Tax Reform to Promote Investment
In this paper we explain why the current UK corporation tax discourages investment, consider how large this effect is likely to be, and discuss how this tax bias against corporate investment can best be eliminated. The present corporation tax does not raise the cost of capital for all types of investment, but does raise it for investment financed by retained profits. We propose a new corporate to allowance for investment financed by equity (the Allowance for Corporate Equity). This approach not only eliminates the discouragement to investment, hut also reduces or eliminates most other distortions to company behavior that result from the current corporation tax. The new allowance can be partly financed by eliminating the present tax advantages of dividend income for tax-exempt investors, and this may have an additional benefit for investment by removing one source of pressure for high dividend pay-out ratios in the UK. Copyright 1996 by Oxford University Press.
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