrictions.
Harmonization of Tax-Incentive Laws
There is much concern over possible undesirable consequences of competition among countries in offering tax inducements to foreign capital. When one country offers unusually liberal tax benefits, it may divert capital from other countries. Other countries may feel compelled to match or exceed the benefits extended by the first country in order to avoid the loss of capital inflow. This situation can lead to successively more generous concessions and substantial sacrifices of revenue without commensurably increasing the flow of capital to the developing countries.111 The rapid spread of tax-incentive plans suggests that international competition has stimulated their adoption, but it is not clear to what extent the undesirable results mentioned above have in fact occurred.
Two questions arise in this connection: First, to what extent is the fear of diversion of capital owing to unequal tax treatment warranted? Second, what, if any, measures can reasonably be recommended to avoid beggar-my-neighbor policies?
Influence of tax benefits on the flow of international capital
The weight of the evidence indicates that tax considerations are far less influential than other factors in the location of industry. This conclusion is supported by numerous questionnaire surveys taken in both capital-exporting and capital-importing countries. The limited reactions of new industries to the tax inducements granted in Costa Rica, Jamaica, Nigeria, and Mexico were described above (pp. 303-306). These surveys indicated the overriding importance of nontax factors in the promotion of new businesses.
The evidence offered by a more comprehensive survey of 119 industrial enterprises in Argentina confirms this impression. Tax exemptions were cited by only 6 per cent of the firms as among the factors that most influenced the decision to invest.112 In response to a query of how the tax system might be able to encourage future investment, only 7 per cent suggested the exemption from profits tax for a period of years, while 30 per cent suggested lower rates or exemptions of tax on production or sales, 17 per cent avoiding superimposition of provincial and municipal taxes on national taxes, and 12 per cent the establishment of tax-free reserves for reinvestment. Only 5 per cent proposed more liberalized depreciation.113
Many studies and reports have investigated the principal factors influencing the decision of U.S. corporations to invest abroad; among the most thorough and searching is the study of Barlow and Wender.114 Though not concerned specifically with the effect of foreign tax laws, the study provides support for the opinion that tax considerations, abroad as well as at home, are secondary:
We found no evidence to suggest that United States taxes had been an impediment that had prevented particular investments in foreign countries. More important, we found no instance where executives believed that total exemption of foreign income from United States taxes would have tipped the balance and changed a decision that had been made against a particular investment115
More relevant to factors favoring or discouraging investment in a particular foreign country, the study found that 20 per cent of the 247 companies with foreign investment cited foreign or U.S. taxation as a possible reason for not investing, while 57 per cent mentioned inconvertibility, 39 per cent instability of the country, 38 per cent national discrimination, and 26 per cent a limited market or source of supply. Only 10 per cent of the 247 companies expressed an interest in assurances of favorable foreign taxes as a condition of investing abroad, and 12 per cent included more favorable foreign taxes as one of the conditions of increasing the present rate of expansion.116
Based on interviews with more than one hundred foreign investors, Aharoni concluded that it reflects a highly simplified view of investors’ response to tax reductions for governments to assume that reductions in taxes will induce domestic or foreign investors to initiate investment that they would not otherwise undertake.117 Moreover, he demonstrates that tax incentives are an inefficient, costly, and nonselective advertising device.
As indicated above, the primary factors determining industrial location are the opportunities for profits based on comparative costs (such as those for labor, transportation, and power), availability of raw materials, and size of markets, as well as the political and economic risks incurred (including risks of confiscation and inconvertibility). Nevertheless, if all these basic conditions compare favorably between two or more countries which are alternative sites, the location decision could (and probably does) turn on comparative tax costs.
For import-substitute industries, the size of the market is critically important. Owing to the willingness of most developing countries to offer a high degree of protection for domestic industries, the market for the output of new plants is often limited to the country in which they are established. In this situation, a site in another developing country is not a real alternative, and the tax-incentive laws of other developing countries are only remotely relevant to the investment decision. A comparison between the tax systems of the market country and the capital-exporting (or commodity-exporting) country, however, may be highly pertinent. For industries in which efficient plant size is large relative to the market of individual countries—for example, automobile assembly, oil refining, and certain chemicals—there may be opportunities for export to neighboring countries, and the tax advantages offered may have a significant marginal effect on the choice of a site.
For primary products, the export market is the principal outlet, and natural endowments of climate, soil, mineral deposits, and other resources are vital. Countries in the same region may compete in the production of particular crops, and their tax systems, along with other factors, may influence foreign investment in production, processing, and marketing facilities. Mining is even more closely tied to its natural resources base, but varying tax treatments can influence the rate at which deposits in different countries are developed and exploited.
Harmonization among members of common markets or customs unions
When the countries of a region form a customs union or free trade area, the market for import substitutes is widened. The offer of special tax incentives could easily lead to unhealthy competition among participating countries. It is not surprising, therefore, that special attention has been given to the harmonization of the tax-incentive laws of members of the common market areas—Central America, East Africa, Central African Customs and Economic Union, and West African Customs Union.
The General Treaty for Central American Economic Integration, signed in December 1960, called for the establishment of a common market not later than 5 years after its entry into force, June 1961. The new treaty incorporated a previous Agreement on Integrated Industries, which was intended “to promote the establishment of new industries and the expansion of existing industries within the framework of Central American integration.”118
The so-called integration industries are defined as those comprising one or more plants that require access to the entire Central American market in order to operate under reasonably efficient economic conditions. A separate protocol defines each such industry and its country location, capacity, quality standards, participation of Central American capital, and the uniform tariff. One of the objectives is to assure an equitable balance in the location of industries among the five Central American countries. Although initially enjoying the tax benefits granted under the investment code of the country of its location, the agreement extends to integration industries the privileges and exemptions provided under the General Agreement on fiscal incentives.119
A Central American Agreement on Fiscal Incentives to Industrial Development was signed in July 1962; but, failing ratification by Honduras, this treaty has yet to become effective.120 This agreement provides for uniform classification of manufacturing industries entitled to tax benefits, the extent of the exemption in each group, and procedures for uniform administration of the law. It stipulates that the granting of exemptions will be established on a completely regional basis within a period of 7 years from its effective date.
Industries are classified into three categories, A, B, and C, with greatest benefits provided those producing capital goods, industrial raw materials, or consumer goods or containers, 50 per cent of whose materials are of Central American origin, and the least benefits to those not meeting the other specifications or which simply assemble, pack, or dilute products. Enterprises in Categories A and B are also classified as being in either new or existing industries, the former being entitled to greater benefits.
Total or partial exemption is provided for: (1) customs duties on machinery, equipment, raw materials, semifinished goods and containers, and fuels except gasoline; (2) income and profits taxes; and (3) taxes on assets and net worth. The maximum exemption, for Category A, is for a period of 10 years on customs duties and taxes on property, and 8 years on profits. For enterprises classified in Category C, this period is scaled down to 3 years and limited to customs duties. Tax benefits offered new projects in existing industries are less than those in new industries.
The industrial incentive laws of the members of the Latin American Free Trade Area follow the same general tax-holiday pattern but differ widely in scope and extent of the tax benefits. No serious attempt appears to have been made to set common goals for either harmonization of taxes or of investment incentives that would supplement the agreement on customs policy.
The new states of Africa have inherited the fiscal and monetary institutions of the French, Belgian, or British systems under which they were formerly governed, and, whether or not formally bound into customs unions or other forms of integration, comprise large subregions with a common pattern of tax and investment incentive laws. The income tax benefits in French-speaking countries generally take the form of tax holidays, while investment allowances have been more generally employed by English-speaking countries, especially in countries of East Africa and the former Federation of Rhodesia and Nyasaland. Tax-holiday countries also typically provide for customs drawbacks, while others do not always do so.
The countries of East Africa (Kenya, Uganda, and Tanzania) have been under uniform income tax and tariff administration for many years. Major concessions to new investors have taken the form of investment allowances, rather than tax holidays; however, there is no agreement among these countries on rates and coverages of the allowances. The Territorial Customs Tariffs Acts afford protection to industry by protective duties and duty-free admission of agricultural and industrial machinery, and raw materials; and the Territorial Local Industries Acts provide for refunds of duties on raw materials used in industry.
The countries of former French colonial territories have achieved much greater integration than those in other areas. There is a considerable degree of similarity in the financial structure, fiscal systems, and investment laws of the Central African Customs and Economic Union, formed on December 8, 1964. It consists of Cameroon,121 Chad, the Central African Republic, Gabon, and Congo (Brazzaville). The predecessor Equatorial Customs Union had agreed on the jurisdiction to grant tax benefits within the area and had adopted virtually identical investment codes. Enterprises deemed to be of importance to economic development were classified into three categories: Category A, all enterprises with activities wholly within the territory of one country, which has complete jurisdiction over fiscal benefits; Category B, enterprises whose markets extend to two or more countries, over which the Administrative Committee of the Customs Union has jurisdiction; and Category C, enterprises of special importance with large investment. These are within the jurisdiction of a single country or the administrative committee, depending on the scope of the firm’s activities.
The establishment of the Central African Customs and Economic Union by the Brazzaville treaty of 1964 marked a major step toward the integration of the customs and fiscal systems of the Equatorial Customs Union countries with Cameroon, which came into force January 1, 1966. This Union calls for the unification of all import taxation, exemptions from custom duties as well as the harmonization of their investment codes, and a further harmonization of the internal tax systems so far as this is necessary for coordination of investment and of transport projects.122
There is a similar pattern in the investment-incentive laws of the West African Customs Union, consisting of Dahomey, Ivory Coast, Mali, Mauritania, Niger, Senegal, and Upper Volta.123 However, these differ from the laws of English-speaking West African countries such as Sierra Leone, Nigeria, Ghana, and Liberia.
Harmonization in regions
Some measure of uniformity of investment codes may be found among emerging nations in other subregions of the world, principally by virtue of the common origins of their institutions in the colonial regime. A common scheme appears to rule among British Commonwealth territories and states in the Caribbean area. Although Jamaica and Trinidad and Tobago have followed separate paths since independence, they have not departed significantly in the provisions of their investment laws. One of the unsettling factors in this area is the attraction of Puerto Rico’s tax exemptions, which have recently (1963) been further liberalized. In addition to enjoying the unusual advantage of operating within the U.S. customs area, Puerto Rico offers new industries complete exemption from income tax, real and personal property taxes, and certain municipal taxes for 10 to 17 years, depending on location, with an option of electing a 50 per cent reduction in taxes for double the time period.
Following the split in the Federation of Rhodesia and Nyasaland, each country began to follow independent tax and investment policies. Rhodesia and Malawi have continued to employ investment allowances, at rates of 15 per cent and 10 per cent, respectively. Zambia, however, under its Pioneer Industries (Relief from Income Tax) Act, 1965, grants pioneer industries initial exemption from income tax for a period ranging from 2 years to 5 years, depending on the amount of the capital investment. It is also the policy of the Government to provide tariff protection to new and developing industries on a selective basis, and to grant exemptions on imports of raw materials and components for manufacture.
The UN Economic Commission for Africa has devoted considerable attention to the need for greater uniformity of tax laws and of investment-incentive laws, with the objective of avoiding undue competition in the attraction of capital from abroad. In addition to compiling and analyzing the investment laws of African countries, in December 1965 it conducted a seminar on current problems of taxation in accordance with the following Resolution 140 (VII) adopted by the Commission at its plenary meeting on February 22, 1965:
The Economic Commission for Africa:
Recognizing the importance of coordinating programmes of industrial development in African countries in order to achieve maximum economic growth,
Recognizing the dangers inherent in competition among African States in the provision of economic incentives and industrial legislation to attract capital investment,
Noting that a preliminary study of African investment codes including data on current legislation has been prepared at its request and will shortly be published,
1. Recommends to the Governments of member States and associate members of the Commission that they should review and if possible harmonize industrial legislation and incentives through the sub-regional offices of the Commission;
2. Requests the Executive Secretary to report to the Commission at its next session on the progress made.124
There are major differences in the pattern of investment incentives in other important regions. Pakistan and India, for example, follow basically different approaches. Also, economic rivalry among the Republic of China, Hong Kong, Malaysia, Singapore, and Thailand appears to extend to their investment codes.
Summary of harmonization
The available evidence suggests that, in general, developing countries need not be concerned about matching the tax benefits of other countries in order to attract foreign capital for new industries. Tax considerations typically play a role subordinate to more basic economic factors in the location of industry. Competitive bidding among countries by the offer of more and more generous tax concessions tends to reduce revenues from foreign investment without increasing the total flow of capital, especially for import-substitute industries serving a domestic market.
Under some conditions, however, differences in tax margins may influence the location of industry. One example is a large region that can be economically served by an export industry, especially where there are good transportation facilities and no significant trade barriers. Voluntary adherence by the countries of the region to reasonable standards may be sufficient to limit unhealthy competition; such standards could be enforced through international agreements or conventions.
Harmonization is especially desirable among members of a common market (or free trade) area. The countries of several such trading areas have negotiated workable agreements which not only have standardized tax benefits but also have provided for the uniform implementation and administration of investment laws. But uneven economic development of the different members of such a common market as to natural endowments and infrastructure may necessitate appropriate adjustments in the tax and other benefits provided.
Where there is prospect of the emergence of a common market, countries with similar tax systems would be advised to consult among themselves with a view to arriving at a formal agreement.
Investment laws serve an important purpose in laying down the basic conditions for the establishment and operation of businesses in developing countries. One of the typical features of such laws is the provision of tax benefits intended to induce the establishment of new businesses (and sometimes the expansion of existing ones) that will advance a country’s development. These laws differ widely in the nature and scope of the tax benefits offered, partly by reason of the competition among rival countries for the attraction of foreign capital. It is desirable to establish better standards so that such laws can be better designed to stimulate the development of the economy without undue loss of revenue.
Such investment incentives are intended not only to remove possible tax barriers to the establishment of new businesses, but also to provide some positive inducement to new investment that otherwise would not be undertaken. Their effect is to increase profit margins so as to enhance the expectations of recovering the capital investment and to reduce the risk involved in new ventures.
Special incentives alone are not an adequate tax policy for development. It is of fundamental importance that the country should also have a sound and equitable set of taxes to which businesses will be subject after the temporary tax benefits have expired and which apply to firms that are not eligible for the special benefits. For a manufacturing industry, this means not only moderate tax rates but also a fair tax base: provision might be made for liberal depreciation allowances, loss offsets, and other mitigating features. For agricultural and mining enterprises, it may call for the expensing of development expenditures and similar means of deferring taxable income. There must also be confidence in the enforcement of the tax laws that avoids discrimination and arbitrariness.
An effective industrial development program, moreover, cannot rest on tax provisions alone but depends as well on coordinated efforts in other areas that will attract and expedite the promotion of new businesses and encourage the expansion of old businesses. Measures that have proved helpful include a promotion program that publicizes the business opportunities in the country, based on expert analysis of sources of materials, labor, power, and markets; provision for limited capital financing through an investment bank; a legal structure that provides for fair labor laws and machinery for the settlement of disputes; assurances as to the transfer of capital and earnings to investors abroad; guarantees against expropriation of capital; and a variety of other provisions that all combine to establish a favorable economic climate for business. Government programs to attract foreign investors should be designed primarily to reduce risk and uncertainty, and to stimulate the decision to invest abroad through an integrated investment strategy.
Coverage of incentive laws
Incentive laws are typically designed to promote industrial rather than agricultural development, although the emphasis varies. A basic distinction is made between promoting the manufacture of import substitutes and stimulating production for export, the latter being principally (but not exclusively) agricultural and mining projects.
Some countries pursue an import-substitution program in the belief that industrialization best protects a country against dependency on production of primary materials and secularly deteriorating terms of trade. However, unless broadened by customs or common market agreements, the domestic market for most developing countries is too small to permit efficient manufacturing of many items.
There is an increasing realization of the desirability of developing a country’s natural advantages by promotion of export industries. These include manufacturing as well as the processing of agricultural and mining products. Many countries have successfully pursued a policy of exempting imports of raw materials for domestic fabrication and export. Greater attention is also being given to the construction of hotels and other facilities for the attraction of foreign tourists.
Tax benefits of many countries are limited to so-called pioneer industries. These are industries that are new to the country and that are expected to reduce the importation of goods for which there is a local demand. The concept of a pioneer industry is sometimes elastic, and may cover an industry for which existing firms do not fully meet total demand for the product at reasonable prices and qualities. Other countries recognize the need to attract new firms in established industries, sometimes by a lower scale of tax benefits. It would appear desirable to retain flexibility in this respect, so as to avoid both local monopolistic positions and undue competition that might impair existing interests in the market. Due account also should be given to the size of the export market, whether within or without an integrated economic area. There would appear to be no justification for a restrictive policy as to benefits for export industries, except as may be necessary to assure some reasonable allocation among members of an economic union.
Several countries follow a most-favored-company policy of extending tax benefits to all new companies that qualify in a pioneer industry. The benefits generally match those of the initially qualifying company for the unexpired period of its grant. Although this policy may be defended on equity grounds, it may prove costly in terms of revenue.
Minimum capital investment is sometimes required as a condition of a grant; the extent of the tax benefit also may be graduated with the size of the capital invested. Such concessions are made in recognition of the crucial role played in a country’s development by certain major industries, as well as the greater bargaining power of the larger enterprises. But such policy discriminates against small businesses, frequently financed by local capital, that should be encouraged.
Most investment codes are designed primarily to attract foreign capital, although in some countries certain restrictions are imposed as to foreign control. Such restrictive provisions inhibit the flow of international capital, and their deterrent effect on new investment should be weighed against any real dangers believed inherent in foreign ownership of local industry.
With few exceptions, tax benefits are approved by an agency (or committee) of the government rather than being open to all who meet certain criteria (as in Pakistan and India). The nondiscretionary approach is more objective and avoids troublesome administrative problems and uncertainties involved with the discretionary system. Unless the level of benefits is limited, however, it may involve considerable revenue loss without attracting those industries believed most essential to economic development. An advantage in making the grant discretionary is that each project can be evaluated on its particular merits, and in the light of feasibility studies. In this way, prospective benefits to the economy can best be measured against that loss of revenue sacrificed. Such determination, however, requires a technical level of competence that is not available to all developing countries, and is exposed to possible bribery and other inequities.
There is increasing recognition of the need for an industrial development board to review and coordinate all activities concerned with promotion of new businesses, including the approval of tax benefits. This Board should include the finance minister, minister of economy (or development), minister of agriculture, and the national planning board (or the equivalent of officials and these agencies), as well as other interested agencies, and should be staffed by technicians trained in economics, finance, engineering, and other relevant skills.
Since undue delays tend to frustrate business planning, provision should be made for expeditious review of proposals, and a decision within a reasonably short period of time from the initiation of the request.
Exemption from import duties
Complete or partial exemption from import duties on capital goods, raw materials, and supplies is almost universally granted. Exemption from duties on machinery, equipment, construction materials, and so on, not only reduces capital requirements but also assures lower fixed costs of operation. Exemption from duties on raw materials, components, and supplies is commonly the source of most apparent revenue cost. But the revenue loss from this source is frequently illusory since the raw materials, components, and supplies otherwise might not be imported, especially when they form the basis of an export industry.
A major issue arises over the length of the exemption period. In principle, this should be long enough to assure continued successful operation of the business. It raises a related tariff-policy issue of whether raw materials and construction materials should, in principle, be subject to customs duties if it is not feasible to produce them domestically on a competitive basis.
A protected market is frequently indispensable to the successful launching of new businesses serving a domestic market. The infant-industry argument usually provides the basis for the imposition of protective duties in the absence of already existing high rates. Unless relaxed within a reasonable period of time, however, high duties encourage a monopolistic situation and place a high price on the establishment of import-substitute industries. Therefore, they should be granted preferably for a reasonable time period, with provision for review at their expiration.
Income tax relief
A key issue is the nature and extent of relief from income tax that is appropriate to the establishment of a new business or the expansion of an established one. Broadly, two different approaches are employed: (1) special investment allowances or grants and (2) a tax holiday, or partial or complete exemption from income taxes for a period of years. (Also, provision is frequently made for favorable tax treatment of earnings reinvested.)
Investment allowances, generally ranging from 10 to 50 per cent of capital investment, taken in the early years, permit a business to recover free of tax 110 per cent to 150 per cent of its investment in depreciable assets. Such allowances, in conjunction with accelerated depreciation, may be as valuable to some businesses as a tax holiday, are readily determinable, and set a ceiling on the revenue loss to the government. Tax holidays are more widely employed (although varying considerably in length of period and other conditions) and are generally thought to be more attractive as an incentive. Moreover, they are relatively neutral in comparative attraction of capital-intensive and labor-intensive industries. On the other hand, they are usually open ended as to the amount of tax benefits, and cannot readily be applied to expansions of existing firms.
A major policy question arises over the length of the tax holiday. A period of 5 years (with appropriate adjustment for loss years) is typically provided, and should be sufficient for most purposes. However, it may be desirable to provide for some latitude, within an over-all fixed time limit, for discretionary extension of this period, especially for major projects and those with a long gestation period.
One method of combining some of the advantages of both techniques is the provision of a tax holiday for a new project, with a limitation on the amount of exempt earnings to a certain number of years or a specified percentage of invested capital (such as 100 per cent), whichever is the lesser. Deferment of depreciation allowances in connection with a tax holiday, as practiced by some countries, conceals and unduly magnifies the benefits; notional depreciation allowances during the holiday period better accords with accounting principles and avoids unnecessary revenue loss.
Preferential tax treatment of reinvested earnings is both administratively impractical and undesirable from revenue and economic points of view. If it is desired to encourage the expansion of an established business, this can more feasibly be accomplished by an investment allowance for new investment.
To assure more effective use of tax-holiday or investment-allowance benefits, it is important to provide for the offset of losses incurred during the initial period against earnings of later years. This can best be accomplished by the carry-over of unused investment allowances or loss carry-overs for tax holidays.
The tax treatment of distributions of tax-exempt earnings is a complicated issue. Tax exemption of dividends to domestic shareholders presents few problems, but dividends to foreign shareholders should not be exempted unless they are free of tax in the country of domicile. Otherwise, the developing country would needlessly sacrifice tax revenues received by the capital-exporting country. When the capital-exporting country does not provide for unilateral tax exemption of such dividends, steps should be taken to negotiate a tax agreement which exempts them from tax or provides a credit for taxes that otherwise might be imposed by the host country (i.e., tax sparing agreement).
Investment codes frequently exempt domestic sales of approved firms from sales or turnover taxes for a specified period. Such exemption appears to be excessive considering that the import-substitution policies of many countries already involve substantial losses of revenues from import duties. The taxation of domestic sales would appear to be a desirable compensation for the loss of import duties, and would not necessarily deter sales in a protected market. Compensating sales taxes (as in Costa Rica and Jamaica) then could be imposed on imported articles that are competitive with those taxed domestically.
There would appear to be even less justification for exemption from other taxes. Property taxes, for example, are generally imposed by local governments and are more akin to prices paid for local services which municipalities can little afford to sacrifice. Export taxes are not generally applicable to manufactured goods and pose less of a revenue problem. Miscellaneous stamp duties and business taxes are also of minor significance and might well be borne by the new enterprise.
Encouragements d’ordre fiscal en faveur des investissements dans les pays en voie de développement
Les pays en voie de développement offrent presque tous des exemptions fiscales aux nouveaux investissements, afin d’attirer les capitaux, tant étrangers que nationaux. Il est probable que la plupart des lois relatives aux investissements sont conçues expressément pour encourager les industries destinées à remplacer les importations, bien que certaines—particuliérement en Afrique et en Asie—encouragent aussi les industries d’exportation.
Les lois qui réglementent les investissements prévoient généralement un régime fiscal préférentiel en ce qui concerne tant les importations que le revenu; les allégements s’étendent parfois aux impôts sur la fortune, les ventes et les exportations, ainsi qu’aux patentes. En général, il semble que la remise des droits d’importation soit plus avantageuse, pour les industries manufacturiéres, que l’allègement de l’impôt sur le revenu. Mais les lois d’encouragement des investissements s’accompagnent d’habitude de mesures d’allègement de l’impôt sur le revenu, sous forme d’abattements au titre des investissements ou d’exemption d’impôts. Une exemption de cinq ou dix ans est généralement plus avantageuse qu’un abattement au titre des investissements, car elle entraîne une réduction plus importante des charges pesant sur l’entreprise; en outre, elle fait moins de distinction entre les industries exigeant surtout des capitaux considérables et celles qui demandent une forte quantité de travail par unité de production, notamment les projets agricoles. En revanche, les abattements au titre des investissements se prêtent davantage à une application générate qu’à une mise en œuvre sélective et s’adaptent mieux à une expansion des entreprises existantes; de plus, comme les bénéfices en sont limités, les recettes de l’Etat sont mieux sauvegardées.
Les renseignements dont on dispose semblent indiquer qu’en général les pays en voie de développement n’ont pas à se préoccuper, en cherchant à attirer les capitaux étrangers, d’égaler les avantages fiscaux offerts par les autres pays. Les faits observés montrent que les considérations fiscales sont bien moins déterminantes, du point de vue de l’implantation d’industries nouvelles, que certains autres facteurs politiques et économiques. Par contre, lorsque Pinstallation d’une nouvelle industrie est économiquement valable à l’échelon régional, I’harmonisation des encouragements d’ordre fiscal est souhaitable pour restreindre une concurrence nuisible, particulièrement entre les pays qui font partie d’un marché commun. Des accords concrets ont été conclus dans certains cas, notamment en Amérique centrale et en Afrique de I’Ouest, pour normaliser les avantages offerts et les modalités administratives.
Incentivos tributarios en pro de la inversión en los países en desarrollo
Prácticamente todos los países en desarrollo ofrecen concesiones tributarias a fin de atraer al capital tanto extranjero como nacional hacia nuevas inversiones. Si bien es probable que la mayoría de las leyes de inversión estén expresamente concebidas a fin de promover las industrias productoras de sucedáneos de las importaciones, hay algunas—sobre todo en Africa y en Asia—que brindan también estímulo a las industrias de exportatión.
La mayoría de las leyes de inversión establecen un sistema preferential de impuestos tanto a la importación como a la renta; otras otorgan concesiones en relación con los impuestos sobre la propiedad raíz, ventas o exportaciones, o con los derechos de explotación. Por regla general se estima que para la mayoría de las empresas industriales la franquicia aduanera encierra un mayor valor potential que las reductions del impuesto sobre la renta. No obstante, las leyes que establecen incentivos a la inversión están casi siempre asociadas con la exención del impuesto sobre la renta, ya sea en forma de un aumento de las exoneraciones por inversión, o de la exención total o partial de impuestos durante determinados períodos. De ordinario, la exención de impuestos durante un quinquenio o un decenio es mucho más atrayente que un aumento de las exoneraciones por inversión, pues los beneficios que de ello se derivan tienden a ser mayores, aparte de que resulta más ecuánime para aquellas industrias que requieren grandes inversiones de capital o fuerza obrera en abundancia, entre ellas la agricultura. Sin embargo, las exoneraciones por inversión pueden aplicarse en forma general más bien que selectiva, y se adaptan mejor a la expansión de empresas existentes; además, como los beneficios son limitados, la renta nacional queda mejor salvaguardada.
La experiencia parece indicar que en general los países en desarrollo no necesitan preocuparse por equiparar sus incentivos tributarios a los que conceden otros países que están tratando de atraer capital extranjero. Es más, existen buenas razones para pensar que las consideraciones de orden tributario están lejos de ejercer una influencia comparable a la de otros factores tanto económicos como politicos en lo que respecta al lugar en que se va establecer una industria. Por otra parte, cuando se trata de grandes regiones en que desde el punto de vista económico basta contar con una sola industria determinada para toda la región, es conveniente armonizar los incentivos tributarios a fin de evitar una competencia nociva, sobre todo entre países miembros de un mercado común. Algunos países participates en mercados comunes, tales como los de la América Central y los del Africa Occidental, han concertado acuerdos practicables a fin de conceder beneficios paralelos y uniformar la administratión de sus leyes de inversión.
Mr. Lent, Chief of the Tax Policy Division, formerly served as assistant director of the tax analysis staff, U.S. Treasury Department; consultant, Organization of American States; and research associate, National Bureau of Economic Research, New York. He was on the faculty of the University of North Carolina and Dartmouth College.
United Nations, Economic and Social Council, “Measures for the Promotion of Foreign Private Investment,” Ch. VII in “The Promotion of the International Flow of Private Capital: Fourth Report of the Secretary General,” Official Records of the Economic and Social Council, Annexes (37th Sess., Geneva, 1964), Agenda Item 10 (Financing of Economic Development), Document E/3905 and Add. 1, pars. 289-333 (pp. 56-71).
Agency for International Development, Foreign Aid Through Private Initiative (Washington, 1965), p. 11.
Pedro Mendive, “Tax Incentives in Latin America,” Economic Bulletin for Latin America, United Nations, Vol. IX (1964), p. 104.
For a summary of this thesis and a critical review, see G.L. Hyde, “A Critique of the Prebisch Thesis,” Economia Internazionale (Genoa), Vol. XVI (1963) pp. 463-87. See also Bela Balassa, El Desarrollo Económico y la Integratión [Economic Development and Integration], Centro de Estudios Monetarios Latinoamericanos (Mexico City, 1965), pp. 61-81.
Although Latin American countries continue to emphasize the promotion of manufacturing industries, it is increasingly recognized that this process may have reached its economic limits in some countries. This view is expressed in United Nations, Towards a New Trade Policy for Development, Report by the Secretary-General of the Conference on Trade and Development, E/CONF.46/3, UN Publication Sales No.: 64. II. B. 4 (New York, 1964), hereinafter cited as Towards a New Trade Policy for Development, p. 21: “The simple and relatively easy phase of import substitution has reached, or is reaching, its limit in the countries where industrialization has made most progress. As this happens, the need arises for technically complex and difficult substitution activities, which usually require great capital intensity and very large markets if a reasonable degree of economic viability is to be attained. Thus there are limits to import substitution in the developing countries which cannot be exceeded without a frequent and considerable waste of capital.”
Costa Rica, Ecuador, India, Israel, Ivory Coast, Jamaica, Mexico, Morocco, Nigeria, Pakistan, Panama, Philippines, and Trinidad and Tobago.
United Nations, Economic and Social Council, “The Promotion of the International Flow of Private Capital …” (cited in fn. 1), par. 304, p. 58.
J. Loyrette, “Les Codes d’Investissement,” Penant (Paris), Year 73, April-May 1963, p. 153.
For example, the enterprise agreement between Societe Africain des Cacaos and the Government of Ivory Coast.
Israel Economic Forum, Ministry of Commerce and Industry, Vol. XII, August 1963, p. 68.
Act Authorizing the Exemption of Basic Industries from the Payment of Certain Taxes, Republic Act No. 3127, 1961.
Sanford G. Ross and John B. Christensen, Tax Incentives for Industry in Mexico, International Program in Taxation, Harvard Law School (Cambridge, Massachusetts, 1959), p. 12.
Z. Dinstein, “Development and Investments,” Israel Economic Forum, Vol. XII, August 1963, p. 59.
Pakistan, Central Board of Revenue, Brochure on Taxation of Income and Concessions to Industries in Pakistan (Karachi, 1960), p. 99.
Law of 1946, Article 2, II, published in the Official Gazette, February 9, 1946.
Law of 1955, Article 1, published in the Official Gazette, January 4, 1955.
See K.E. Lachmann, Industrial Promotion Laws in Central America, prepared for the Committee on Economic Co-operation of the Central-American Isthmus, 1960 (mimeographed), pp. 36-41.
Costa Rica’s Industrial Protection and Development Law (No. 2426, 1959) provides: “The benefits granted to one or more industrial plants for initiating or increasing a specified industrial line shall be granted under equal conditions to all those who are dedicated or who may dedicate themselves to producing like or similar merchandise, provided it is demonstrated that the size of the market permits the economic functioning of several plants and provided the new applicants assume obligations equal to those of the established plants” (Article 33).
Ross and Christensen, op. cit., p. 64.
Provision could be made, as in Costa Rica, Haiti, and Jamaica, for compensating excise taxes on the domestically produced product that would offset the loss of import duties.
For text, see United Nations, Economic Commission for Latin America, Report of the Eighth Session of Central American Economic Co-operation Committee, December 1960-January 1963, E/CN.12/672, E/CN.12/CCE/303/Rev. 1, UN Publication Sales No.: 63. II.G. 12 (New York, 1964), pp. 56-62.
Johannes R. Kahabka, Tax Incentives for Private Industrial Investment in Less Developed Countries, International Bank for Reconstruction and Development, Report No. EC-102 (Washington, 1962), pp. 3-6.
See also discussion below (p. 280).
Investment credits such as the United States provides fall in the same category but no such technique appears to be employed by developing countries.
First Secretary of State and Secretary of State for Foreign Affairs, Chancellor of the Exchequer, and President of the Board of Trade, Investment Incentives, Cmnd. 2874 (London, 1966).
Several of the more developed countries follow a similar policy for the encouragement of new industries in certain depressed areas. Canada has granted 3-year tax exemptions (since June 1965, outright grants) to industries locating in designated areas; the United Kingdom has extended greater investment allowances (now grants) to businesses locating in developing areas. Since 1947, Italy has offered special tax concessions and other benefits to promote the locating of new industries in the south (Gardner Ackley and Lamberto Dini, “Agevolazioni fiscali e creditizie per lo sviluppo industriale dell’Italia meridionale,” Moneta e Credito (Rome), Banca Nazionale del Lavoro, Vol. XIII, March 1960, pp. 25-52).
For an excellent systematic treatment, see Jack Heller and Kenneth M. Kauff-man, Tax Incentives for Industry in Less Developed Countries, Harvard Law School, International Program in Taxation (Cambridge, Massachusetts, 1963), pp. 86-195. See also Richard Goode, “Accelerated Depreciation Allowances as a Stimulus to Investment,” Quarterly Journal of Economics, Vol. LXIX (1955), pp. 191-220.
The Republic of China, for example, grants 5-year tax exemption to income attributable to a plant expansion that increases productive capacity by 30 per cent (Article 5).
A.R. Prest, A Fiscal Survey of the British Caribbean, Colonial Office, Colonial Research Studies No. 23 (London, 1957), pp. 28 and 102; J.E. Meade, “Mauritius: A Case Study in Malthusian Economics,” The Economic Journal (London), Vol. LXXI (1961), pp. 521-34.
Many countries allow expensing (current deduction) of costs of opening up new land and of planting new trees. For example, effective with 1965/66, Ceylon permits a current deduction for capital expenditures incurred in clearing; draining; terracing; and constructing roads, wells, and irrigation channels—as well as the cost of young trees, poultry, and livestock. Expenditures incurred in erecting buildings, plant machinery, and fixtures are entitled to lump-sum depreciation and development rebates. See Inland Revenue Act, No. 4 of 1963, sections 53(2) (a) and (b).
Development Ordinance, 1960, Article 11(3).
For further discussion of these methods, see Organization for Economic Cooperation and Development, Fiscal Committee, Fiscal Incentives for Private Investment in Developing Countries (Paris, 1965), especially pp. 15-22.
Article 8 provides: “This exemption [from income and profits taxes] shall not be granted if the enterprise or its members are subject in other countries to taxes that make the exemption ineffective.”
Joint Tax Program of the Organization of American States and the Inter-American Development Bank, Fiscal Survey of Panama (Baltimore, 1964), p. 173.
Ross and Christensen, op. cit., pp. 72 and 77.
Sheldon L. Schreiberg, “The United States Private Investor and the Central American Common Market,” in U.S. Congress, Joint Economic Committee, Latin American Development and Western Hemisphere Trade, Hearings before the Subcommittee on Inter-American Economic Relationships (89th Cong., 1st Sess.), September 8-10, 1965, p. 272. One producer in Costa Rica remarked: “It wasn’t incentives but the increase of tariffs from 20 to 80 per cent of value on competitive items from outside the area that permitted us to survive.”
This is alleged to be the case in Panama. See OAS survey (cited in fn. 33), p. 173. The UNCTAD report (cited in fn. 4), p. 22, called attention to the unfavorable effects on the industrial structure because “it has encouraged the establishment of small uneconomical plants, weakened the incentive to introduce modern techniques, and slowed down the rise in productivity.”
See Carlos Quintana, “Politica Industrial y Evaluation de Proyectos,” in lnforme del Seminario sobre el Proyecto de Convenio Centroamericano de lncentivos Fiscales al Desarrollo Industrial, Escuela Superior de Administration Publica America Central (San Jose, 1962), pp. 85-103.
Ibid. This report describes in detail the organization, as well as the procedures followed, in Costa Rica, Mexico, and other Central American countries.
United Nations, Economic Commission for Africa, Investment Laws and Regulations in Africa, E/CN.14/INR/28/Rev.2, UN Publication Sale No.: 65. II.K.3 (New York, 1965), p. 6.
This new type of administrative body has been adopted in about 20 countries in Africa (Krishna Ohooja, “Development Legislation in Africa,” The Journal of Development Studies (London), Vol. 2 (1966), p. 306.
Schreiberg, op. cit., p. 272.
S.A. Aluko, Fiscal Incentives for Industrial Development in Nigeria, UN Industrial Development Organization, 1966 (unpublished), pp. 92-99.
J. Harvey Perry, Taxation and Economic Development in Ghana, prepared for the Government of Ghana, United Nations Commissioner for Technical Affairs, Department of Economic Affairs, Report No. TAO/GHA/4/Rev.l, 1959, pp. 43–45.
Schreiberg, op. cit., p. 273.
The necessity for such controls, of course, is greatly reduced in countries such as Pakistan and India, where there are no formal agreements with the government. Nevertheless, even in Pakistan there is the need for an officer to see that the standard conditions of tax exemption are observed; also, monthly reports are required to be filed with the Investment Promotion Bureau as well as with the Director of Industries in the province where the business is located, until the firm begins operation.
Ross and Christensen, op. cit., p. 91; Quintana, op. cit.
According to the Investment Code of 1963 (Law No. 63-277), Article 23: “The state will participate through public investments, by establishing national or mixed economy companies in which foreign or national capital is invested, in order to meet the conditions necessary for the establishment of a socialist economy.”
Scott M. Spangler, “Promoting Private Investment in Less Developed Countries” in Financing African Development, Tom J. Farer, ed. (Cambridge, Massachusetts, 1965), p. 134.
Ibid., p. 136.
Data provided by the Statistics and Publications Division of the Department of Finance and compiled by the Joint Legislative Executive Tax Commission, Manila, Philippines.
Many foreign-based companies operate in Panama only for the purpose of consumating international sales without taking physical possession of the goods. Income of shipping companies also enjoys tax exemption. William J. Gibbons, Tax Factors in Basing International Business Abroad, Harvard Law School, International Program in Taxation (Cambridge, Massachusetts, 1957), pp. 126-32. See also OAS survey (cited in fn. 33).
OAS survey (cited in fn. 33), pp. 171-72.
Ibid., p. 173.
Although this may be reduced to 50 per cent, the reduction has rarely been made.
Jamaica Industrial Development Corporation, Report, 1959-63, and Newsletter, various issues. Not including completion of a large oil refinery, which received a 7-year income tax exemption plus deferred depreciation charges for 15 years. Local employment on this installation is very small.
Paul L. Chen-Young, An Economic Evaluation of the Tax Incentive Program of Jamaica (unpublished dissertation, University of Pittsburgh, 1966), p. 262.
Ibid., p. 289.
Jamaica, Industrial Development Corporation, Statistical Report of Manufacturing Enterprises Approved and Operating under Industrial Incentive Laws, Kingston, 1965 (mimeographed), p. 15.
Industrial Development Corporation, List of Pioneer Manufacturers (published in Trinidad and Tobago Gazette).
Schreiberg, op. cit., p. 272.
Banco Central de Costa Rica, Información Económica Semanal, No. 788, December 1965, p. 1.
Ministerio de Industrias, Contratos lndustriales Otorgados al Amparo de la Ley de Protection y Desarrollo National, 1960-64 (mimeographed).
Secretaria de Industria y Comercio, Memoria de Labores, 1959-64 (Mexico City, 1964), pp. 42-63.
Ross and Christensen, op. cit., p. 89.
Ibid., p. 69.
Ibid., p. 78.
“Fostering Investment in Israel,” Israel Economic Forum, Vol. XII, August 1963, pp. 61-67.
Akiva Ilan, Tax Incentives for Industrial Development in Israel, UN Industrial Development Organization, New York, 1966 (unpublished), p. 104.
“Fostering Investment in Israel,” loc. cit.
Banco Central del Ecuador, Memoria, 1962, p. 115. Only 5 were in the Special Category and 60 in Category A. Category C was abolished in 1964.
Ibid., 1962, p. 251; 1963, p. 46; and 1964, p. 191.
Ibid., 1965, p. 115; Anexos, p. 14.
Ibid pp. 116-17.
Aluko, op. cit., p. 116.
Ibid., pp. 55, 56, and 80.
Ibid., p. 92.
Maroc, Délégation Générate à la Promotion Nationale et au Plan, Plan Triennal 1965-67 (Rabat, 1965), p. 431-32.
Banco Central del Ecuador, loc. cit., 1962, p. 255; 1963, p. 146; 1964, p. 196.
Ibid., 1965, p. 116.
Reserve Bank of India Bulletin, Vol. XVI (1962), p. 1532.
State Bank of Pakistan, Department of Statistics, Foreign Liabilities & Assets and Foreign Investments in Pakistan (1957-1960), (Karachi, n.d.).
The Israel Economist, Vol. XIX (1963), pp. 199-208, and Israel Economic Forum, loc. cit., p. 64.
Jamaica, Industrial Development Corporation, Annual Report.
See fn. 59.
Trinidad and Tobago, Central Statistical Office, Pioneer Manufacturers: Survey of the Finances of 52 Pioneer Establishments 1958/1959, Statistical Studies and Papers, No. 8 (Trinidad, 1961).
Net inflow is estimated at US$29 million in 1962, $90 million in 1963, and $126 million in 1964 (U.S. Department of Commerce, International Commerce, Vol. 71, June 28, 1965, p. 57).
Aluko, op. cit. p. 55.
Ministerio de Economia y Hacienda, Memoria Anual-1964 (San José, 1965), pp. 10, 54, and 56.
Data obtained from the Consumption Tax Department, Ministry of Finance, Costa Rica.
Schreiberg, op. cit., pp. 269-73.
Ross and Christensen, op. cit., p. 136.
Ibid., pp. 149-52.
Ibid., p. 101 (data based on A. R. García Caraveo, La Ley Fomento de lndustrias de Transformatión, thesis, Universidad Nacional Autónoma de México, 1957).
Ibid., p. 104.
Ibid., p. 76.
Ibid., p. 70.
Jamaica, Income Tax Department, Report of the Commission of Income Tax for the Years Ended 31st March, 1961-64.
Data obtained from the Ministry of Finance.
Chen-Young, op. cit., pp. 479-81. Benefits include taxes generated on salaries and wages, corporations, and property; costs cover the corporate and customs taxes exempted as well as the costs of the Industrial Development Corporation, Industrial Training Scheme, and some others.
Ibid., p. 178.
OAS survey (cited in fn. 33), p. 175.
lbid.9 p. 178.
Data compiled by the Joint Legislative-Executive Tax Commission, Manila.
Aluko, op. cit., pp. 58 and 91.
Ben W. Lewis, Incentives for Industrial Development in Nigeria, Ibadan, 1962 (unpublished), pp. 9, 10, and 33 (cited by Aluko, op. cit., p. 101).
Aluko, op. cit., pp. 102-18.
Maroc, Délégation Générale á la Promotion Nationale et au Plan, loc. cit., p. 419, and Le Probléme de l‘Investissement et la Politique Economique (Rabat, 1965), p. 8,
Shun-hsin Chou, The Impact of Fiscal Incentives on the Development of Manufacturing Industries in Taiwan, UN Industrial Development Organization, New York, 1966 (unpublished), pp. 3-29.
Korea, Ministry of Finance, Bureau of Taxation, Yearbook of Tax Statistics, 1965.
According to Chen-Young, op. cit., p. 331: “The most important conclusion … is that despite the relative importance which is generally attributed to the subsidized industries [in Jamaica], this direct contribution to the manufacturing sector in terms of investment, salaries and wages, employment and value added have not been particularly significant….”
This concern was expressed on the occasion of Jamaica’s 1967 liberalization of its incentive laws: “But there is no doubt that other countries also give liberal incentives in order to attract new investments in industry. The whole thing has turned into a race in which countries that want to attract new industries have to be competitive. These are the facts of life with which we must live” (editorial, The Daily Gleaner, Kingston, January 20, 1967).
Federico J. Herschel, Comment on N. Kaldor, “The Role of Taxation in Economic Development,” in Fiscal Policy for Economic Growth in Latin America, papers and proceedings of a conference held in Santiago, Chile, December 1962 and issued by the Joint Tax Program of the Organization of American States, Inter-American Development Bank, and Economic Commission for Latin America (Baltimore, 1965), p. 89.
Ibid., p. 90.
E.R. Barlow and Ira T. Wender, Foreign Investment and Taxation, Harvard Law School, International Program in Taxation (Englewood Cliffs, New Jersey, 1955).
Ibid., p. 215. Italics in original.
Ibid., pp. 451-53.
Yair Aharoni, The Foreign Investment Decision Process (Boston, 1966), p. 241.
United Nations, Economic and Social Council, Economic Commission for Latin America, Report of the Central American Economic Co-operation Committee, E/CN/2/492, E/CN.12/CCE/151, UN publication Sales No.: 58-II.G.3 (Mexico City, 1959), p. 43.
See John W. Crow, “Economic Integration in Central America,” Finance and Development, Vol. Ill (1966), pp. 58-66; Joseph Moscarella, “Economic Integration in Central America,” in Latin American Economic Integration: Experiences and Prospects, Miguel S. Wionczek, ed. (New York, 1966), pp. 273-80; James D. Cochrane, “Central American Economic Integration: The ‘Integrated Industries’ Scheme/” Inter-American Economic Affairs (Washington), Vol. 19, Autumn 1965, pp. 63-64.
Lachman, op. cit. See also Report of the Eighth Session of Central American Economic Co-operation Committee (cited in fn. 20), pp. 56-62; this report contains the background of the Agreement, together with a copy of the Agreement itself.
Cameroon became an associate member of the predecessor Equatorial Customs Union on July 22, 1961 and a full member on December 8, 1964.
Articles 45 and 46.
Established by treaty on June 3, 1966 and entered into force on December 15, 1966, this Union superseded a previous customs union established in 1959 but never fully implemented.
United Nations, Economic Commission for Africa, Co-ordination of Industrial Incentives and Legislation, E/CN.14/RES/140 (VII), 1965.