The economic effects of EU-reforms in corporate income tax systems

This report adopts an applied general equilibrium model for the EU 27 to study the economic implications of a common corporate tax base in the European Union, either or not combined with consolidation and formula apportionment. The analysis of the common corporate tax base centres around the issue of base broadening versus rate reduction. It emphasises the trade-off between, on the one hand, a low effective marginal tax rate, which minimises distortions in investment and, on the other hand, a low statutory corporate tax rate, which minimises multinational profit shifting to outside locations. The simulation outcomes suggest that the common corporate tax base with a broad base and a reduction in the tax rate will not raise welfare in Europe. In fact, in a world without tax havens and location choice such reform would harm welfare in the EU. However, if tax havens and location choices between the USA, Japan and the EU are taken into account, base broadening cum rate reduction will reduce profit-shifting vis-à-vis tax havens and the EU will be able to attract new firms by a lower average effective tax rate, so that welfare in the EU will remain constant on average. For individual member countries, who benefit from profit shifting and discrete location, this tax reform may be beneficial. European-wide coordination mitigates fiscal spillovers via profit shifting and discrete location within the European Union, which renders high statutory corporate tax rates less distortionary. The common consolidated corporate tax base with formula apportionment has further implications via compliance costs, the allocation of capital and multinational profits and via the consolidation of losses. Although the debate has not settled yet, we assume in the simulations that consolidation involves a reduction of compliance costs, which benefits all participating countries. Consolidation and formula apportionment affect welfare via an elimination of profit shifting and by replacing existing distortions in capital export neutrality by a distortion induced by the formula factors. The latter render corporate taxes effectively excises on these factors. For individual countries, however, consolidation and formula apportionment does have welfare effects. The consolidation of losses reduces the tax burden on firms, which may yield economic benefit for the EU. Yet, if the reduction of tax revenues is compensated by higher corporate tax rates, this positive effect disappears. Overall, consolidation and formula apportionment tend to yield small welfare gains for the EU on average, but this gain is unevenly distributed across countries.