Tax holidays

Many investors insist upon a tax holiday at the beginning of a project. This may, in certain cases, have relatively small financial implications for governments if the period is limited and if start-up expenses are high and profits low in the first few years. More crucial are the questions of whether or not depreciation and amortization of production expenses are required to be taken from the beginning of the tax holiday period, and whether or not initial losses incurred during the tax holiday can be carried forward after the holiday has ended. The foreign investor will probably want to use that period to build up costs (and losses) that can be used later to lower the tax liability after the holiday period is over. Thus, although the host country authorities may not lose much revenue by granting a short initial holiday, there could be considerable loss of revenue if costs and losses from the holiday period are carried forward to reduce taxes after the holiday has ended. Even if the host country does grant only a short initial holiday, however, it may want to protect itself by establishing a ceiling on the amount of the investment that can be recouped during the holiday period. The value of a tax holiday to the investor will also depend on whether the host government has a tax-sparing treaty with the home country of the investor. If it does not, the investor may simply have to pay to the home authorities what he saves under the terms of a tax holiday. This represents a loss of revenue to the host country and provides no advantage to the foreign investor.