Abstract
We investigate whether tax incentives are effective in stimulating private investment in less developed countries, by exploiting the introduction of accelerated depreciation for fixed assets investment in China as a natural experiment. In contrast to the large positive impact of similar tax incentives in the U.S. and U.K. found in recent studies, accelerated depreciation appeared ineffective in stimulating Chinese firms’ investment. Using confidential corporate tax returns from a large province, we find that firms fail to claim the tax benefits on over 80 percent of eligible investments. Firms’ take-up of the tax incentive is significantly influenced by their taxable positions and tax sophistication. Information transmission and resources of local tax authorities also play a significant role. Our study contributes to the understanding of conditions under which tax-based investment incentives can be effective.
Highlights
We are thankful for helpful comments from Katarzyna Bilicka, Stephen Bond, Joshua Gottlieb, Irem Guceri, Jim Hines, James MacKinnon, Kevin Milligan, Terry Moon, Hugh Shiplett, Munir Squires, Alfons Weichenrieder and discussant feedback at the American Law and Economics Association Annual Conference, the Canadian Economics Association Annual Conference, the International Institute for Public Finance Annual Congress, and the Oxford Doctoral Business Tax Conference
18Firm fixed effects αi will account for level shifts in yi,t caused by these differences. but not account for differences in how firms respond to accelerated depreciation (AD) policy
Using confidential corporate tax returns from a large province, we document that the introduction of AD in China failed to meaningfully stimulate investment, in contrast to recent studies of similar policies in the US and UK
Summary
AD is a familiar tax policy tool in developed countries. Section 179 expensing and bonus depreciation studied in the recent U.S literature (Kitchen and Knittel, 2016; Zwick and Mahon, 2017) are only the latest episodes in a long history of similar incentives. In contrast, AD is a new policy instrument in Chinese taxation. For assets of 5 years or longer, the PV of deductions is greater under shortened useful life than under DDB This allows the calculation in the last column of an implied bonus depreciation factor relative to DDB depreciation.. 11U.S. bonus depreciation allows firms to deduct a percentage of the asset value immediately and the remaining portion according to MACRS (i.e. DDB depreciation). They were not directly affected by the VAT expansion, and any indirect effect of VAT reform may reasonably be assumed to be common across treated and control groups
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