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                       Appendix                                  International Tax Competition,” Economic Policy 17,
                                                                 no. 35 (October 2002): 451–95.
Data
                                                                 Assuming away interest taxation at the shareholder level,
The main sources of information for the data compiled            we calculate the shareholder’s nominal discount rate,
in the AEI International Tax Database are: (1) Price-            ρ = (1 + r)*(1 + π) – 1 = 13.85%. Using these inputs, we
waterhouseCoopers, “Corporate Taxes—Worldwide                    calculate A for several cases based on requirements that
Summaries” and “Individual Taxes—Worldwide                       vary by country:
Summaries”; (2) Coopers and Lybrand, “International
Tax Summaries”; (3) Ernst and Young, “Worldwide                  Straight line depreciation is required and there is one off-
Corporate Tax Guide 2001”; (4) International Bureau              set rate for all years.
for Fiscal Documentation, Loose-Leaf Services; and               A = (Φ*(1 + ρ)/ρ)*(1 – (1/((1 + ρ)^(1/Φ))))
(5) embassies and ministries of taxation in individual
countries. Historical information was gathered from              Declining balance depreciation is required and there is
Georgetown Law Library and the Library of Congress.              one offset rate for all years.
The revenue data have been obtained from the OECD.               A = Φ*(1 + ρ)/( ρ + Φ)

Methodology                                                      Straight line depreciation is required and there is a differ-
                                                                 ent offset rate for subsequent years.
The effective average tax rate (EATR) can be computed            A = Φ1 + (Φ2*(1 + ρ)/ρ)*(1 – (1/((1 + ρ)^(((1 – Φ1)/Φ2)
as the difference between the pretax and posttax eco-            + 1)))) – Φ2
nomic rent scaled by the net present value of the pretax
income stream Y * associated with investment strategy i.
                  i                                              Declining balance depreciation is required and there is a
Conceptually, the EATR can be expressed as follows,              different offset rate for subsequent years.
                           (R*– R i)                             A = Φ1 + (Φ2*(1 – Φ1)*(1 + ρ)/((1 + ρ)*(ρ + Φ2)))
                    ζi =
                             i
                              Y*
                               i
                                                                 Straight line depreciation or declining balance deprecia-
where R* = Y * – Fi is the pretax economic rent and Fi           tion may be chosen, but the method must be consistent
equals the fixed cost. Ri = (1 – τi )Y * – (1 – Ai)Fi is the
          i     i
                                                                 for all years. There is one rate for all years.
                                                                 A1 = (Φ*(1 + ρ)/ ρ)*(1 – (1/((1+ρ)^(1/Φ))))
                                       i
posttax economic rent calculated as the net present value
of the income stream posttax minus the net cost of the           A2 = Φ*(1 + ρ)/(ρ + Φ)
investment. Ai is the net present value of tax allowances
per unit of investment and τi is the combined statutory
                                                                 A = max(A1, A2)
tax rate.
                                                                 Straight line depreciation or declining balance depreciation
We find τ, the combined national and subnational top             may be chosen, but the method must be consistent for all
statutory tax rate, in the OECD tax database. It accounts        years. There is a different offset rate for subsequent years.
for the national deductibility of subnational tax pay-           A1 = Φ1 + ( Φ2*(1 + ρ)/ρ)*(1 – (1/((1 + ρ)^(((1 – Φ1)/
ments where applicable.                                          Φ2)+1))))– Φ2
                                                                 A2 = Φ1+(Φ2*(1 – Φ1)*(1 + ρ)/((1 + ρ)*(ρ + Φ2)))
We calculate A, the net present value of allowances per
unit of investment divided by τ, using depreciation              A = max(A1, A2)
allowance data from the AEI International Tax Database.
In particular, the database provides a measure for Φ, the        Instances where straight line depreciation or declining
rate at which capital expenditure can be offset against tax.     balance depreciation may be chosen and the method
We also take assumptions for the real annual discount            need not be consistent for all years are calculated ad hoc.
rate, r =10%, and the expected annual inflation rate,            Additionally, depreciation data were not available after
π =3.5%, from Michael Devereux, Rachel Griffith, and             2007, so A values for 2008–2010 are set equal to values
Alexander Klemm, “Corporate Income Tax Reforms and               in 2007.
                                                           -8-
Allowances change very infrequently, so this assumption       EATR = (R* – Rt)/(p/(1+ r))
                                                                       t
is unlikely to bias the results.
                                                              Author calculations are available upon request.
Taking the further assumption that the economic depre-
ciation rate is δ =12.25% from Devereux, Griffith, and
Klemm, we can calculate the effective marginal tax rate.      Example
EMTR = ((δ + r)*(τ – τ*A))/((δ + r)*(1 – τ *A) –
(δ*(1 – τ)))                                                  Canada’s tax policy in the late 1980s provides a good
                                                              example of how depreciation allowances can affect the
Before deriving the effective average tax rate, we must       effective average corporate tax rate. In 1986, Canada pro-
calculate the net present value of the economic rent gener-   vided a 33 percent depreciation allowance and required
ated, Rt, and the net present value of the pretax economic    depreciation to be calculated with the straight line
rent R* . We assume that the financial return, p, is 20%.
       t                                                      method. In 1987, Canada undertook base-broadening tax
                                                              reform and lowered its depreciation allowance to 20 per-
Rt= – (1 – (A* τ)) + (1/(1 + ρ))*((1+π)*(p + δ)*              cent calculated with the declining balance method. The
(1 – τ)+(1+π)*(1 – δ)*(1 – (A * τ)))                          large allowance cut corresponded with a 24 percent drop
                                                              in A, the net present value of allowances over τ. A fell
R* = (p – r)/(1 + r))
 t                                                            from 0.88 to 0.67. At the same time, though, Canada cut
                                                              its combined top statutory tax rate from 49.8 percent in
Then we obtain the EATR by dividing the difference of         1986 to 48.5 percent in 1987. The net effect on Canada’s
the pretax and posttax economic rent by the net present       effective average corporate tax rate was a large increase,
value of the pretax income stream, net of depreciation        from 31.4 percent to 42.0 percent. Large allowance cuts
p/(1 + r).                                                    overwhelmed smaller statutory rate cuts.

				
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