IAS/IFRS in Belgium: Quantitative Analysis of the impact on the Tax Burden of Companies

Transcription

1 IAS/IFRS in Belgium: Quantitative Analysis of the impact on the Tax Burden of Companies J. Haverals The adoption of IAS/IFRS in the European Union is part of the European Commission s global tax harmonisation policy whose aim is to establish a common (consolidated) corporate tax base. The paper shows that the impact of an IAS/IFRS- based tax accounting on the effective tax burden of Belgian companies is large and not uniform across sectors. Some sectors, like construction and automotive vehicles, experience much larger increases in effective tax burdens than others. Globally the impact is relatively important. The analysis is conducted thanks to the European Tax Analyzer, a multi-period forward looking program. In a European context, an IAS/IFRS-based tax accounting will increase the effective corporate tax burdens in all selected countries. However it will most probably maintain the current tax competitive positions of EU countries. The expected broadening of the tax base could constitute an opportunity to reduce the corporate income tax rate without changing the overall effective burden. JEL Classifications: H21, H25 Keywords: International Accounting Standards/International Financial Reporting Standards, Effective Tax Burden, Tax Accounting. CEB Working Paper N 05/011 September 2005 Université Libre de Bruxelles Solvay Business School Centre Emile Bernheim ULB CP 145/01 50, avenue F.D. Roosevelt 1050 Brussels BELGIUM ceb@admin.ulb.ac.be Tel. : +32 (0)2/ Fax : +32 (0)2/

2 IAS/IFRS in Belgium: Quantitative Analysis of the Impact on the Tax Burden of Companies Jacqueline Haverals* FNRS and Université Libre de Bruxelles, Solvay Business School, Centre Emile Bernheim * Université Libre de Bruxelles, CP 145/1, 50 avenue Roosevelt, B-1050 Brussels, Belgium. Tel. (+32) Fax. (+32) jhaveral@ulb.ac.be September 2005 The author gratefully acknowledges the great opportunity given by Christoph Spengel, Otto Jacobs, Thorsten Stetter and Carsten Wendt of the Department of Corporate Taxation and Public Finance of the Centre for European Economic Research (ZEW- Mannheim, Germany) to conduct this analysis. The author also gratefully acknowledges helpful comments from Pascal Minne and Ariane Szafarz.

3 1 IAS/IFRS in Belgium: Quantitative Analysis of the Impact on the Tax Burden of Companies Abstract The adoption of IAS/IFRS in the European Union is part of the European Commission s global tax harmonisation policy whose aim is to establish a common (consolidated) corporate tax base. The paper shows that the impact of an IAS/IFRS- based tax accounting on the effective tax burden of Belgian companies is large and not uniform across sectors. Some sectors, like construction and automotive vehicles, experience much larger increases in effective tax burdens than others. Globally the impact is relatively important. The analysis is conducted thanks to the European Tax Analyzer, a multi-period forward looking program. In a European context, an IAS/IFRS-based tax accounting will increase the effective corporate tax burdens in all selected countries. However it will most probably maintain the current tax competitive positions of EU countries. The expected broadening of the tax base could constitute an opportunity to reduce the corporate income tax rate without changing the overall effective burden. JEL-Classification: H21, H25 Keywords: International Accounting Standards/International Financial Reporting Standards, Effective Tax Burden, Tax Accounting.

4 2 1. Introduction The EC Regulation n 1606/2002 of July, 19 th, 2002 requires all listed European Union (EU) companies, from January, 1 st 2005 onwards, to prepare their consolidated accounts conformingly to the International Accounting Standards (IAS) and the International Financial Reporting Standards (IFRS). Besides, it gives Member States the option to require or permit IAS and IFRS in the corporate annual accounts (see Larson & Street, 2004). With this Regulation, the European Commission aims at harmonising corporate taxation within the EU. On May, 1 st, 2004, the number of Member States increased by ten so that today 25 different tax regimes coexist. This fiscal fragmentation represents one of the major obstacles on the way to a fully integrated Internal Market (see Street, 2002 for an analysis of the differences between national GAAP and IAS/IFRS). The project of a common (consolidated) tax base is intended to solve this problem. In Belgium the adoption of an IAS/IFRS-based tax accounting has already raised several questions and concerns regarding its impact on the tax burden of companies. The aim of this paper is therefore twofold. Firstly, its primary objective is to determine the impact of the adoption of certain IAS/IFRS as a starting point for tax purposes on the effective tax burden of Belgian companies. Secondly, it assesses the current and potential tax competitive position of Belgium against seven other Member States. A number of methods exist to calculate effective tax burdens but only forward- looking microeconomic approaches actually model the characteristics of the tax system and can be used to evaluate changes.

5 3 The simulation model at the root of this analysis is the European Tax Analyzer which is a multiperiod forward looking computer program that has been evaluated by the European Commission in Research on this topic has already extensively been conducted by Oestreicher & Spengel (1999), Spengel (2003a) and Jacobs, Spengel, Stetter & Wendt (2005), but not specifically for Belgium. The paper is divided into eight sections. Section 2 exposes the challenges that the EU faces with the IAS/IFRS. Section 3 describes the possible approaches to compute effective tax burdens. Section 4 introduces the European Tax Analyzer (ETA). Section 5 discusses the main assumptions of the ETA simulation process. The aim of Section 6 is twofold: Determining the current tax burden of companies as it is computed by Belgian tax accounting rules and assessing the importance of the impact when IAS/IFRS are used for determining the taxable income. Section 7 determines the tax competitive position of Belgium in the EU under current tax rules and in case of an IAS/IFRS-based tax accounting. Finally Section 8 concludes. 2. The IAS/IFRS Challenge In March 2000, at the Lisbon European Council, Heads of States and governments set the EU, the goal of becoming by 2010 the most competitive and dynamic knowledge-based economy in the world, capable of sustainable economic growth with more and better jobs and greater social cohesion. In October 2001, the European Commission mentioned that harmonisation of corporate taxation would contribute to the achievement of the Lisbon objectives as the fragmentation of direct taxes harms the realisation of an internal homogeneous market (European

6 4 Commission, 2001a, 2001b, 2001c, and 2003a). Since the beginning of the European integration in the 1950 s, the Community has only been awarded competence over indirect taxes. Direct tax policies have indeed always been considered as a core part of national sovereignty (see note 1). This state of affairs leads today to the coexistence of 25 separate tax systems (see note 2) and several problems related to cross-border activities, tax compliance costs, transfer pricing In order to take full advantage of the Internal Market and reduce the risk that tax laws of the different Member States would be judged as being unlawful restrictions to the EU fundamental freedoms by the European Court of Justice (European Commission, 2004a, pp. 1), the European Commission considers that companies should have the possibility of using a common consolidated corporate tax base for their economic activities in the EU (European Commission, 2001b, and 2003a). According to the European Commission, without such a tax base, the USA and Japan would retain a distinct competitive advantage. As regards the implementation of a common tax base or common consolidated tax base, the European Commission makes three important remarks (European Commission, 2004a, pp. 2-3). First, a common tax base without consolidation provides fewer benefits to businesses, for example transfer pricing remains a major issue. Second, consolidation requires the design of detailed rules and mechanisms for sharing the tax base between Member States. Third, a simple common tax base brings important advantages concerning compliance costs. Therefore, the European Commission concludes that the process should be split into two phases which are the development of the common corporate tax base and afterwards the development of a consolidation method.

7 5 At first sight, the idea may seem extremely appealing. However political issues make the process delicate and slow. Besides, the largest countries might be tempted to impose their views to others who need a flexible and attractive tax system to compensate their smaller size. Regarding options for a harmonised tax base, the European Commission presented different approaches like the Home State Taxation and the Optional Common Base Taxation (European Commission, 2001b, and 2001c) but today, its focus goes clearly on the IAS and the IFRS (see note 3). Indeed, the public consultation launched by the European Commission in 2003 concluded that IAS/IFRS could provide a neutral starting point for the development of a common EU tax base (European Commission, 2003b). There are three major reasons for choosing IAS/IFRS. First, from January, 1 st 2005 all listed EU companies had to adopt IAS/IFRS for their consolidated accounts conformingly to the EC Regulation n 1606/2002 of July, 19 th, 2002 (see note 4). IAS/IFRS therefore provide a common reference point that is relevant to the determination of a single profit figure for European companies, albeit in relation to their global consolidated activities. Second, accounting has been identified as an important and crucial parameter for corporate taxation harmonisation within the EU (European Commission 2003a). Finally, IAS/IFRS have taken a major role in the Commission s current consultations on design of a common tax base in the EU. As regards consolidated accounts of non-listed companies and individual financial accounts, the Commission leaves the option to the Member States to apply or not the IAS/IFRS. If IAS/IFRS were applied in individual accounts without being adapted for tax purposes, it would involve a disconnection between accounting and taxation for Member States exhibiting a close and tight relationship ( connection system ) between these two disciplines. Belgium and other countries of

8 6 Code Law tradition (France and Germany for the most important Member States) are thus specifically concerned. Indeed, Common Law countries like the United Kingdom or the United States adopt a duality of accounts for two different types of users, public and tax authorities (see note 5) The implementation of an IAS/IFRS-based tax accounting requires first the assessment of how these standards would be adjusted in order to make them consistent with the common principles of taxation (European Commission, 2003a). As a matter of fact, financial accounts based on IAS/IFRS cannot be used unchanged for tax purposes. Indeed, the IAS/IFRS are oriented towards investors (fair value accounting) while the principles of taxation are aimed at guaranteeing the fiscal rights of the State (historic cost accounting). Fair value accounting (see note 6) appears to be the principal stake when talking of reconciling IAS/IFRS and determination of taxable income. Indeed, almost every IAS and IFRS contains a dose of fair value accounting: IAS 36 (impairment of assets), IAS 38 (intangibles assets), IAS 39 (recognition and measurement of financial instruments), IAS 40 (investment property), IAS 41 (agriculture), IFRS 2 (share-based payment), IFRS 3 (business combinations) and IFRS 4 (insurance contracts). The model developed in the next sections will take into account those IAS/IFRS which are not in conflict with the tax principles. 3. Measuring Effective Tax Burdens When determining effective corporate tax burdens, effective rates are to be used, rather than statutory rates. Indeed, statutory rates do neither evaluate the tax burdens really suffered by

9 7 companies nor the diversity of the elements composing the tax base and the interrelations of different tax regimes in case of international comparisons. On the other hand, effective rates are specifically designed to assess tax burdens as well as the impact of taxes on the economic activity. The effective rate is the product of the statutory rate and the tax base (Giannini & Maggiulli, 2001, pp. 2). Effective tax burdens can be measured with two methods (Jacobs & Spengel, 2000; OECD, 2000; Spengel & Lammersen, 2001). The first approach, called (micro) backward-looking, uses current accounting data from existing firms (ex-post data). The second approach, defined as (micro) forward-looking, is based on ex-ante data for a hypothetical prospective company over its assumed life. The former is not appropriate to evaluate the effects of taxation on business decision- making (OECD, 2001, pp. 7-11) and its impact on future competitiveness of firms as it is not connected to future tax payments (see note 7). The forward-looking approach is adopted in this study as it takes into account expected tax payments connected to particular decisions. In order to assess forward-looking effective tax burdens, two measures can be relevant: the effective marginal tax rate (EMTR) and the effective average tax rate (EATR). King & Fullerton (1984) were the first to compute EMTR with an approach based on neo-classical investment theory (Jorgenson, 1963). The EMTR is defined as the difference between the required pre-tax rate of return and the interest rate divided by the pre-tax rate of return. Devereux & Griffith (1998, 1999) have extended the King & Fullerton (1984) methodology (see note 8) and calculated EATR which can be roughly defined as a weighted average of the EMTR on the one hand and the statutory tax rate on the other. The choice between EMTR and EATR depends on the kind of investment choice or the objective of the measurement. If the objective is to assess the

10 8 effects of taxes on incremental investment decisions (e.g. plant expansions), then the EMTR is the relevant approach. But if the aim of the tax burden comparison is to capture the effects of intra-marginal investments like the location decision of a multinational corporation (a discrete investment choice), then the EATR is the good approach. EATR are relevant if there is a choice of a number of profitable, mutually exclusive projects. However, as the results for the EMTR and the EATR are derived from models, the measured impact of taxation is only valid under the assumptions of these models. For the purpose of our study, the EATR measure is applied (see note 9). The EATR may be computed within the model-firm approach, a firm-specific combination of several investments (assets) and sources of finance. This forward- looking micro model takes into account all relevant relationships among sales, investment, profit distribution, etc The tax assessment and the effect of taxes on financial statements, liquidity calculations and profit and loss accounts are simulated over successive periods. According to literature (see for example OECD, 1999, pp. 6), the model-firm approach suffers from a heavy dependence on the characteristics of the company. Nevertheless if the planning options are carefully chosen, the use of firm data is no specific disadvantage of the model-firm approach (Jacobs & Spengel, 1999, pp. 9). Moreover, such models are able to take into account different economic situations and planning options (e.g., profitability, capitalization, dividend policies ). In the EU, several micro-simulation approaches co-exist, each with their own strengths, limitations and potential role in policy analysis: The UK Inland Revenue Corporation Tax model, the New Italian model of Corporate Taxes and the European Tax Analyzer.

11 9 *** insert Table 1 here*** 4. The European Tax Analyzer Program The implications of an IAS/IFRS-based tax accounting on the effective tax burden of Belgian companies are quantified using the European Tax Analyzer program (Spengel, 1995; Jacobs & Spengel, 1996; Meyer, 1996; Jacobs & Spengel, 2002; Jacobs, Spengel, Stetter & Wendt, 2005). The European Tax Analyzer (ETA) is a micro-simulation forward-looking computer-based model designed for measuring the tax burdens of partnerships and corporations (including their shareholders) located in different countries. The primary goal of the ETA is an international comparison of effective tax burdens (Jacobs, Spengel, Stetter & Wendt, 2005). The model includes the tax systems of Austria, Belgium, Czech Republic, France, Germany, Hungary, Ireland, Latvia, the Netherlands, Poland, Slovakia, the United Kingdom and the United States (California) (see note 10). The ETA is the result of a joint research project from the Centre for European Economic Research (ZEW, Mannheim, Germany) and the University of Mannheim. As a micro-model, the ETA starts from the micro-level. As a simulation model, it simulates the development of a medium-sized manufacturing company over a ten year period. Pre- tax data derive from the Federal Reserve Bank of Germany (Deutsche Bundesbank, 2003, pp ). They include variable estimates about production, sale, procurement, number of staff, staff costs, investment, financing and distribution schemes. Economic data such as interest rates and inflation

12 10 rates are also taken into account. The company is supposed to be funded with equity and debt. In contrast to models which compute tax burdens solely based on pre-tax returns (yield), calculations based on cash receipts and cash expenses allow the entire computation of all tax bases at any time during the period of simulation (because all relevant income and assets have been entered into the tax base). Consequently, the model can include complicated tax provisions such as progressive tax rates without any difficulty. The ETA is a model of an open economy as firms may have domestic and foreign subsidiaries and pay their tax duties in the country where the profits are originated. The model-firm is based on several technical assumptions. Depreciation is dealt through the straight-line method based on the expected economic lifetime of assets, set to fifty years for production and office buildings, to five years for patents and licenses, to five to ten years for machinery (five different types of machines), to nine years for office equipment and to four years for fixtures. The weighted average cost method is used for the valuation of inventory. Specific price growth are relevant for different earnings and expenditures: 2.3% is taken for the consumer price index, 1.4% for the price index for basic material (relevant for production), 2.5% for the price index for wages (relevant for salaries), 2.5% for the price index for investment goods (relevant for machinery) and 2.5% for the price index for land and buildings. Creditor, resp. debtor, interest rates are: 3.0%, resp. 7.0%, for the short term, 5.0%, resp. 6.0%, for the long term. These figures were also taken from the Deutsche Bundesbank. In addition to the base case manufacturing firm, the ETA also allows the computation of effective tax burdens of ten other industries whose data were derived, again, from the Federal Reserve Bank of Germany.

13 11 The effective average tax burden (EATR) is expressed as the difference between the pre-tax and the post-tax value of the firm at the end of the ten years. The computation of the total tax burden and the EATR takes four steps (Jacobs & Spengel, 2000, pp.9-12). In the first step, the pre-tax value of the firm at the end of the simulation period is calculated. The pre-tax value of the firm is derived from the estimated cash flows and the value of the net assets at the end of the ten years. The cash flows are derived from estimates in the corporate planning for the cash receipts (sales and other receipts, gains upon the disposal of assets, interest and dividend income) and expenses (wages, expenses for material, energy consumption, new investments, interests expenses and distributed profits). The cash flow is derived from financial planning and calculated every period. It is assumed that any given amount of surplus cash flow at the end of a single period can be invested at a given interest rate and any deficit can be covered by borrowing money at a given debit rate and then included in the next period. The value of the net assets at the end of the ten years is calculated by deducting the liabilities of the corporation (and, if relevant, of the shareholders) from the assets. The assets are valued at their replacement prices and the liabilities at their nominal values. x + y = z (1) where x = pre-tax cash flow at the end of the simulation period,

14 12 y = value of the net assets at the end of the simulation period (= assets in the capital stock at replacement prices liabilities in the capital stock at nominal values), z = pre-tax value of the firm at the end of the simulation period. The current version of the model allows for choosing between several accounting options (tax electives) enabling a company to influence its taxable income. The rules for the profit computation cover: the depreciation (methods and tax periods for all assets considered, extraordinary depreciation), the inventory valuation (LIFO, FIFO, HIFO and weighted average costs), the production costs (full and partial costs), the research and development costs (immediate expensing or capitalization) and the elimination and/or mitigation of double taxation on foreign income (exemption, foreign tax credit, deduction of foreign taxes). In contrast to the previous model, the occupational pension schemes are not yet included in the current version. In the second step, the post-tax value of the firm at the end of the ten years is calculated. The determination of the post-tax value of the firm has only cash flow effects and has no impact on the value of the net assets. The post-tax cash flow is derived in each period by deducting the tax liabilities from the pre-tax cash flow. The tax liabilities are derived by transforming the receipts and expenses into items of the tax bases (i.e., on the one hand assets and liabilities and, on the other hand, profits and losses/charges) with respect of the depreciation allowances determined by the relevant national rules and then applying the tax rates. By taking into account the tax-induced effects on the interest income or expense of each period, the deferral of tax payments is integrated into the model.

15 13 Due to the specific tax valuation rules applied by each country, the tax value of the company s assets and liabilities may differ from the economic value of the corresponding assets and liabilities. These differences result in the constitution of hidden reserves or hidden liabilities which are taken into account not only over the ten-year period, but also thereafter. The hidden reserves or liabilities of periods after the tenth are first weighted in accordance with the remaining useful lifetime of the respective asset or liability and then included in the taxable income of the tenth period. s t = u u + v = w (2) x y = z where s = pre-tax cash flow at the end of the simulation period, t = tax liabilities in each period, u = post-tax cash flow at the end of the simulation period, v = value of the net assets at the end of the simulation period (= assets in the capital stock at replacement prices liabilities in the capital stock at nominal values), w = post-tax value of the firm at the end of the simulation period, x = pre-tax value of the firm at the end of the simulation period, y = post-tax value of the firm at the end of the simulation period, z = total average tax burden in currency units.

16 14 In the third step, both the pre-tax and the post-tax value of the firm at the end of the simulation period are transformed into the pre-tax and post-tax return respectively: 1 V T f r 1 (3) Vi 1 V T fs r 1 (4) s Vi where r = pre-tax return, r s = post-tax return, V i = value of the firm at the beginning of the simulation period, V f = pre-tax value of the firm at the end of the simulation period, V fs = post-tax value of the firm at the end of the simulation period, T = simulation period (10 years). The return r, resp. r s, represents the internal growth rate of the firm value during the simulation period before taxes, resp. after taxes, taking into account all the assumptions about the investment, financing and distribution policy from the beginning of the simulation.

17 15 In the fourth step, the effective average tax rate (EATR) is computed by deducting the post-tax return from the pre-tax return and dividing this difference by the pre-tax return. r r r s EATR (5) As the EATR is the difference between the pre-tax and the post-tax value of the firm, the higher the EATR, the higher the share of the pre-tax value of the firm. As a result, the countries with a high EATR are less attractive locations for the firms. 5. The Simulation Process The impact of adopting IAS/IFRS is evaluated in two steps. First, the tax burden is established according to current Belgian tax law. Second, its modifications due to the IAS/IFRS-based tax accounting are obtained through the ETA. The simulation process relies on five main assumptions: a) The analysis relies on the tax principle of realisation which is not adopted by IAS/IFRS. Consequently, differences related to the realisation of revenues (e.g., fair value accounting, percentage of completion method, impairments) are disregarded (see Schön, 2004; Spengel, 2003a for a more detailed evaluation); b) Depreciation of intangibles, buildings and tangible fixed assets is linear over the asset s useful life; c) The depreciation period is 40 years for production building and 50 years for office building; d) Full costs accounting is used for production costs; e) The FIFO inventory valuation method is the benchmark.

18 16 In addition to these general assumptions about the model-firm and the economic environment, specific assumptions concern the Belgian tax treatment. They refer to the location of the firm, the basis year for tax rules, the depreciation period for building, machinery, patents... *** insert Table 2 here*** The balance sheet and the profit and loss account of the model-firm are taken from the Deutsche Bundesbank. *** insert Figure 1 and Figure 2 here*** Although these figures relate to a typical German medium-sized manufacturing company, table 3 reports the most important financial ratios for the two types of companies and shows that they look very similar to those of a Belgian company. The most significant difference concerns the personnel expenditure. However, the current version of the ETA does not take into account these costs. As a whole, the model-firm used can be applied to the Belgian context. These figures relate specifically to the manufacturing sector. But ten other sectors covering the non-financial spectrum are also analyzed. *** insert Table 3 here***

19 17 6. Impact of IAS/IFRS In a steady state perspective, only the tenth period of the simulation process should be considered. Indeed, in the first periods, the company is starting its activity and faces investments and related depreciation which influence the tax burden. Consequently, the results presented below refer to the last year of the simulation period. The simulation process determined that the impact of IAS/IFRS-based tax accounting on the tax burden of the model-firm is relatively important, + 8.0%. The increase in tax burden is attributed firstly to the Belgian favourable declining-balance depreciation rules and secondly to the LIFO valuation method for inventory. According to article 64 of the Belgian Income Tax Act 1992, the declining-balance depreciation rate corresponds to the double of the straight-line rate and is limited to 40% of the acquisition cost. As a result, the declining-balance depreciation method offers better depreciation allowances in the early years of the assets than the straight-line depreciation method used under IAS/IFRS in the simulation. In order to determine the impact of the Belgian regime of declining-balance depreciation, the same analysis has been conducted using the straight-line method for the office equipment and machinery under Belgian GAAP. In this case, the impact of adopting IAS/IFRS would be reduced to + 4.9%. As the declining-balance depreciation rules are favourable for companies, the shift to an IAS/IFRS-based tax accounting could have a dissuasive effect on investments. Under the assumption of increasing market values, the LIFO method can be deemed more favourable than the FIFO or the average costs method. This is explained by the fact that under the

20 18 FIFO method, the valuation of inventory reflects the effect of inflation. In Belgium, both LIFO and FIFO can be applied to inventory valuation. If the simulation process considered the FIFO valuation method for the Belgian tax treatment than the impact would be reduced to + 6.8%. With regard to the determination of production costs, the full costs approach is applied under Belgian GAAP and IAS/IFRS. So far, the impact shown has been based on a typical medium-sized manufacturing business. Consequently, the differences in tax burdens result from the specific underlying assumptions about the pre-tax data and should not be generalised. Indeed, the impacts depend on the extent to which the factors are decisive for the application of the taxation systems and the tax accounting rules which are relevant to the business. The following investigates the impacts on the effective tax burdens caused by changing the assumptions of the model-firm with respect to the industry to which it belongs. Ten other sectors are examined: construction, chemical engineering, service trade, electrical engineering, food and beverage, commerce, automotive vehicles, engineering, metal production and transport. The most important financial ratios of these industries are shown in table 4. *** insert Table 4 here ***

21 19 Table 5 below displays the changes in the tax burdens for the eleven sectors. *** insert Table 5 here*** Industry specific differentials can be drawn back to four reasons (Jacobs, Spengel, Stetter & Wendt, 2005, pp. 18). First, when the profitability is low (high), then the impact of non-profit taxes on the overall tax burden is high (low). Second, when the capital intensity is low (high), then the impact of favourable depreciation rules is low (high). Third, when the intensity of inventories is low (high), then the impact of favourable inventory valuation rules is low (high). Finally, when the personnel intensity and thus personnel expenses are high (low), then the impact of payroll taxes is high (low). The construction industry is expected to undergo the highest impact (+ 14.6%). A low profitability combined with a high intensity of inventories (44.1%) explains this important impact. The transport industry which faces a negative profitability (return on sales ratio of -6.3% and return on equity ratio of -14.2%) and very high tangible fixed assets intensity ratio (50.4%), suffers a higher tax burden of + 6.9%. In brief, the industry in which the company operates has a decisive influence on the amount by which the overall tax burden differs. However the trend shown for the manufacturing company is, on the whole, confirmed for the other industries.

22 20 7. The Special Case of Belgium The aim of this section is twofold. First, it determines the current tax position of Belgium against seven other Member States. Second, it examines if taking IAS/IFRS as an initial starting point for tax purposes changes Belgium s position. The Member States that are analyzed are: the Czech Republic, France, Germany, Latvia, the Netherlands, Poland and the United Kingdom. The following results have been based on a company with a structure typical for a German manufacturing business. Therefore the differentials in tax burdens should not be generalized. The conclusions depend on the extent to which the factors decisive for the individual tax systems, the types of tax, the basis of assessment and the rates are relevant to the given business. Table 6 displays the different tax structures of the selected European countries. *** insert Table 6 here*** The Belgian corporate income tax rate appears to be in line with those applied in the old Member States but not in the new Eastern ones. In Belgium the tax burden is essentially influenced by the corporate tax (impôt des sociétés) as, except the immovable withholding tax (précompte immobilier/onroerende voorheffing), it does not include any non-profit based tax. This immovable withholding tax is entirely deductible as a professional expense. A similar pattern prevails in the other countries except France where the overall tax burden is determined by three non-profit-based taxes (taxe foncière, taxe professionnelle and taxe assise sur les salaires) with a share of 30%. The German overall tax burden is determined at 99% by profit

23 21 taxes (Gewerbeertragsteuer, Körperschaftsteuer, Solidaritätszuschlag) and the share of real estate tax (Grundsteuer) is insignificant. *** insert Figure 3 here*** Since the IAS/IFRS tax treatment of the model-firm relies on the same assumptions (see section 5) for each country analyzed, an identical common tax base is instituted in all countries. The remaining differences between the effective tax burdens are therefore the result of the different tax systems, types of taxes and the tax rates. However the tax bases still differ since in some countries, some taxes are deductible from the tax base as a business expense. Table 7 displays the effective tax burdens under national GAAP and IAS/IFRS-based tax accounting for the base case manufacturing firm as well as the ranking of countries. *** insert Table 7 here*** It appears that when the tax burden is determined by national GAAP then Belgium has the sixth lowest tax burden, just after the Netherlands and before Germany and France. Latvia and the other new Member States in general reveal the lowest tax burdens. This result is confirmed by table 8 and table 9 which display the tax-to-gdp ratios and the share of corporate taxation in total tax revenues. *** insert Table 8 and Table 9 here***

24 22 The new Member States generally have lower (35% in 2002) tax-to-gdp ratios than the old members (41% in 2002) and their share of corporate taxes in total tax revenues is on average also smaller. According to table 7, all selected Member States show increases between + 3.3% in the United Kingdom and % in Latvia. As a result, the adoption of IAS/IFRS as a starting point for tax accounting results in a broader tax base in all Member States. The largest impacts are noticed in Latvia (+ 10.1%), Belgium (+ 8.0%) and the Czech Republic (+ 6.3%). The high increase of the tax burden in these countries is explained by the fact that national tax rules concerning depreciation are more favourable than the corresponding IAS/IFRS rules. The other countries depreciation tax rules are more in line with IAS/IFRS and this explains the lesser impact. However France also has favourable depreciation rules, the impact of a shift from national tax accounting rules to IAS/IFRS-based tax accounting is comparably low. This is due to the fact that the overall tax burden is determined to a greater extent by non-profit taxes which are not affected by accounting rules. Table 7 shows that an IAS/IFRS common tax base has no impact on the ranking of the selected countries. When comparing Belgium to other countries, one could say that its tax position could still be improved and be closer to the Netherlands and the United Kingdom for instance. However, as regards the corporate income tax rate, the law of December, 24 th, 2002 already reduced it from 39% to 33%. The corporate income tax rate is currently 34.5% in the Netherlands (but the first 22,689 are taxed at 29%) and 30% in the United Kingdom.

25 23 As the use of IAS/IFRS broadens the tax base in every country, a reduction of the nominal tax rate could be expected in the future. Indeed, the nominal tax rate could be reduced without having an impact on the overall effective tax burden (Spengel, 2003a). This would increase the attractiveness (see Simmons, 2003 for a study on corporate tax attractiveness and foreign direct investment) of EU countries since location decisions taken by multinational investors reveal a significant, empirically provable, correlation with the nominal tax burden (see Devereux & Griffith, 1998 and Spengel, 1999 for the effective tax burdens of US investors within the EU). Moreover as corporate income taxes are significantly lower in the Eastern Member States, a reduction of the nominal tax rate in the Western Member States would lessen concerns about unfair tax competition within the EU. Table 10 shows however that, during both old and new Member States decreased statutory corporate income tax rates. *** insert Table 10 here*** 8. Conclusion Within the EU, the IAS/IFRS play a double role. First, by harmonising the financial accounting and reporting rules, these international standards guarantee more transparency and comparability among the Member States. Second, they could provide a neutral starting point for the development of a common EU tax base. Such a tax base will help to reduce the compliance costs stemming from 25 different tax regimes.

26 24 If IAS/IFRS serve as a starting point for tax accounting, their adoption has to be restricted to standards consistent with the common principles of taxation (especially the realisation principle). Consequently, differences related to the realisation of revenues (fair value accounting, percentage of completion method, impairments) should be disregarded. This paper shows that the use of IAS/IFRS in Belgium will broaden the tax burdens of companies by 3.8% to 14.6% depending on their sector. This is mainly attributable to the rejection of the favourable declining-balance depreciation rules. The shift to an IAS/IFRS-based tax accounting could therefore have a dissuasive effect on investments. In a European context, the use of IAS/IFRS would increase the effective corporate tax burdens in all selected Member States from 3.3% to 10.1%. Belgium experiences an above average increase (second highest variation after Latvia) of + 8.0%. However, the competitive ranking of EU countries will most probably be maintained. Therefore, the creation of an IAS/IFRS common tax base without a convergence of corporate income tax rates would not lessen concerns about tax competition. Indeed, considerable differences in tax burdens between Member States would still exist. The overall expected broadening of the tax base could be an opportunity to reduce corporate income tax rates in the EU without changing the overall effective tax burden. This would increase the attractiveness of EU countries as location decisions taken by multinational investors are correlated with the nominal tax rate.

27 25 When examining the complexity of the IAS/IFRS, some assumptions of this study may look simple. However, to conduct such analysis and to obtain a quantitative result, these simplified assumptions were purely and simply inevitable. Perspectives for further research could concern: a) the development of the current version of the ETA to cover important accounting issues like pension costs and provisions for contingent liabilities, b) the appropriateness of the European Commission s goal to establish a common consolidated tax base in the EU and, c) the suitability of an IAS/IFRS-based tax accounting system.

28 26 Notes note 1: However national tax rules must comply with the fundamental freedoms provided by the EC Treaty. note 2: For studies on corporate taxation harmonisation, see the Tinbergen Report of 1953, the Neumark Report of 1962, the van den Tempel Report of 1970 and the Ruding Report of note 3: The Commission considers that despite some conceptual disadvantages (e.g., the move towards fair value and towards calculation of profit by comparing balance sheets rather than by measuring profits through the year; the uneven extension beyond consolidated accounts in Member States) the IAS (IFRS) can be used as a tool for designing a tax base, at least as general starting and reference point, European Commission (2004a). note 4: According to the two first paragraphs of the Regulation 1) The Lisbon European Council of 23 and 24 March 2000 emphasised the need to accelerate completion of the internal market for financial services, set the deadline of 2005 to implement the Commission's Financial Services Action Plan and urged that steps be taken to enhance the comparability of financial statements prepared by publicly traded companies. (2) In order to contribute to a better functioning of the internal market, publicly traded companies must be required to apply a single set of high quality international accounting standards for the preparation of their consolidated financial statements. Furthermore, it is important that the financial reporting standards applied by Community companies participating in financial markets are accepted internationally and are truly global standards. This implies an increasing convergence of accounting standards currently used internationally with the ultimate objective of achieving a single set of global accounting standards.

29 27 note 5: See Haverals (2005) for a detailed discussion on the relationships between accounting and taxation in the EU. note 6: On this topic see Casta & Colasse (2001), Thouvenin (1998), Khurana & Kim (2003), Bernheim & Escaffre (1999). note 7: Backward-looking approaches could however be useful for ex-post analyses on who paid the taxes in an economy which can be an indicator for distributional aspects of a tax system (Lammersen, 2002, pp. 9). See Becker & Fuest (2004) and Gordon, Kalambokidis & Slemrod (2003) for backward- looking approaches. note 8: For a critique of the King & Fullerton (1984) and Devereux & Griffith (1998, 1999) approaches, see Knirsch (2002). note 9: For a recent study on EMTR and EATR applied to Business Management and Economics, see Lammersen, (2002). note 10: The previous version of the ETA considered the tax systems from Germany, France, the United Kingdom, the Netherlands and the United States (California), (Jacobs & Spengel, 2002). note 11: Relevant for the computation of the immovable withholding tax. note 12: Unlike accounting law which requires depreciation to be made over the asset s useful life (article 45 of the Royal Decree of the new Company Act), tax law is presumed to allow depreciation on shorter periods so as to benefit of higher reductions of the taxable income. Indeed, article 61 of ITA 1992 does not stipulate that depreciation has to be made over the asset s useful life, as long as the applied depreciation was necessary and really took place.

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