Windfalls? Costs and Benefits of Investment Tax Incentives due to Financial Constraints

Author Name ORIHARA Masanori (University of Tsukuba) / SUZUKI Takafumi (Aichi Shukutoku University)
Creation Date/NO. October 2021 21-E-087
Research Project The Future Direction of Corporate Taxation
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We find that financially unconstrained firms claimed temporary investment tax incentives more often than their constrained counterparts. The former, however, did not necessarily increase their investments. We consider a 2014 tax reform in Japan which introduced both an investment tax credit and bonus depreciation, using confidential tax return survey data. Our data show low adoption rates, only 25%, in line with the recent literature. Many of them claimed the tax credit, which brings direct monetary benefits. Our finding is most prominent for a comparison between public and private firms among various constrained measures: the former claimed the tax credit more often and the bonus depreciation less often than the latter. Older firms claimed tax benefits. This might suggest that prior experience with claiming tax credits plays a role. Inconsistent with currently accepted theories, investment opportunities did not lead to more applications. Tax incentives encouraged investment mostly by financially constrained firms, such as private firms, small firms, and non-bond issuers. Our findings demonstrate a novel cost associated with investment tax incentives: encouraging financially constrained firms’ investment through tax incentives has the side effect of unintended tax benefits for unconstrained firms.