THE EFFECTS OF DOMESTIC TAXES ON FOREIGN PRIVATE INVESTMENT IN NIGERIA

ABSTRACT

The enabling environment created through generous fiscal policies is expected to increase the level of foreign private investment in Nigeria beyond the present level. However, on the contrary what is witness are divestments cum capital flight out of the country. It is therefore, in line with the above, that this study seeks to examine the effect of tax incentives on foreign private investment in Nigeria. Therefore, the objectives of the study, was to examine the extent to which tax incentives have impacted on foreign private investment in Nigeria, to examine  the  impact  of  tax  rate  on  aggregate  foreign  private  investment  in Nigeria and to examine the relationship between tax rate and foreign private investment in Nigeria. The research adopted the ex post facto research designed which utilised secondary data. The study covers the period 1970 – 2007. The ordinary least square(OLS) regression analyses was adopted in testing the hypotheses where the dependent variable was foreign private investment(FPI) while the independent variable was incentive tax rate(ITR), and Normal Tax rate(NTR). The result as revealed from the tested from the hypotheses was that tax incentives rate in Nigeria does not have a positive significant impact on foreign private investment; Normal tax rate does not have significant impact on foreign private investment and there is no positive relationship between tax rate and foreign private investment in Nigeria. Therefore, in line with the findings, the study recommends that the federal government of Nigeria should seek more avenues to increase foreign private investment in Nigeria like increased infrastructure facilities and creating an enabling environment for foreign private investment in Nigeria.

CHAPTER ONE

INTRODUCTION

1.1         BACKGROUND OF THE PROBLEM

Over the past two decades, most government have been actively promoting their countries as investment locations to attract scare private capital and associated technology and managerial skills in order to help achieve their development goals. They have increasingly adopted measures to facilitate the entry of Foreign Private Investment (FPI). Examples of such measures include liberalizing the laws and regulations for the admission and establishment of foreign investment; providing guarantees for repatriation of investment and profits; and establishing mechanisms for the settlement of investment disputes. Tax incentives are also part of these promotional efforts.

The role of incentives in promoting FPI has been the subject of many studies, but their relative advantages and disadvantages have never been clearly established. There have been spectacular successes as well as notable failures in their role as facilitators of FPI.  As a factor in attracting FPI, incentives are secondary to more fundamental determinants, such as market size, access to raw materials and availability of skilled labour. Investors generally tend to adopt a two stage process when evaluating countries as investment locations. In the first stage, they screen countries based on their fundamental determinants. Only those that pass these criteria go on to the next stage of evaluation where tax rates and other incentives may become important. Thus, it is generally recognised that investment incentives have only moderate importance in attracting FPI.

In some cases, and with some types of investment, however, their impact may be more pronounced. For some foreign investors, such as footloose, export-oriented investors, tax incentives can be a major factor in their investment location decision. Also among countries with similarly attractive features, the importance of tax incentives may be more pronounced. In addition, government can quickly and easily change the range and extent of the tax incentives they offer. However, changing other factors that influence the foreign investment location decision may be more difficult and time consuming or even outside government control entirely. For these reasons, investment experts particularly from investment promotion agencies, view incentives as an important policy variable in their strategies to attract FPI for economic development.

Most countries irrespective of their stage of development employ a wide variety of incentives to realise their investment objectives. Developed countries, however, more frequently employ financial incentives such as grants, subsidized loans or loan guarantees. It is generally recognised that financial incentives are a direct drain on the government budget, and as such they are not generally offered by developing countries to foreign investors. Instead these countries use fiscal incentives that require upfront use of government funds.

Because tax incentives are intended to encourage investment in certain sector or geographical areas, they are rarely provided without conditions attached. Very often countries design special incentives regimes that detail the tax benefits as well as the key restrictions. For instance, these regimes may require that a facility be established in certain region(s), have a certain turnover, require the transfer of technology from abroad or employ a certain number of individuals. For example china offers foreign invested firms a tax refund of 40 per cent on profit that are reinvested to increase the capital of the firm or launch another firm. The profit must be reinvested for at least

five years. If the reinvested amount is withdrawn within five years, the firm has to pay the taxes. Nigeria, similarly, has incentives system that gives allowances ranging from 100 per cent to 5 per cent to companies that establish operations in rural areas where there are no facilities such as electricity, tarred roads, telephones and water supply.

1.2     STATEMENT OF THE PROBLEM

In view of the enabling environment Created through generous fiscal policies like tax incentives, it is expected that level of foreign private investment in Nigeria should have risen beyond the present level. On the contrary, what is being witnessed is divestment cum capital flight out of the country. It is, therefore, pertinent to determine the extent foreign private investors have been induced to invest in Nigeria by domestic taxes concessions. The knowledge will enable us to ascertain the effectiveness of domestic taxes on foreign investments.

1.3      OBJECTIVES OF THE STUDY

As a result of the problem stated above, the main objectives of the study are;

(1)  To investigate the extent to which tax incentives have an impact on foreign private investment in Nigeria.

(2) To examine the impact of tax rates on aggregate foreign private investment in Nigeria and

(3) To examine the relationship between tax rates and foreign private investment in Nigeria.

1.4     RESEARCH QUESTIONS

From the resultant objectives above, the following research questions were raised;

(1) To what extent does tax rates have an impact on foreign private investment in Nigeria?

(2) Does tax rate have an impact on aggregate foreign private investment in

Nigeria?

(3) What is the relationship between Nigeria’s tax rate and foreign private investment in Nigeria?

1.5     RESEARCH HYPOTHESES

The following are the research hypotheses for the study. These are; Ho1: Tax incentives do not have a significant positive impact on foreign

private investment in Nigeria.

Ho2: Tax rate do not have a significant positives impact on foreign private investment in Nigeria in Nigeria.

Ho3: There is no positive relationship between tax rate and foreign private investment in Nigeria.

1.6   SCOPE AND LIMITATION OF THE STUDY

The scope of this is study covers on Nigeria economy from 1970 – 2007. However, reference could be, made to other economies where it is deemed necessary for better comprehension of issues discussed. The study therefore, covers issues on tax incentives to attract investment for development of Nigeria economy. Examples of such incentives include; reduced tax rates on profits, tax holidays, accounting rules that allow accelerated depreciation and loss carry forwards for purposes, and reduced tariffs to protect the domestic market for import substituting investment projects.

Due to the limited time frame, the researcher could not really get all the required information needed for the study. Finally, the study is likely to be affected by financial constraints.

1.7 SIGNIFICANCE OF THE STUDY

The study will benefit or assist the following persons; (1) It will benefit future researchers and academic students.

(2) It will provide a framework for the critical evaluation of some tax policies by the government.

(3) FPI companies in Nigeria will also benefit from this research.

1.8 OPERATIONAL DEFINITION OF TERMS.

The following term in their technical sense in this research work are here under explained;

(a) Tax incentives: Tax incentives as the subject of this study can be defined as any incentives that reduce the tax burden of enterprises in order to induce them to invest in particular projects or sector.

(b) FPI Incentives: This is referred to as any measurable advantages accorded to specific enterprise or categories of enterprises by (or at the direction of) a government, in order to encourage them to behave in a certain manner.

(c) Taxes: These are sums of money that government imposes in accordance with some established criterion such as net profit earned, property owned, income received etc, in order to raise revenue to provide services which can be most efficiently provided by the state than by individual themselves.

(d) Investment: This is any asset – tangible or intangible that has the potentials to provide a periodic return and or to increase in value. It is not just stocks and bonds or savings accounts.

(e) Taxation: This refers to compulsory payments by individuals and organizations to the relevant inland or internal revenue authorities at the federal, state or local government levels. This is the most common method of financing government activities.

(f) Foreign private investment (FPI): IMF defines FPI as investment that is made to acquire a lasting interest in an enterprise operating in an

economy other than that of the investor, the investor’s purpose being to

have an effective voice in the management enterprise. The foreign entity or group of associated entities that makes the investment the investment is termed the direct investor. The un-incorporated, 0r incorporated enterprise – a branch or subsidiary respectively in which direct investment is made is referred to as a direct investment enterprise.

(g) Multi-national Corporation (MUC): This is a group of firms that are co-ordinated vertically by a controlling national company and have annual sales of substantial magnitude.

(h) Transnational Corporation (INC): This is when two or more enterprise is co-ordinated horizontally by merger, joint management. Joint venture agreements, pooling or research and development. Most of the attributes

of MNCs and TNCs are common. (i) International Corporation: a company that is registered nationally and which performs international function.

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