handbook-tb

Tax incentives: protecting the tax base2.1.2 Costs of tax incentivesIn considering the costs of a tax incentive regime, it may be useful toexamine four different types of costs: (a) revenue costs; (b) resourceallocation costs; (c) enforcement and compliance costs; and (d) thecosts associated with corruption and lack of transparency. 242.1.2.1 Revenue costsThe tax revenue losses from tax incentives come from two primarysources: first, forgone revenue from projects that would have beenundertaken even if the investor did not receive any tax incentives;and, second, lost revenue from investors and activities that improperlyclaim incentives or shift income from related taxable firms to thosefirms qualifying for favourable tax treatment.Policymakers seek to target tax incentives to achieve the greatestpossible benefits for the lowest costs. Ideally, the objective wouldbe to offer tax incentives only to those investors who at the marginwould invest elsewhere but for the tax incentives. Offering tax incentivesto those investors whose decisions to invest are not affected by theproposed tax benefit merely results in a transfer to the investor fromthe host government without any gain. However, it is very difficult todetermine on a project-by-project basis which of them were undertakensolely due to tax incentives. Similarly, it is hard to estimate foran economy as a whole what the levels of investment would be with orwithout a tax incentive regime.For those projects that would not have been undertaken withouttax incentives, there is no real loss of tax revenue from those firms.To the extent that the firms become regular taxpayers or that theseoperations generate other tax revenue (such as increased profits fromsuppliers or increased wage taxes from employees), there are revenuegains from those projects.An additional revenue cost of tax incentives results from erosionof the revenue base due to taxpayers abusing the tax incentive regimes24Howell H. Zee, Janet Gale Stotsky and Eduardo Ley, “Tax Incentivesfor Business Investment: A Primer for Tax Policy Makers in DevelopingCountries,’’ supra note 4.463