Identifying the Causal Impact of Taxation on Innovation Efforts

Abstract

Over the years, there has been scarce tax scholarship on the causal impact of taxation on Innovation. From a tax competition perspective, various governments, states and localities incentivize entrepreneurial firms to locate in its jurisdiction. They often offer lowered tax rates, research and development credits, tax deductions, and tax holidays as ways to overcome barriers to innovation and benefit from increased employment and regional economic growth. On the other hand, taxation encompasses some of the most complex and burdensome rules. Tax laws serve as a double-edged sword as they provide benefits, but in that process, also place high regulatory burdens on entrepreneurs (Eyal-Cohen, 2017).

Recently, leading tax scholars raised serious policy concerns regarding tax incentives for R&D. They argued that the definition and scope of innovation market failures, which may justify government intervention, are vague (Shay, et al. 2016). They claimed that it is conceivable that the incremental research compensated by existing innovation incentives would occur regardless of those interventions (Buson, et al., 2014). They maintained that tax planning is simply a second-order decision that is considered ex-post by management only after consulting the tax department or tax counsels (Morse & Allen, 2016). On the other hand, several scholars contended that while some tax benefits are inefficient, others are effective and justified (Graetz, 2013; Lin 2014). To what extent do certain tax rules serve as barriers to innovation? Are tax incentives effective in spurring additional R&D efforts ex-ante that would not have taken place? Current studies on the effect of taxation on innovation are inconclusive and rely mainly on stratified samples of financial data. They are methodologically constrained since they lack a very important feature- the perspectives of new and veteran entrepreneurs on the impact of taxation on their decisions.

This project will conduct a rigorous qualitative field study of these issues by combining two legal disciplines — taxation and innovation. It will begin by mapping and investigating the policy behind various innovation efforts in different types of agents and industries. It will use surveys as well as personal interviews with owners, managers, employees, tax professionals, and legal counsels, presenting a unique opportunity to learn about the effect of taxation from the demand side by the end-users. It will recommend design features to incorporate into current tax rules so that they will help foster and remove barriers to innovation. This project will also expand the current scope of innovation research by breaking out of the traditional focus on the size of the firms, thereby limiting opportunities for investigation to artificial measures, rather than innovative character (Eyal-Cohen, 2014). It will examine complex, ground-breaking conglomerates employing workers that instigate innovation within that organization and serve as a greenhouse for future entrepreneurs (Eyal-Cohen, 2018).

Keywords: entrepreneurship, innovation, R&D, research credit

JEL Classification: K34