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How tax policy and corruption impact businesses

Sep 12, 2014


Corruption impacts the business environment of a country with surprisingly varying outcomes, depending on the efficiency of the tax policy administration and regulatory environment, new research reveals.

A study titled Taxes, Corruption and Entrepreneurship scrutinizes three tax policy tools – procedures, time and financial costs – and examines their impact on businesses, subject to the graft scenario in the regulatory structure. It suggests that in developing countries – especially those with high corruption – tax compliance and enforcement of regulations is a quagmire that entrepreneurs try to bypass using corruption.

“We have looked at the tax policy from a multidimensional perspective, examining the role of specific policy tools and found that corruption shares a complex relationship with the business environment,” says Dr. Sameeksha Desai, the study’s co-author. “We find corruption does moderate the relationship between tax policy and entrepreneurship, but it really depends on the type of policy tool.”

In some cases, “efficient corruption” helps businesses avoid the anxiety of bureaucratic uncertainty and drives entrepreneurship. However, due to the informal nature of bribery, individuals might completely avoid entering the market or may resort to informal entrepreneurship that leads to loss of valuable revenue gained from tax money.

The paper, which examines the data of 69 countries from 2005 to 2011, also suggests measures like streamlining compliance process and reducing the time frame for paperwork.

Dr. Desai offers fair guidance on the number of procedures that policy makers should consider while writing tax policy. “For example, we were able to find that in highly corrupt countries, exceeding 24 procedures to pay taxes could negatively impact entrepreneurship,” she says.

However, she also advises policymakers to think in terms of better regulation rather than less regulation. “If regulatory procedures are cut too quickly and drastically, you might be creating room for more aggressive bribe-seeking,” she notes, adding that if proper regulatory structure and administrative norms are not created to first scale down corruption from the social fabric, such moves can be counterproductive.

For developed countries like Canada, where corruption is not widely prevalent, Desai suggests better implementation of laws governing companies involved in kickbacks on foreign shores. Canada’s Corruption of Public Officials Act (CFPOA) was enacted in 1999 and amended in 2013 to provide a regulatory framework for companies doing business abroad.

Ultimately, governments need to focus on understanding how corruption plays out in each country and on enforcing “smarter and better regulatory reforms,” Dr. Desai notes.

Taxes, Corruption and Entrepreneurship by Dr. Sameeksha Desai and Farzana Chowdhury, both Indiana University, Indiana, U.S., and Dr. Maksim Belitski, University of Reading, U.K.