Policy Viewpoints

Marginal Effective Tax Rates on Capital and Investment Decisions in Egypt

Publication Number: ECES-PVP7-E&A

October, 2000

Author : Samiha Fawzy and Amal Refaat

Type : Policy Viewpoints

There is a consensus that although taxation is not the only determinant of investment, it has a significant bearing on investment decisions through its impact on the net profitability of projects. Moreover, differential tax treatment may well distort investment allocation. Finally, in a globalized world characterized by increased capital mobility, a well-designed and neutral national corporate tax system has a strong influence on attracting foreign direct investment. Recognizing the bearing of taxation on the cost of capital and investment, the Egyptian government has carried out a number of reforms, such as issuing Investment Law No. 8 in 1997, and reducing the tax on upper bracket incomes to equal that of the commercial corporate firms in 1998. Furthermore, the government has recently announced that it is close to issuing a comprehensive tax reform program dealing with tax rates, investment incentives, tax evasion and the informal sector. The program will address tax administration reform as well. Acknowledging the importance of the government initiative, this Policy Viewpoint offers an estimation of the overall burden of the tax regime on investment in Egypt. This estimate relies on the marginal effective tax rate (METR) on capital, which is a summary measure that captures the impact of all aspects of the tax regime, as well as the industry-specific and economy-wide characteristics, on the cost of capital and hence investment decisions. Starting with a review of the shortcomings of the nominal tax rate (NTR), the study then presents estimates for METR in Egypt in an attempt to address the following questions: Does the tax regime in Egypt increase the cost of investment compared to some other countries? Does it impact investment decisions in a way that negatively affects the efficiency of resources allocation? Finally, it offers some broad suggestions to support the government’s ongoing tax reform efforts.