خدمة تلخيص النصوص العربية أونلاين،قم بتلخيص نصوصك بضغطة واحدة من خلال هذه الخدمة
Tax incentives for Investment with a Special Reference to Egypt Introduction Tax legislation is tax law issued by the legislative authority (people's council) according to the institutional rule: the right of establishing, adjusting and canceling taxes is a pure right for the legislative council of the community.In Japan, tax holiday is granted mainly to new businesses that are directed toward exporting and petrochemical industries and toward "targeted industries" that are related to developing technology and environmental protection and achieve social equity, however, in times of extended budget deficit this tax incentive becomes less important. In Morocco, new investments in tourism sector are granted tax holiday for five years, and then this grace period is extended to a subsequent period of taxation at a reduced rate (50% of the formal tax rate). Almost all countries grant tax exemption for savings, this permanent tax holiday is important since investments depend partially on quantities of savings for financing investments. In Spain, this incentive is called Tax Preferred Pension Fund. In England, payment for servicing debt related to buying houses as well as pension and capital gains are exempted from personal income tax and this is called Special Saving Accounts Tax Exemption. In the US, retained profits as well as, pensions, life insurance and installments for buying houses are exempted from personal income tax. In Italy, returns to bank deposits, post office deposits, personal bonds, and capital gains are exempted from the personal income tax. In Germany, savings are exempted. Tax holiday is extended to the greatest scope in Bahamas where there are no taxes on capital gains, corporation income, personal incomes, sales as well as returns to shares for individual, personal firms, and for corporations. Tax holiday is also used in commercial preferential trade agreements among countries, in these agreements countries agreed to grant mutual custom's exemptions for tradable goods that fulfill the origin criteria, usually a good that has a local components equivalent to 40% of the value added of the final product will satisfy the national origin criteria. Tax Holiday in Egypt According to tax law 91 for year 2005 two kinds of investments are temporally exempted form income tax as following: 1- Profits of land reclamation or cultivation enterprises, for ten years from the date of activity inception. 2- Poultry farming, apiculture, livestock husbandry and fattening, fisheries, fish farming enterprises and fishing boats enterprises profits, for a period of ten years from the date of activity inception. On the other hand permanent exemptions from income tax according to law 91 for year 2005 includes: 1- Physical persons' income received from their investment in securities registered with the Egyptian Stock Exchange Market. 2- Physical persons proceeds from: a) Securities and financial deeds of different types, registered with the Egyptian Stock Exchange Market, whether issued by the State or shareholding companies. b) Dividends from shares in joint stock companies and partnerships limited by shares. c) Dividends from equity quotas in limited liability companies, partnerships, and partnerships limited by shares. d) Dividends from investment securities issued by investment funds. 3- Interest which physical persons receive from their deposits and saving accounts in banks registered in the Arab Republic of Egypt; investment, saving and deposit certificates issued by said banks; deposits and saving accounts in post office funds and securities and deposit certificates issued by the Central Bank. 4- Profits from new projects set up by funding from the Social Fund for Development (SFD) to the extent of such funding for a period of five years from the date of starting the activity or starting production, as applicable. This exemption will only apply to those whose names were signed in the loans of the Fund. 5- Educational institutions, subject to the supervision of the government, public legal persons, Public Sector or State-Owned Enterprises (SOE). 1- Revenues of self-employed professionals registered as members of their professional syndicates in their fields of specialization, but only for three years from the date of practice. 2- Revenues of areas planted in desert lands for a period of ten years starting from the date the land is considered productive Low Tax Rates Regimes applying reduced tax rates to certain activities or enterprises require a number of rules to minimize tax avoidance. A typical example can be given of low tax rates applied to income earned by small businesses. The first problem is to define small businesses in relation to a given threshold. The threshold can be measured in terms of assets, capital, number of employees, or total sales. The choice among these criteria, which can be used in combination, will depend in part on the type of business being targeted and on the compliance and administrative costs that are entailed. Care must be taken to target the low tax rate to appropriate types of activity and to prevent it from being used to avoid taxes that should be paid at the personal level. Tax legislator reduces the tax rate for the targeted industries relative to other industries. Targeted industries are more important and vital for the society, e.g. industries encourage technological developments, or manufacturing or that preserves the quality of environment, or industries that exporting their output to foreign countries. In Lebanon, corporations are liable to lower tax rate than individual and personal firms who make net profits greater than specific amount. In number of countries tax legislator relates the rate of reduction in income tax to the turnover number of the firm, or to the new products produced by the firm. This tax incentive may be granted to corporations that have tradable securities in the stock market. This means that tax incentives may be used to change the legal form of the firm, and to make these firms more open, which may encourage family business or closed ones to be changed into joint stock firms. Countries may provide reduced rates of, corporate income or profits tax to particular types of activity. Some countries provide a reduced rate of tax for certain types of investment (e.g., the reduced rate for manufacturing in Ireland). Other countries provide reduced tax rates for investment in particular locations or regions (e.g., the reduced rate for investment in special economic zones and other designated regions of China). The Egyptian legislation: a) Used preferential tax treatment in tax law 187 for 1993, where corporation income tax was reduced from 40% to 32% for industrial business and for income generated from export. This tax incentive was canceled in the tax law number 91 for 2005. b) Exempt profits from the revaluation of the assets of a sole proprietorship will be exempted from income tax when providing this as an in-kind share to the capital of a joint stock company, providing that the shares corresponding to the in-kind share are nominal, and shall not be disposed of within five years c) Deduct 30% of the cost of the machinery and equipment used in production, whether they are new or used, at the beginning of each tax period during which such assets are used. The depreciation base shall be calculated for that period after the deduction of the said 30% amount. The taxpayer must maintain proper books and accounts. Accelerated depreciation of capital assets The term "accelerated depreciation" generally refers to any depreciation scheme that provides for writing off the cost of an asset, for tax purposes, at a rate faster than the true economic depreciation.Other tax incentives: Zones Countries use two types of special "zones" to attract investment: (a) duty-free zones, enjoying exemption from customs duties (and usually from VAT); and (b) special economic zones, in which investors enjoy other tax privileges not granted in other parts of the host country. Duty-free zones and export processing zones (EPZs) are intended to facilitate the trans-shipment of goods, and the processing of imported materials or components for export. Exemption from VAT and customs duty is granted on imported goods, because those taxes would normally be refunded on export. To grant additional tax privileges (e.g., tax holidays) to these activities may be inappropriate and may violate the WTO prohibition against export subsidies. By contrast, special economic zones are intended to promote economic activity within a designated area, and are not restricted to exporting. They consequently should not be given favorable customs treatment. Double taxation prevention treaties Signing these kinds of treaties will reduces tax burden for foreign investors and will encourage them to invest more in the country. It is important for tax legislator to be sure that this tax incentive is being directed towards investors and not their countries. This task is not simple. Egypt Has signed 30 double tax prevention agreements with different countries, these countries includes: Italy, Yugoslavia, Denmark, Libya, Germany, Syria, Korea, Hungary, Cyprus, United Arab of Emirates, Cheek Republic, Sweden, Jordan, Belgium, Lebanon, Turkey, Tunisia, Pakistan, South Africa, Bella Russia, The Arab Union Countries, Bahrain, Palestinian Liberalization Organization, Bulgaria, The Netherlands, Yemen, Malta, Poland and Ukraine. Indexation Advanced countries use indexation to cancel the effect of inflation on the tax burden of individuals and corporations, through relate tax bases and some kind of price indices. This method prevents what is called "Brackets Creep" which implies increasing tax burden without a real increase in the real income; this will preserve the real levels of profits and income. In addition one of the important GATT's agreements was "Commercial aspects for the investment regulations" which requires from any country sign the agreement not to discriminate against foreign investment "National treatment principle", so any country should eliminate all investment regulations break this principle. Tax and non-tax incentives Some general notes should be considered when discussing tax incentives for investment, these are as following: 1- The existence of tax incentives is a necessary condition for attracting local and foreign investments, but it is not a sufficient one. This can be explained by the need for the existence of important additional conditions (non-tax incentives for foreign investments) such as: a) Political stability and security inside the country, since capital cannot be attracted to places that lack security and stability. b) Sufficient legal guarantees for investors against confiscating of their capital, the right to transfer their money abroad, the right to liquidate their business and to choose a court system different from local system, and may be the existence of institution to guarantee investments. c) The perception of local people toward foreign investment, for example if they perceive foreign investments as necessary for development and for creating work opportunities for local people, and the social environment is open, then this will encourage these kinds of investments. d) The existence of a good infrastructure and good investment opportunities, this is because foreign investments are attracted to less developed countries not to develop these countries but to participate in the development process of these countries and to take advantage over this participation. e) The existence of stock markets especially to develop indirect investments in order to expand existing capacities and to develop the already established business. f) Joining WTO as an important signal for openness of country's markets of goods and services and that there is no control over foreign exchange. 2- Excessive generosity in providing tax incentives to encourage investors may not work; in fact these excessive incentives may increase economic problems of the national economy; creating or increasing budget deficit because of the decrease in tax revenues due to the incentives. Budget deficit's problem may be very difficult for economies suffering from expanding public debt, in this case a country will find itself forced to finance budget deficit through either borrowing more money from the banking system which creates inflationary pressures or through imposing more taxes and this will affect economic sectors negatively and will reduce the efficiency of tax incentives themselves.. 3- Countries attracting foreign investments should be interested not only in the quantity of investments but also by the quality of them. It is noticed that most of foreign investments attracted to the Arab world are from the traditional industries and not from the high technology industries like the case for Asian and Latin American countries. High technological investments increase the competitive position of these countries in the future. One reason for the lack of high tec. Industries in the Arab world is the ineffective protection for property rights. 4- The severe competition among less developed countries in attracting foreign investments, especially in this era of WTO, may increase the cost of foreign direct investment to LDC's in terms of increasing public expenditure on infrastructure and other facilities and a reduction in government revenues because of tax incentives. One of important conferences addressed this issue "Investment's horizons and guarantees" was held in Beirut in 2002 has reached that the major reasons for low level of foreign investments attracted to the Arab countries were: a) Bureaucracy and value judgment of the administrative authorities in these countries.For those countries, however, that do not generally provide accelerated depreciation, a tax incentive can provide for deducting the cost of acquisition more quickly than would be allowed under the normal "benchmark" depreciation schedules. The cost of accelerated depreciation, in terms of tax revenue foregone, is normally less than that of tax holidays or investment allowances/credits, since it is only the timing of the tax payable, and not the amount of tax, that is affected. That, of course, can still be a substantial benefit to established businesses that are planning to increase their investment, but in the case of most initial investments, where there may be no profit for several years, accelerated depreciation will be of no benefit. To understand how this tax incentive works let us analyze the following exercise: the acquisition, cost of a productive asset is one million pounds the expected economic life of this asset is ten years, net annual profits for this asset is 200,000 pounds, the nominal tax rate is 15%, if the discount rate is 10% and the salvage value for the asset is zero at the end of the asset life. Calculate the increase in the net present value and the internal rate of return when applying the accelerated method (five years) instead of the normal depreciation method. First: normal depreciation method: Annual depreciation installment = 10% or L.E.100,000 Net present value of the asset = L.E 136,700 Internal rate of return =13% Second: Accelerated depreciation method: Annual depreciation installment = 20% or L.E.200,000 during the first five years, then it becomes equal to zero during the last five years of the asset life. Net present value of the asset = 13.8% Now by comparing between the two methods we found that accelerated depreciation has increased the net present value by L.E 21,900 or 15.79%, at the same time internal rate of return has increased by 6.15% in the case of accelerated depreciation. This tax incentive has been used by many countries, In US, during the Korean War; accelerated depreciation was used in industries that support the war. In particular, businessmen are required to have a certificate from the department of defense that their product is important for defense purposes to have the right to use the method of accelerated depreciation. By the end of the war, US government stopped using this method of depreciation for defense purposes. In Canada tax legislator use this method in the manufacturing, capital, agriculture industries, and mining, where a special accelerated depreciation scheme of two years is used, they call this method "Accelerated Capital cost Allowances".In fact investment in tools, equipments, machineries and productive capacities (formation of human capital through good education and health programs and in natural capital through increasing the absorptive capacity of the environment) achieves economic growth through two avenues; direct method (increasing the capabilities of the national economy by building infrastructure: electric power, water, roads, airports and communication systems that encourage businessmen to invest in manufacture industry. This investment will create new jobs and opportunities for exports and increase gross national product and improving the standards of living. Readers should remember that the final increase in the income and production will be a multiple of the initial increase in investment because of the existence of investment multiplier and investment accelerator. b) Encouraging domestic industries to supply foreign investment with equipments, materials and services, since FDI usually increases the demand on local components of these investments.There is another indirect avenue in which investment encourage economic growth, which can be explained through: a) External economies achieved to the national economy through transferring technology and other administrative and marketing skills that foreign direct investment (FDI) brings to the domestic industry, in addition, through demonstration effect by the domestic industry to the foreign industries located locally.Accelerated depreciation method in Egypt: This method has never been used for depreciation of assets; however income tax law 91 for 2005 has, to some extent and implicitly, used this method by stating specific tax life time for different assets as following: 1- 5% of the cost of procuring, constructing, developing, renovating or reconstructing any building, establishment, ships and aircrafts, for each tax period.Non-tax factors are the market size, access to raw materials, e.g., natural resources, energy supplies, availability and cost of skilled labor, access to infrastructure, transportation costs, access to output markets, e.g., high consumer demand in region, low export costs, political stability, macro-economic stability and financing costs. The mobility of economic resources among countries helps solving two economic problems: domestic resource gap (when a country needs a level of investment greater than domestic savings), and foreign exchange gap (when the value of imports exceeds the value of exports evaluated by the foreign exchange).b) During this stage, governments may establish free zone areas to encourage investments located in specific locations or regions like ports, airports and regions where good investment opportunities are existed for production and exports.This grace period is might be extended for the whole productive life of firms, and sometimes is extended to a subsequent period of taxation at a reduced rate Tax holidays have the apparent advantage of simplicity for both the enterprise and the tax authorities; however a number of technical issues are important in determining the impact of tax holidays on the return on investments.How useful, and at what cost, depend on how well the tax incentives program is designed, implemented, and monitored It should be noted that accelerated depreciation and tax credits are more efficient than tax holiday, since they enter directly into the feasibility studies of the projects, and are related to the size of investment and profits.The following appendix shows tax incentives in three emerging economies in south-east Asia: Indonesia, Malaysia and Philippine, it may be a good exercise for students to compare between the tax incentives in these countries and in Egypt, and relate these incentives to the size of FDI in these countries in order to get some useful conclusions.The incentives are used for direct investors to real investment in productive activities rather than investment in financial assets, and are often directed to foreign investors on the grounds that there is insufficient domestic capital for the desired level of economic development and that international investment brings with it modern technology and management techniques.In the post-WTO world, developed countries also adopt tax regimes that favor export activities and seek to afford their resident corporations a competitive advantage in the global marketplace.Almost all countries have issued investment laws that concern with encouraging investment; provide different kinds of guarantees to investors in areas of free trade, transferring profits abroad, freedom of movement of labor, raw materials, and capital among countries.Not only free trade areas are existed inside countries but also regional and international free trade areas are established among different groups of countries e.g. Greater Arab Free trade Area GAFTA which will encourage intra-trade among Arab countries and encourage FDI in the region if the Arab countries have a strong political will to make it successful.Tax incentives can take the form of tax holidays for a limited duration, current deductibility for certain types of expenditures, or reduced import tariffs or customs duties.Now if Tax incentives are successful in encouraging more investors, then tax revenues will automatically be increased as a result of the increase in the gross domestic product and this will compensate the decrease of tax revenues because of the provided tax incentives. From the empirical point of view: There exist different kinds of case studies that proof the great importance of investments to national economies as following: a) International comparison among countries shows that there is a positive and significant relationship between growth rate in GDP and the investment/output ratio.These two gaps are highly correlated; in addition foreign exchange gap may not be covered by rising saving rate of the community if the domestic investment requires equipments and raw materials import spare from abroad.Tax incentives in the developing countries are used to encourage domestic industries and to attract foreign investment.
Tax incentives for Investment with a Special Reference
to Egypt
Introduction
Tax legislation is tax law issued by the legislative authority (people’s
council) according to the institutional rule: the right of establishing, adjusting and
canceling taxes is a pure right for the legislative council of the community. This
legislative authority should be an independent authority in the society. The
separation between legislative and executive authorities is a guarantee against
the misuse of the authority by the government (executive authority) in increasing
the tax burden on people; whenever this authority needs more funds for wasteful
public expenditure. Increasing the tax burden of the community creates negative
effects in all aspects of life for societies: economic, social, and political. For
example, one of the main reasons of the French revolution in the eighteenth
century was the heavy burden of taxation imposed by the king at that time.
Tax incentives: They are those special exclusions, exemptions, or
deductions that provide special credits, preferential tax rates or deferral of tax
liability. Tax incentives can take the form of tax holidays for a limited duration,
current deductibility for certain types of expenditures, or reduced import tariffs or
customs duties. In addition, a country that provides a relatively low corporate tax
rate for income from manufacturing can be seen as a special tax incentive
(restricted to manufacturing) in the context of the entire tax system.
The incentives are used for direct investors to real investment in productive
activities rather than investment in financial assets, and are often directed to
foreign investors on the grounds that there is insufficient domestic capital for the
desired level of economic development and that international investment brings
with it modern technology and management techniques. Tax incentives may also
be used to help correct market failures and to encourage investments that
generate positive market externalities.
Almost all countries use tax incentives. In developed countries, tax incentives
often take the form of investment tax credits, accelerated depreciation, and
favorable tax treatment for expenditures on research and development. In the
post-WTO world, developed countries also adopt tax regimes that favor export
activities and seek to afford their resident corporations a competitive advantage
in the global marketplace. Tax incentives in the developing countries are used to
encourage domestic industries and to attract foreign investment. They mainly
take forms of tax holidays, regional investment incentives, special enterprise
zones, and reinvestment incentives.
Tax incentives can be considered as a lure provided by a fisherman to attract
big fish to his fishing rod, the fisherman believes that his catch will be more than
enough to compensate his costs (materials, effort and time). Now if Tax
incentives are successful in encouraging more investors, then tax revenues will
automatically be increased as a result of the increase in the gross domestic
product and this will compensate the decrease of tax revenues because of the
provided tax incentives.
Since our fisherman may not be successful in catching fish, the reasons may
be that our fisherman does not provide the relevant lure to the kind of fish existed
in the area or because big fish’s places are far away from his catching place (e.g.
he needs a boat instead of a fishing rod) which means that his current resources
are not sufficient). Governments, as well, may not be successful in attracting
local and foreign investments through tax incentives, and this result may be
explained by the limited tax incentives, or because international investors have
other good places to invest, or may be because of some unsuitable international
economic and political circumstances.
After this introduction, the rest of the paper will be allocated to discuss and
analyze the following points:
a) The importance of investment and its incentives.
b) Tax and non-tax incentives.
c) Forms of tax incentives.
d) Tax incentives in Egypt.
e) Conclusions and suggestions.
The importance of investment and incentives
Investment can be defined as building new productive capital capacities for
new as well as established business in different sectors of the national economy.
There are two kinds of investment: direct and indirect. The direct one is the
building of new capacities; the indirect one may take place through the stock
market by buying shares and bonds of an already existed business. Both kinds of
investment are very important, e.g. buying shares for an already existed business
will help developing and expanding this business and this might help in making it
more efficient and profitable.
Why all countries are interested in the investment? This may be explained by
the important role of investment in raising growth rate of the economy and the
standard of living. The importance of investment can be supported by tow kinds
of proofs: theoretical and empirical ones.
From the theoretical point of view: investment, in almost all growth
models, is one of the major determinants of growth. So Classical, New-classical,
Harrod & Domar and Cobb-Douglass growth Models consider the increase in the
quantity and quality of capital (keeping labor force and technology fixed) will
significantly increases the national product.
In fact investment in tools, equipments, machineries and productive capacities
(formation of human capital through good education and health programs and in
natural capital through increasing the absorptive capacity of the environment)
achieves economic growth through two avenues; direct method (increasing the
capabilities of the national economy by building infrastructure: electric power,
water, roads, airports and communication systems that encourage businessmen
to invest in manufacture industry. This investment will create new jobs and
opportunities for exports and increase gross national product and improving the
standards of living. Readers should remember that the final increase in the
income and production will be a multiple of the initial increase in investment
because of the existence of investment multiplier and investment accelerator.
There is another indirect avenue in which investment encourage economic
growth, which can be explained through:
a) External economies achieved to the national economy through transferring
technology and other administrative and marketing skills that foreign direct
investment (FDI) brings to the domestic industry, in addition, through
demonstration effect by the domestic industry to the foreign industries located
locally.
b) Encouraging domestic industries to supply foreign investment with
equipments, materials and services, since FDI usually increases the demand
on local components of these investments.
c) Encouraging the integration between the national and world economies which
will be beneficial for both economies. This integration becomes very
important after the establishment of world trade organization.
From the empirical point of view: There exist different kinds of case studies
that proof the great importance of investments to national economies as
following:
a) International comparison among countries shows that there is a positive and
significant relationship between growth rate in GDP and the
investment/output ratio. Evidences can be seen from studying this ratio in
Asian, Latin American and Africa countries during the last decade of the
twentieth century. Studies have shown the raising rate of investment is a key
element in any strategy for raising growth rate and standard of living in Africa.
b) Statistics of International Bank have also shown foreign direct investments
in1998 in China, Singapore, Thailand, South Korea and Malaysia have
reached $44, $7.2 , $6.9 , $5.5 , and $5 billions of respectively. Since growth
rates were high in these countries during that period, the importance of
foreign investment is clear.
Now since investment is very important for economic growth so tax incentives
to encourage investment are important too. International conferences are held to
discuss scope, guarantees and incentives for encouraging domestic and foreign
investment. Almost all countries have issued investment laws that concern with
encouraging investment; provide different kinds of guarantees to investors in
areas of free trade, transferring profits abroad, freedom of movement of labor,
raw materials, and capital among countries.
The mobility of economic resources among countries helps solving two
economic problems: domestic resource gap (when a country needs a level of
investment greater than domestic savings), and foreign exchange gap (when the
value of imports exceeds the value of exports evaluated by the foreign
exchange). These two gaps are highly correlated; in addition foreign exchange
gap may not be covered by rising saving rate of the community if the domestic
investment requires equipments and raw materials import spare from abroad. In
addition one of the important GATT’s agreements was “Commercial aspects for
the investment regulations” which requires from any country sign the agreement
not to discriminate against foreign investment “National treatment principle”, so
any country should eliminate all investment regulations break this principle.
Tax and non-tax incentives
Some general notes should be considered when discussing tax incentives for
investment, these are as following:
1- The existence of tax incentives is a necessary condition for attracting local
and foreign investments, but it is not a sufficient one. This can be explained
by the need for the existence of important additional conditions (non-tax
incentives for foreign investments) such as:
a) Political stability and security inside the country, since capital cannot be
attracted to places that lack security and stability.
b) Sufficient legal guarantees for investors against confiscating of their
capital, the right to transfer their money abroad, the right to liquidate their
business and to choose a court system different from local system, and
may be the existence of institution to guarantee investments.
c) The perception of local people toward foreign investment, for example if
they perceive foreign investments as necessary for development and for
creating work opportunities for local people, and the social environment is
open, then this will encourage these kinds of investments.
d) The existence of a good infrastructure and good investment opportunities,
this is because foreign investments are attracted to less developed
countries not to develop these countries but to participate in the
development process of these countries and to take advantage over this
participation.
e) The existence of stock markets especially to develop indirect investments
in order to expand existing capacities and to develop the already
established business.
f) Joining WTO as an important signal for openness of country’s markets of
goods and services and that there is no control over foreign exchange.
2- Excessive generosity in providing tax incentives to encourage investors
may not work; in fact these excessive incentives may increase economic
problems of the national economy; creating or increasing budget deficit
because of the decrease in tax revenues due to the incentives. Budget
deficit‘s problem may be very difficult for economies suffering from expanding
public debt, in this case a country will find itself forced to finance budget
deficit through either borrowing more money from the banking system which
creates inflationary pressures or through imposing more taxes and this will
affect economic sectors negatively and will reduce the efficiency of tax
incentives themselves..
3- Countries attracting foreign investments should be interested not only in
the quantity of investments but also by the quality of them. It is noticed that
most of foreign investments attracted to the Arab world are from the
traditional industries and not from the high technology industries like the case
for Asian and Latin American countries. High technological investments
increase the competitive position of these countries in the future. One reason
for the lack of high tec. Industries in the Arab world is the ineffective
protection for property rights.
4- The severe competition among less developed countries in attracting
foreign investments, especially in this era of WTO, may increase the cost of
foreign direct investment to LDC’s in terms of increasing public expenditure
on infrastructure and other facilities and a reduction in government revenues
because of tax incentives.
One of important conferences addressed this issue “Investment’s horizons
and guarantees” was held in Beirut in 2002 has reached that the major reasons
for low level of foreign investments attracted to the Arab countries were:
a) Bureaucracy and value judgment of the administrative authorities in these
countries.
b) Deficient legal framework and lack of confidence in the domestic court
systems.
c) Property rights and contracts are not respected.
d) The time span needed to settle legal disputes between investors and
hosting countries, for this reason the two parties are usually use commercial
arbitration.
e) Lack of infrastructure (outside of Gulf area) and the local environment is not
compatible with encouraging FDI.
Forms of tax incentives
Let us consider forms of tax incentives according to a life cycle of an
investment which may take three stages: a) when the investor asks the
government’s authority to grant him an opportunity for investment, b) when the
investor starts building his business, an lastly c) when investor’s business starts
produce goods or service as following
The first stage: when the investor asks the government’s authority to grant him
an opportunity for investment. In this stage the investor submits his feasibility
study to the investment authority or the ministry of industry or other agencies. He
may need to get some signatures after paying stamp duties. In this stage many
countries exempt investors from paying these fees and taxes that are related to
registering or granting certification and other requirements for establishing
business. In Egypt for example an investor is exempted from paying stamp
duties, registration fees, real estate registration, setting up contracts for
corporations and business, and loan and mortgage contracts for the first three
years of starting business.
The second stage: where the businessman starts to import machinery and
tools and equipments required to build his business (the establishment period).
He needs to import raw materials, spare parts or additional equipments during
the productive life of his project. Tax incentives take the following forms during
this stage:
a) Investors may be exempted from paying tariffs on capital goods and on the
other production requirements that are related to their business activities.
Tax incentives may take the preferential treatment form, for instance,
reducing tax rate on these components (compared to tariffs imposed on
ordinary imports). The established projects my need some kind of temporal
protection from competition coming from abroad through imposing import
duties on imported substitutes. In Egypt for example a 5% import duties is
imposed on the capital and production requirements imported for business.
On Bahamas Islands which is considered as investment haven, businesses
are exempted from tariffs on raw material, equipments, building components
business licenses, in addition new business are exempted from real estate
taxes for 20 years.
b) During this stage, governments may establish free zone areas to encourage
investments located in specific locations or regions like ports, airports and
regions where good investment opportunities are existed for production and
exports. Almost all countries have free industrial as well as commercial zone
areas. Not only free trade areas are existed inside countries but also
regional and international free trade areas are established among different
groups of countries e.g. Greater Arab Free trade Area GAFTA which will
encourage intra-trade among Arab countries and encourage FDI in the
region if the Arab countries have a strong political will to make it successful.
c) Countries in this stage may grant investors a chance to postpone paying
tariffs by applying some kinds of special custom’s systems in order to
enable investors not to lose liquidity needed at the beginning of the
business. Storages, Temporary Permission, and Draw back systems are
examples of special custom’s systems. In the first case goods are stored in
storages for a specific period time (6 months up to one year) and tariffs are
permitted to be paid when good are taking out of these storages for local
consumption. Temporary permission system is used by travelers coming
with their cars to visit Egypt for a limited period of time then they will take
their car abroad again, or it may be used for goods used only for regional or
international exhibitions, or for a raw material permitted by the minister of
finance in order to be used as a component for final good that will be
exported to abroad within a specific period of time. Draw back system is a
good tax incentive since an investor will receive back tariffs paid for raw
material used for producing goods that will be exported within a year from
the date of importing raw materials.
The third stage: this is the most important stage for tax incentives, the project
has already been established and now it works and produces goods or services,
in this case it faces two possibilities: either it makes some losses or makes profit.
The first possibility: the project may make losses during the early years of its
productive life, especially if it is one of the infrastructure projects. Projects can
also be liable to losses during their productive life because of the fluctuating
demand; also, some projects may be liable to economic losses during ending
years of their life because of high level of maintenance and running costs.
In this case there is a very important incentive which is carrying losses
forward or backward. The importance of this incentive is that it enables investors
to continue running their businesses and keep sufficient liquid money during the
life of their business.
An example: If the tax law permits carrying losses forward and there is a
project which make say one million pounds loss last year, now this project is not
required to pay income tax for his business last year, in fact he also has the right
to carry his loss against his future profits, for this reason if he makes this year
two million pounds profit, then after carrying one million loss to this year the net
profit for the combined two years will be only one million pounds which will be his
taxable income this year.
On the other hand if losses are permitted to be carried backward then this will
be beneficial to project at their ending years of their life when costs of
maintenance and running business significantly increase. In real life tax laws are
biased towards carrying losses into the future more than backward, also different
tax legislations are different in how many years will be permissible in carrying
losses, The American legislation is the most generous one since it permits to
carry losses forward up to fifteen years, and backward for three years, In Egypt
losses may be carried only forward for five years.
The second possibility: the project makes profits. This is the corner stone of
this whole subject where we will find a basket full of tax incentives that increase
profits of business and as a result investment by one way or another through the
increase of net present value of the business or the increase in the internal rate
of return of these investments. Tax incentives in this stage may take the following
forms:
Tax holiday:
The tax holiday has been often used by developing countries. It is directed to
new firms and is not available to existing operations. With a tax holiday, new
firms are allowed a period of time at which they are exempted from the burden of
income taxation. This grace period is might be extended for the whole productive
life of firms, and sometimes is extended to a subsequent period of taxation at a
reduced rate
Tax holidays have the apparent advantage of simplicity for both the enterprise
and the tax authorities; however a number of technical issues are important in
determining the impact of tax holidays on the return on investments. The first
issue is determining when the holiday starts. It could be started when production
starts, the first year in which the firm makes a profit, or the first year that the firm
achieves a positive cumulative profit on its operations. For large projects in
particular, losses are usually generated in the early years of production, when the
highest capital costs are incurred, including special costs that are linked to the
start-up period, training the workforce, and developing the local market. For such
projects, a tax holiday that starts when production occurs may actually increase
the taxes paid over the life of the project and so act as a disincentive for
investment. If losses are experienced during the holiday period they may not be
allowed to be carried forward beyond the holiday period (it would be overly
generous to allow losses to be carried forward from a year in which income
would not have been subject to tax). Thus, the tax holiday may be applied during
a period at which no taxes are required and taxes may be increased following the
holiday because no losses are available to offset the profits. A similar situation
can occur if the holiday starts when profits are first generated. Income may be
sheltered that would have been eliminated in any case by the use of the tax
losses. This may result in an overall increase in taxation in circumstances when
the loss-carry forward period is short or the use of losses is restricted in some
way. Tax laws usually specify that the holiday commences when profits first
occur.
In Japan, tax holiday is granted mainly to new businesses that are directed
toward exporting and petrochemical industries and toward “targeted industries”
that are related to developing technology and environmental protection and
achieve social equity, however, in times of extended budget deficit this tax
incentive becomes less important. In Morocco, new investments in tourism sector
are granted tax holiday for five years, and then this grace period is extended to a
subsequent period of taxation at a reduced rate (50% of the formal tax rate).
Almost all countries grant tax exemption for savings, this permanent tax
holiday is important since investments depend partially on quantities of savings
for financing investments. In Spain, this incentive is called Tax Preferred Pension
Fund. In England, payment for servicing debt related to buying houses as well as
pension and capital gains are exempted from personal income tax and this is
called Special Saving Accounts Tax Exemption. In the US, retained profits as well
as, pensions, life insurance and installments for buying houses are exempted
from personal income tax. In Italy, returns to bank deposits, post office deposits,
personal bonds, and capital gains are exempted from the personal income tax. In
Germany, savings are exempted. Tax holiday is extended to the greatest scope in
Bahamas where there are no taxes on capital gains, corporation income,
personal incomes, sales as well as returns to shares for individual, personal
firms, and for corporations.
Tax holiday is also used in commercial preferential trade agreements among
countries, in these agreements countries agreed to grant mutual custom’s
exemptions for tradable goods that fulfill the origin criteria, usually a good that
has a local components equivalent to 40% of the value added of the final product
will satisfy the national origin criteria.
Tax Holiday in Egypt
According to tax law 91 for year 2005 two kinds of investments are
temporally exempted form income tax as following:
1- Profits of land reclamation or cultivation enterprises, for ten years from the
date of activity inception.
2- Poultry farming, apiculture, livestock husbandry and fattening, fisheries, fish
farming enterprises and fishing boats enterprises profits, for a period of ten
years from the date of activity inception.
On the other hand permanent exemptions from income tax according to law
91 for year 2005 includes:
1- Physical persons’ income received from their investment in securities
registered with the Egyptian Stock Exchange Market.
2- Physical persons proceeds from: a) Securities and financial deeds of different
types, registered with the Egyptian Stock Exchange Market, whether issued
by the State or shareholding companies. b) Dividends from shares in joint
stock companies and partnerships limited by shares. c) Dividends from equity
quotas in limited liability companies, partnerships, and partnerships limited by
shares. d) Dividends from investment securities issued by investment funds.
3- Interest which physical persons receive from their deposits and saving
accounts in banks registered in the Arab Republic of Egypt; investment,
saving and deposit certificates issued by said banks; deposits and saving
accounts in post office funds and securities and deposit certificates issued by
the Central Bank.
4- Profits from new projects set up by funding from the Social Fund for
Development (SFD) to the extent of such funding for a period of five years
from the date of starting the activity or starting production, as applicable. This
exemption will only apply to those whose names were signed in the loans of
the Fund.
5- Educational institutions, subject to the supervision of the government, public legal
persons, Public Sector or State-Owned Enterprises (SOE).
1- Revenues of self-employed professionals registered as members of their
professional syndicates in their fields of specialization, but only for three years from
the date of practice.
2- Revenues of areas planted in desert lands for a period of ten years starting from the
date the land is considered productive
Low Tax Rates
Regimes applying reduced tax rates to certain activities or enterprises require
a number of rules to minimize tax avoidance. A typical example can be given of
low tax rates applied to income earned by small businesses. The first problem is
to define small businesses in relation to a given threshold. The threshold can be
measured in terms of assets, capital, number of employees, or total sales. The
choice among these criteria, which can be used in combination, will depend in
part on the type of business being targeted and on the compliance and
administrative costs that are entailed. Care must be taken to target the low tax
rate to appropriate types of activity and to prevent it from being used to avoid
taxes that should be paid at the personal level.
Tax legislator reduces the tax rate for the targeted industries relative to other
industries. Targeted industries are more important and vital for the society, e.g.
industries encourage technological developments, or manufacturing or that
preserves the quality of environment, or industries that exporting their output to
foreign countries. In Lebanon, corporations are liable to lower tax rate than
individual and personal firms who make net profits greater than specific amount.
In number of countries tax legislator relates the rate of reduction in income tax
to the turnover number of the firm, or to the new products produced by the firm.
This tax incentive may be granted to corporations that have tradable securities in
the stock market. This means that tax incentives may be used to change the
legal form of the firm, and to make these firms more open, which may encourage
family business or closed ones to be changed into joint stock firms.
Countries may provide reduced rates of, corporate income or profits tax to
particular types of activity. Some countries provide a reduced rate of tax for
certain types of investment (e.g., the reduced rate for manufacturing in Ireland).
Other countries provide reduced tax rates for investment in particular locations or
regions (e.g., the reduced rate for investment in special economic zones and
other designated regions of China).
The Egyptian legislation:
a) Used preferential tax treatment in tax law 187 for 1993, where corporation
income tax was reduced from 40% to 32% for industrial business and for
income generated from export. This tax incentive was canceled in the tax law
number 91 for 2005.
b) Exempt profits from the revaluation of the assets of a sole proprietorship will be
exempted from income tax when providing this as an in-kind share to the capital of
a joint stock company, providing that the shares corresponding to the in-kind share
are nominal, and shall not be disposed of within five years
c) Deduct 30% of the cost of the machinery and equipment used in production,
whether they are new or used, at the beginning of each tax period during which
such assets are used. The depreciation base shall be calculated for that period
after the deduction of the said 30% amount. The taxpayer must maintain proper
books and accounts.
Accelerated depreciation of capital assets
The term “accelerated depreciation” generally refers to any depreciation
scheme that provides for writing off the cost of an asset, for tax purposes, at a
rate faster than the true economic depreciation. Many countries use some type of
“declining balance” method of depreciation or other type of accelerated
depreciation as part of their benchmark tax system. For those countries,
however, that do not generally provide accelerated depreciation, a tax incentive
can provide for deducting the cost of acquisition more quickly than would be
allowed under the normal “benchmark” depreciation schedules.
The cost of accelerated depreciation, in terms of tax revenue foregone, is
normally less than that of tax holidays or investment allowances/credits, since it
is only the timing of the tax payable, and not the amount of tax, that is affected.
That, of course, can still be a substantial benefit to established businesses that
are planning to increase their investment, but in the case of most initial
investments, where there may be no profit for several years, accelerated
depreciation will be of no benefit.
To understand how this tax incentive works let us analyze the following
exercise: the acquisition, cost of a productive asset is one million pounds the
expected economic life of this asset is ten years, net annual profits for this asset
is 200,000 pounds, the nominal tax rate is 15%, if the discount rate is 10% and
the salvage value for the asset is zero at the end of the asset life. Calculate the
increase in the net present value and the internal rate of return when applying the
accelerated method (five years) instead of the normal depreciation method.
First: normal depreciation method:
Annual depreciation installment = 10% or L.E.100,000
Net present value of the asset = L.E 136,700
Internal rate of return =13%
Second: Accelerated depreciation method:
Annual depreciation installment = 20% or L.E.200,000 during the first five
years, then it becomes equal to zero during the last five years of the asset life.
Net present value of the asset = 13.8%
Now by comparing between the two methods we found that accelerated
depreciation has increased the net present value by L.E 21,900 or 15.79%, at the
same time internal rate of return has increased by 6.15% in the case of
accelerated depreciation.
This tax incentive has been used by many countries, In US, during the Korean
War; accelerated depreciation was used in industries that support the war. In
particular, businessmen are required to have a certificate from the department of
defense that their product is important for defense purposes to have the right to
use the method of accelerated depreciation. By the end of the war, US
government stopped using this method of depreciation for defense purposes.
In Canada tax legislator use this method in the manufacturing, capital,
agriculture industries, and mining, where a special accelerated depreciation
scheme of two years is used, they call this method “Accelerated Capital cost
Allowances”. In Italy, this method is used for industries that reduce
environmental pollution and in R&D projects. In Germany, this method is
applicable to the production of tools and equipments. In Lebanon, industrial and
commercial firms may apply this method of depreciation; they call it the maximum
depreciation ratio.
Accelerated depreciation method in Egypt:
This method has never been used for depreciation of assets; however income
tax law 91 for 2005 has, to some extent and implicitly, used this method by
stating specific tax life time for different assets as following:
1- 5% of the cost of procuring, constructing, developing, renovating or
reconstructing any building, establishment, ships and aircrafts, for each tax
period.
2- 10% of the cost of procuring, developing, improving or renewing any of
intangible assets purchased, including goodwill, for each tax period.
3- The following two categories of assets are to be depreciated according to
the Depreciable Base System at the rates corresponding to each:
(a) For computers, information systems, software and data storage
equipment, 50% of the depreciable base for each tax year.
(b) For all other assets, 25% of the depreciable base for each tax year.
The productive life of new assets in most cases is greater than length of the
depreciation period for these assets determined by law. If this is the case, then
this case represents, in my point of view, an implicit acceleration depreciation
case for machinery and equipments.
Investment Allowances and Credits
As an alternative, or sometimes in addition, to tax holidays, some
governments provide investment allowances or credits. These are given in
addition to the normal depreciation allowances, with the result that the investor
may be able to write off an amount that is greater than the cost of the investment.
An investment allowance reduces taxable income, whereas an investment tax
credit is set against the tax payable; thus, with a corporate income tax rate of 40
percent, an investment allowance of 50 percent of the amount invested equates
to an investment credit of 20 percent of that amount. Investment allowances or
credits may apply to all forms of capital investment, or they may be restricted to
specific categories, such as machinery or technologically advanced equipment,
or to capital investment in certain activities, such as research and development.
Sometimes, countries limit eligibility to contributions to the charter capital of the
firm. This approach may encourage investors to increase the relative amount of
equity capital rather than related-party debt capital in the firm’s initial capital
structure.
Investment allowances and credits seem preferable to tax holidays in almost
every respect: (a) they are not open-ended; (b) the revenue cost is directly
related to the amount of the investment, so there should be no need for a
minimum threshold for eligibility; and (c) their maximum cost is more easily
estimated.
One objection to the use of investment allowances and credits is that they
favor capital-intensive investment and may be less favorable towards
employment creation than tax holidays. They may also distort the choice of
capital assets, possibly creating a preference for short-lived assets so that a
further allowance for credit may be claimed on replacement.
It should be noted that tax credits are different from tax deductions. In tax
credits the government reduces the tax liability on income of business by the
amount of tax credit if they invest their money in the targeted areas or
businesses. The government may use tax credit as a percentage from the
investment e.g. 5% or 10% of the cost of assets. In tax deductions case the firm
deduct the amount of deduction from the tax base not tax liability.
Example
Assume a tax credit equal to L.E.1000 was granted to a firm; however another
firm has been granted a L.E. 1000 tax deduction. If both firms net profits before
tax credit or tax deduction was L.E.10,000 and the tax rate on corporation profits
15%. The tax liability for both firms will be:
a) Tax credit case:
Tax liability before tax credit = L.E.1,500
تلخيص النصوص العربية والإنجليزية اليا باستخدام الخوارزميات الإحصائية وترتيب وأهمية الجمل في النص
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