Università Bocconi, A.A: 2005-2006 1Mec – Comparative public economics 1

Università Bocconi A.A. 2005-2006

Comparative public economics

Giampaolo Arachi

Università Bocconi, A.A: 2005-2006 2Mec – Comparative public economics 2

Corporate income tax reform: alternative Corporate income tax reform: alternative proposalsproposals

Cash flow tax

ACE

CBIT

ACE vs. CBIT

Dividend taxation and corporate governance

References:S. Bond “Levelling up or levelling down? Some reflections on the ACE and

CBIT proposals and the future of the corporate tax base” in S. Cnossen (ed.) Taxing capital income in the European Union, OUP, 2000

C. Schutte, P. Shome, Cash-Flow Tax in P. Shome (ed.) Tax Policy Handbook, IMF, 1995

Università Bocconi, A.A: 2005-2006 3Mec – Comparative public economics 3

Corporate income tax reform: alternative Corporate income tax reform: alternative proposals proposals

Cash flow tax (Meade 1978)

Allowance for corporate equity (ACE) (I.F.S. 1991)

Comprehensive income business tax (CBIT) (U.S. Treasury 1992)

Università Bocconi, A.A: 2005-2006 4Mec – Comparative public economics 4

Cash flow tax Cash flow tax

R-base: sales – purchases of real goods and services

RF-base: sales – purchases + (borrowing + interest received) – (interest paid + debt repaid)

S base: dividends paid + purchases of shares – issues of new shares

RF = S + TAX

Università Bocconi, A.A: 2005-2006 5Mec – Comparative public economics 5

Cash flow tax shortcomingsCash flow tax shortcomings

Transition

Smaller tax rate?

Procyclical tax

Tax avoidance

Renegotiation of tax treaties

No tax on foreign investment

Università Bocconi, A.A: 2005-2006 6Mec – Comparative public economics 6

Allowance for corporate equityAllowance for corporate equity

Allow the cost of equity finance to be deductible against corporation tax in the same way that interest payments are deductible for investments financed by debt

Cost of equity finance =

interest that could have been earned if the funds had been invested elsewhere

x

shareholders’ funds (cumulate past injections of new equity and past retentions of profits)

Università Bocconi, A.A: 2005-2006 7Mec – Comparative public economics 7

Comprehensive income business tax (CBIT) Comprehensive income business tax (CBIT)

Abolition of interest deductibility

Università Bocconi, A.A: 2005-2006 8Mec – Comparative public economics 8

ACE vs CBITACE vs CBITACE CBIT

Cost of capital •Levelling down the cost of capital for investment financed by equity to that for investment financed by debt

•insensitive to tax depreciation rules

•Levelling up the cost of capital for investment financed by debt to that for investment financed by equity

•depends on tax depreciation rules

Statutory rate High Low

METR 0 positive

AETR high low

Personal taxes on dividends and interest

high low

Income from subsidiaries

Taxed Untaxed