Evaluating the asset based minimum tax on corporations : an option pricing approach

In many countries, well-meant ad hoc tax incentives proliferate over time, creating an opaque corporate tax structure and many unanticipated tax loopholes. Tax authorities in several countries have considered and sometimes introduced minimum corporate taxes. Liability under such a tax is sometimes linked to profits but more often to assets, as these are harder to manipulate. The authors refer to such a tax as a minimum asset tax (MAT). They suggest an approach based on option pricing, which is designed to incorporate the impact of rate-of-return uncertainty on the burden a MAT will impose. The authors use their methodology to assess a recent Brazilian MAT proposal using sectoral data on corporate income tax revenue and asset value. The MAT, with its simple tax code and marginal impact on the marginal effective tax rate (MERT), is an appealing short cut to comprehensive tax reform - and the revenue effects in Brazil could be substantial. Two common assumptions turned out not to be true: 1) the MAT does not reduce sectoral distortions. The standard deviation of the MERT is higher with MAT than without; and 2) high-risk firms tend to be high-rate-of-return firms, which reduces MAT's impact.