United nations of tax incentives

Part I: Theoretical Background
investment. While different ways to distinguish portfolio and direct 
investment exist, a common approach is to focus on the foreign investor’s 
percentage ownership of the domestic enterprise. For example, if the 
foreign investor owns a greater than 10 per cent stake in an enterprise, 
the investment is likely more than a mere passive holding for investment 
purposes. Foreign direct investment can be further divided into direct 
transfers from a parent company to a foreign affiliate through debt or 
equity contributions and reinvested earnings by the foreign affiliate.
The different forms of foreign investment are also important, 
as each form may respond differently to taxes. Types of foreign 
investment include: (a) real investments in plant and equipment; (b) 
financial flows associated with mergers and acquisitions; (c) increased 
investment in foreign affiliates; and (d) joint ventures. Finally, 
commentators have noted that taxes may affect a decision as to the 
source of financing more than decisions as to the level of investment.
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Investors have several alternatives on how to fund new ventures or 
expand existing operations. Taxes likely play a role in the choice of 
whether to make a new equity investment, use internal or external 
borrowing or use retained earnings to finance investments.
When the results of tax incentive regimes are examined 
seriously, there are successes and failures.
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A good review of the 
results of incentives is set forth in a 1996 United Nations study. The 
United Nations study concluded that “as other policy and non-policy 
conditions converge, the role of incentives becomes more important 
at the margin, especially for projects that are cost-oriented and 
mobile”. OECD reached a similar conclusion in finding that host 
country taxation affects investment flows and that it is an increasingly 
important factor in locational decisions.
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See Alan Auerbach, “The Cost of Capital and Investment in Developing 
Countries”, in 
Fiscal Incentives for Investment and Innovation
, Anwar Shah, ed., vol. 
1 (Washington, D.C., World Bank Group, 1995).
14 
See Ngee Choon Chia and John Whalley, “Patterns in Investment Tax Incen-
tives Among Developing Countries”, in 
Fiscal Incentives for Investment in Developing 
Countries
, Anwar Shah, ed. (Washington, D.C., World Bank, 1992).
15 
See W. Steven Clark, “Tax Incentives for Foreign Direct Investment: Empiri-
cal Evidence on Effects and Alternative Policy Options”, 
Canadian Tax Journal
, vol. 
48 (2000).

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