Mapping emerging markets - what are the key criteria?

While the opportunities in emerging economies are widely recognised, the decision to invest should always be driven by commercial factors. Where an emerging market strategy is deemed appropriate, there are then many risks and rewards to evaluate to select the right location. One such factor often overlooked, or not fully understood, is taxation.

Undoubtedly taxation will form part of any good investment appraisal, however, many companies fail to properly evaluate the impact of a region’s tax regime. When researching potential markets there are a wide range of business taxes that should be considered, including the key area of corporation tax. In this respect, there will be a change in the existing framework next April when the UK reduces its statutory rate of corporation tax for larger corporates from 30 to 28 per cent. This follows something of a trend in the EU and Eastern Europe over recent years for a reduction in headline tax rates: even Germany, which has had relatively high rates of corporate tax in the past, has proposals to drop its overall rate from 38 to under 30 per cent.

Comparing the tax structures of different destinations can reveal some unexpected issues. For example, if you were looking to do business in Brazil the low statutory corporation tax rate could be considered a welcome reward. However, in considering the overall tax burden a whole range of turnover based taxes and other levies which can significantly increase the cost of doing business need to be evaluated.

Another common pitfall is the failure to understand that once long established practices and tax regimes are prone to change. This is evident in China, where for many years international companies have effectively been allowed to pay around 15 per cent corporation tax while domestically owned Chinese companies have paid a much higher rate. However, a new single rate of corporation tax is due to be introduced in January next year and will mean any new foreign companies registered after 16 March 2006 will pay an equal rate to Chinese companies of 25 per cent tax. Those foreign companies registered before this date, or with operations already established in China, will be subject to three to five years of transitional rules. In addition, tax holidays and incentives in China will be more restricted in future and much more focused to particular industries than they have been in the past: high-tech industries and some utilities, for example.

In addition, the tax treaty between the UK and China regarding ‘tax sparing relief’ is currently being re-negotiated, as the country’s growing economy has brought existing investment incentives into question. Given the impact a change in tax relief could have for potential investors it’s essential that businesses take a detailed look at the impact of overseas territories’ taxation regimes before deciding on their investment structures.

Acquiring a thorough understanding of the taxation regime in your chosen markets is crucial yet not always easy from the investing country. By seeking the right advice early on in the process companies can make much more informed decisions, as well as potentially benefiting from tax planning opportunities.

One thing is clear; the decision to invest in an emerging market should be based on a detailed appraisal of all the key factors relevant to a business, including taxation. Only by taking the taxation environment seriously and fully understanding the implications for the business, can a company protect its financial position effectively, maximise the after tax return and be sure its decision to invest is the right one.

Contact details
Email: Andy Groves
Tel: +44 (0)1908 353109