handbook-tb

Eric M. Zolt2.2 Design considerations for tax incentives2.2.1 Eligibility issuesTax incentives are departures from the benchmark system that aregranted only to those investors or investments that satisfy prescribedconditions. These special tax privileges may be justified only if theyattract investments that are both particularly desirable and that wouldnot be made without such tax benefits. Thus, the first question indesigning a tax incentive system is “What types of investment are theincentives intended to attract?”2.2.1.1 Targeting of incentivesIncentives may be broadly targeted — for example, they may targetall new investment, foreign or domestic — or they may be very narrowlytargeted, and designed with one particular proposed investmentin mind. The targeting of incentives serves two important purposes:(a) it identifies the types of investment that host governments seek toattract; and (b) it reduces the cost of incentives because it reduces thenumber of investors that benefit.This raises the question of whether a government should treatsome types of investment as more desirable or beneficial than others.Should a government seek to attract tax incentives and target themat particular types of investments and not others, or should investmentdecisions be left solely to market forces? Justifiable doubt existsabout the ability of politicians to “pick winners,” particularly in countrieswhere markets are less than perfect. Also, there are some typesof investment that, while not prohibited altogether, may not deserveencouragement in the form of tax benefits. Ideally, incentives shouldbe given only for incremental investment; that is, for investments thatwould not otherwise have occurred but for the tax benefits.An initial question is whether the granting of tax incentivesshould be discretionary, or automatic once the prescribed conditionsare met. In many cases it may be advisable to limit discretion. But ifqualification for incentives is made largely automatic, it becomes necessaryfor the qualifying conditions to be spelled out clearly and in detail.468