Incentive Timing Differences

1.3.3 Timing Differences

Incentive timing differences rise through either deferral of the recognition of income or the acceleration of deduction. The most used form of accelerated deduction is accelerated depreciation, when the cost of an asset may be written off at a rate that is faster than the economic rate of depreciation. It may take the form of either a shorter period of depreciation or a special type of deduction in the first year. Later is the same impact to an investment allowance in the first year, but differentiates in the amount written off reduces the depreciation base for next years. Total amount written off doesn’t exceed the actual cost of investment. Deductions occur sooner, provide postpone of tax that is effectively an interest-free

Enterprises like that are likely to be engaged in sectors such as trade, short-term construction, and services. Tax holidays are less likely to be benefit of to major capital-intensive projects, which don’t normally make a profit in the first years. This has been the experience of transition countries that have introduced tax holidays. Most of the beneficiaries of the tax holidays are small firms, restaurants, real estate businesses, and firms designed for short-term market exploitation, like woodcutting and trade. The tax holidays are open-ended in that their value depends upon the amount of profit earned. The types of highly-profit activities that benefit most are the least need of the incentive and would have occurred in the absence of the incentive. The bulk of the revenue forgone is likely to have had no beneficial impact on investment. The experience of Asian countries with tax holidays directed toward export-oriented industries is also instructive. Low-cost assembly plants that are highly mobile can be the most affected by holidays. In a many of countries, plants were established to take advantage of a tax holiday; when the holiday expired, the plant was disassembled and hanged location to an adjacent jurisdiction to take advantage of the holiday offered there. The factor made the project responsive to the incentive also limited the benefit to the

The revenue cost is constrained by the amount of capital that the firm is willing to put at risk. Such, they are of little benefit to the quick-profit types of firms that can take best advantage of tax holidays. Tax allowances are of the greatest benefit to firms with income from existing operations. These firms may shelter a portion of such income from tax with incentives earned on the new investment. Firms with low income or start-ups cannot begin to take advantage of the incentive until the investment begins to earn income.

Provided that a carry forward of the incentive is allowed, an investment allowance can operate in a way similar to a tax holiday in that it may eliminate the tax liability of the firm in the early years of operation. The effect of a tax holiday differs, as it is limited in time but normally involves no upper bound on the amount of tax benefit that can be obtained. General tax rate reductions differ from the other incentives in that they are not specifically directed toward new activity. Income from both existing and new operations is eligible for the incentive. So when rate reductions are viewed as an incentive, they are less likely to be cost-effective than incentives that are related to the amount of new