Taxation and Business Surplus

In this note it is presumed that the aim of investment decisions is the achievement of the most desired spread of consumption over time, and that the maximisation of periodic profits is only a means of achieving this aim. It is further presumed that the allocation of resources is to be determined by the free operation of the price mechanism unless there are specific reasons for interfering with this allocation. In the light of these presumptions it is proposed to examine the present tax base of accounting profit and a proposed tax base of ‘economic income’. ‘Economic income’ is defined as revenues less current opportunity costs. This can be contrasted with accounting profit which is revenues less historical costs. In practice economic income can be calculated by making several adjustments to accounting profit. It would be necessary to calculate depreciation allowances by the annuity method described below, and to adjust for those items recorded in the prices of past accounting periods. The latter consists of revaluing depreciation allowances (as defined) in terms of the current replacement costs of fixed assets, and of revaluing the ‘Costs of Goods Sold’ in current terms to remove the stock appreciation element from accounting profits.