b. Investment premiums for extension of industrial enterprises.-Extensions of industrial enterprises, located in certain stimulation areas, are eligible for a premium composed of two parts: a lump sum of 15 percent of the cost of investment in tangible capital assets and an amount of approximately $2,000 for each additional permanent job created. The aggregate premium cannot exceed the lesser of either 25% of the cost of investment or $1.2 million. The principal condition for the grant of extension premiums are substantially identical to those for investment premiums.

c. Interest subsidies for the establishment of new industrial enterprises.— For projects of exceptional importance for the strengthening of the industrial structure of the southern and northern development areas, interest subsidies may be granted. The maximum subsidy is 3 percent over a period of not more than 15 years and may be available for medium term and long term capital loans from commercial banks. Although formally still in existence, the interest subsidy has never been granted in practice.

JAPAN

I. TAX INCENTIVE

1. Taxation of foreign source income

Japanese companies are taxed on a worldwide basis under rules which are much similar to those in effect in the United States. Such tax system will not therefore, be described in detail but only the relevant variances from the U.S. tax system will be mentioned.

a. Japanese tax law has no provision comparable to Subpart F of the U.S. Internal Revenue Code.

b. The allowable foreign tax credit is computed on the overall basis. For purposes of computing the limitation, any loss incurred by a foreign branch need not reduce other foreign source income. This provision is referred to as the "modified" overall limitation and is available upon application to the tax authorities.

c. Japan has a so-called "commodity tax" which is imposed on manufacturers, importers or retailers on the sale of 18 types of commodities. Food, medicines and other essential consumer goods and foor products are outside the scope of the tax. The tax ranges from 5 percent (for beverages and motor vehicles with two or three wheels) to 30 percent (mainly for luxury items). Commodities exported are exempt from the tax. If the product is exported after being taxed, the tax is repaid but there is no exemption or repayment for component parts of exported products. Imports are taxed at the same rate as similar goods on the home markets.

2. Tax incentives directly benefiting exports

Like any other countries in Europe, Japan has been somewhat concerned about encouraging exports. Because its basic tax structures did not allow such effect, it has traditionally provided for direct export tax incentives.

a. Reserve for overseas market development.-Corporations deriving income from overseas transactions are entitled to deduct limited amounts credited to a reserve for overseas market development. These transactions include export of goods, sale of goods to an exporter and processing of goods to be exported, provided payment is in foreign currency. The deductions may go from 0.5 percent to 1.7 percent of the export value of goods purchased from others, depending on the amount of the corporation's capital and may go from 1.5 percent to 2.3 percent for all other overseas transactions. One-fifth of the amount credited to the reserve must be returned each year to income in the five years immediately following the creditation.

b. Deduction of overseas investment loss.-Corporations acquiring and holding 10 percent or more of particular shares of an "Overseas Enterprising Company" and a "Specified Overseas Enterprising Company"; or 1 percent or more of particular shares of an "Overseas Investment Company", can deduct amounts credited to a reserve for losses from such investments up to a specified ratio of the acquisition cost of the shares. An "Overseas Enterprising Company" is a company whose head office is located outside Japan for purposes other than avoidance of taxes and which conducts any kind of business except investment business. An "Overseas Investment Company" is a domestic corporation that mainly invests

in, or makes long-term loans to, an overseas enterprising company. These companies are specified where their head offices is located in a specified statutory geographical area, mainly developing areas or where they deal with such located companies.

Amounts deducted must be added back to taxable income over a five-year period commencing five years after the current taxable year of the deduction. c. Foreign exchange losses.-A domestic corporation can establish a deductible reserve for foreign exchange losses on its net long term receivables. Amounts deducted must be added back to taxable income in the next accounting period. d. Entertainment expenses related to export activities.-There is generally a severe limitation on the deductibility of entertainment expenses for tax purposes in Japan. Ordinarily a deduction is limited to about $11,000 per corporation plus 4 of 1 percent of capital. The deduction for entertainment expenses in excess of this is limited to 40 percent of the expenditure. However, until 1969, a reasonable amount of overseas and/or domestic travel and hotel expenses in Japan paid for nonresident visitors and entertainment expenses incurred abroad in connection with export transactions were not treated as entertainment expenses for purposes of determining the deductible amount of entertainment expenses, and were fully deductible for corporate income tax purposes. This provision was repealed in 1969.

e. Export allowance.-Domestic corporations are allowed substantial special deductions for certain overseas transactions in an accounting period beginning on or before March 31, 1976. The deduction is the lesser of an amount computed by applying a percentage to proceeds or to net income. The eligible transactions are as follows, provided payments is in a foreign currency:

Sales or licencing of industrial property rights and the furnishing of technical knowledge such as know-how. The amounts deductible are 70 percent of the proceeds from the transaction limited to 50 percent of the total ordinary income.

Sales of copyrights. The amounts deductible are 30 percent of the proceeds from the transactions also with a 50 percent limit.

Consulting or rendering technical services such as research and planning with respect to construction of production facilities. The amounts deductible are 20 percent of the proceeds from the transaction also with a 50 percent limit.

f. Accelerated depreciation in case of export sales.—In 1961, Japan enacted a law to provide for accelerated depreciation in case of export sales. This provision was repealed in 1972 because its objectives were no longer viable in that, while it was originally enacted as a means of stimulating exports by provding tax relief, beginning in 1969 Japan started experiencing an unfavorable international balance of payments because of greatly increasing exports.

Under this law, a corporation was allowed a tax deduction for accelerated depreciation based on export sales made in the immediately preceding year. The amount of additional depreciation was computed by applying the ratio of export sales over total sales to maximum ordinary depreciation available. In other words, if export sales were 30 percent of total sales, ordinary depreciation was increased by 30 percent. Ordinary depreciation was at generous rates in the first place. Additional increases in depreciation could be allowed depending on the incremental amount of export sales in each year.

1. Export financing

II. NONTAX INCENTIVES

a. Japanese suppliers can receive medium and long term credits from the Export-Import Bank of Japan, a government related agency. Generally, medium term sales are supported by means of direct loans at preferential rates of interest. Medium term credits are not supported in Japan.

b. Long term credits are available from Eximbank both on a buyer and supplier basis. Long term credits are those credits exceeding five years. Exim bank usually supports 48 to 64 percent of the contract value and the rate charged as of December 1974 ranged from 7.75 to 8.75 percent. These rates include all types of financing charges but not insurance cost.

2. Export credit insurance

a. Export credit insurance is granted in Japan by Export Insurance Division/ Ministry of International Trade and Industry (MITI). MITI offers export bill insurance to Japanese foreign exchange banks that have purchased eligible debt

obligations from exporters. This Japanese Bank guarantee is available for consumer goods exports only.

b. Moreover, a variety of risks are covered such as insolvency of the buyer, protracted default, currency inconvertibility, exchange rate fluctuations, and political risks. Commercial risks are usually covered from 60 to 80 percent while political risks are usually 90 percent covered.

UNITED KINGDOM

I. TAX INCENTIVES

1. Taxation of foreign source income

a. Rules for direct exports.—A British corporation is taxed on its worldwide income provided it is a resident company. Residency is determined in accordance with the place of management and control and not the place of legal incorporation. Because such a system could give way to substantial tax evasion by exporting the control of a U.K. corporation into a foreign country, a resident corporation must apply for permission to move its corporate residence outside the U.K., and it is usually difficult to obtain such consent. But the fact remains that a number of U.K. companies are not subject to U.K. taxes because they are fully managed and controlled from outside the U.K.

A British resident corporation is taxed on income derived from foreign establishments whether or not the profits are distributed and whether or not they are remitted to the U.K. head office. However, a favorable foreign tax credit system allows foreign source income to be exempt from U.K. corporate tax as long as the rate of taxes paid abroad equals or exceeds the U.K. tax rate on that same type of income.

The effectiveness of this double tax relief provision was somewhat reduced by the enactment in 1972 of the "Advance Corporation Tax" which became effective from April 1, 1973. The general rule is that where a company makes a qualifying distribution to its shareholders, the company becomes liable for a tax payment equal to 35165 of the sum distributed. The ACT is then deductible from the corporation tax liability of the company on its profits for that accounting period (termed "mainstream corporation tax"). The new system was mainly introduced for purpose of administrative simplification and avoidance of corporate income double taxation. However, the liability for ACT is not reduced by the foreign tax credit. That limits the foreign tax credit to the corporate tax liability in excess of the ACT. As a consequence, a portion of the foreign tax credit may be disallowed if divedends are paid out of foreign source income, and this is a substantial disadvantage for U.K. companies deriving most of their income from foreign operations. Some relief has been allowed, however, by way of the so-called "overspill relief" which was extended until 1976. Moreover, any company may exercise the option so as to set off ACT against liabiilty to manstream corporation tax on domestic income before overseas income and against liability to mainstream corporation tax on overseas income taxed on lower rates before higher rates.

b. Rules for export through a foreign subsidiary.-Income of a nonresident corporation is not taxable in the U.K. Moreover, there are no provisions in U.K. tax law comparable to subpart F of the U.S. Internal Revenue Code. It is a fact that U.K. companies often utilize holding companies in tax haven countries to own foreign subsidiaries. There is no dividends received exclusion in U.K. tax law, but a resident company is allowed a deemed paid tax credit, whose terms are more favorable than its U.S. counterpart. The deemed paid tax credit is allowed to companies receiving dividends from foreign firms that are at least 10% controlled, directly or indirectly. Moreover, the relief accorded in accordance with ACT computations are also applicable in the case of foreign source dividends. 2. Enforcement of intercompany pricing rules

To the extent that income of a nonresident company is not taxed in the U.K. until distributed by way of dividends even though use is made of tax haven countries, the tax advantages of establishing a foreign based sales company depends upon how the intercompany pricing rules are enforced.

The experience so far has been that it is unusual for adjustments to be proposed by the tax authorities. One of the reasons might be that such adjustments are generally unnecessary for the companies that are usually most subject to enforce

ment. As already mentioned, the incorporation abroad of an export trade requires the Administration's authorization. When a tax haven is involved, the U.K. company might have to give assurances that prices will be at arm's length in order to obtain the authorizations. Therefore, very few adjustments are probably required in such a situation.

A second reason is also that such adjustments are generally settled rather than litigated. And the experience has proved that a U.K. company may show that the activities of a foreign sales subsidiary will increase exports from the United Kingdom. Such assertions are known to have considerable influence on the attitude of the of the authorities toward low prices for exports to selected companies.

3. Specific tax incentives indirectly benefiting exports

The United Kingdom allows only one minor direct export tax incentive, namely the deduction of business entertainment expenses for corporation tax purposes, but only if the customer entertained resides overseas. On the other hand, highly favorable rates of depreciation are granted in connection with a general program of stimulating capital formation.

Investment incentives include the privilege of writing off in one year the whole cost incurred for plant, machinery and equipment. This is known as the "first year allowance". If the first year allowance is only partly used, a high annual depreciation rate (25%) is allowed on the same items. Since 1974, the initial depreciation rate on the construction of industrial buildings has been 50% of the cost thereof (it was 40% before 1974), with an annual writing down of 4 percent. II. NONTAX INCENTIVES

1. Export nontax incentives

a. Export financing.—Support to export financing is available through the Export Credits Guarantee Department (ECGD). The ECGD does not extend export credits directly. British clearing banks provide such credits in exchange for ECGD unconditional repayment guarantees, interest rate subsidies and limited portfolio refinancing. The support applies to both medium and long-term credits both on a supplier and buyer basis. Through its guarantee and interest rate subsidies, the ECGD supports from 80 to 85 percent of long-term contract value. The average rate charged borrowers for long-term export credit is approximately 7.8% including finance charges but not insurance costs.

b. Export credit insurance.—Export credit insurance is available through the same agency, ECGD. It covers both commercial and political risks. The percentage of debt normally insured is 90 for buyer risks and 90 or 95 for political and economic risks. ECGD has very recently introduced a still unique type of insurance, mainly the coverage of risks due to inflation.

Inflation risks are covered for capital goods contracts with an individual value of £2 millions or more with manufacturing periods of 2 years or more. Above a minimum threshold of a 10 percent cost increase, which is for the exporter or buyer to bear, the ECGD reimburses 90 percent of the annual cost increase on a cash contract or 85 percent of the annual cost increase on a credit contract. To set a ceiling to the reimbursement, the cover on cash contracts applies only to the first 15 percent increase beyond the 10 percent minimum threshold or, on credit contracts, to the first 10 percent increase beyond the threshold. The premium charged is 1 percent per annum of manufacturing period on the contract value. The program is planned for an initial two year duration, subject to annual renewal. It is available to export to any country except to the EEC's countries.

Also, where foreign buyers insist upon performance bonds, the ECGD usually accepts to make its support available, applying normal standards of underwriting judgment, where bonds cannot otherwise be raised. The contracts must be cash or near cash contracts with a minimum value of £20 millions.

c. Technical assistance to exporters.-There are a large number of subsidized services available to exporters through the Department of Trade and Industry (DTI). DTI arranges for the collective participation of British exporters to trade fairs and exhibitions, provides for information and advertising and works out programs intended to promote British goods.

2. Nontax incentives indirectly benefiting exports

In connection with a program of industrial and regional development, the British Government makes available a number of cash grants, the amount and terms of which depend upon the designated assisted area.

Special development area.-Regional development grants of 22 percent are available toward the cost of capital expenditures on certain new plant and machinery and on industrial buildings. These grants are not deductible in calculating the value of expenditures for the purpose of taxation allowances.

Factories built by the Department of Trade and Industry may be leased at favorable rentals, in some cases with an initial rent-free period. Loans on favorable terms may be made available in selected cases where additional employment is provided, an alternative being interest subsidies granted on commercial loans.

Removal grants may be obtained for up to 80% of certain costs involved in moving an undertaking into one of the assisted areas.

Assistance can be obtained from the Department of Employment toward the cost of training additional labor and of transforming workers in connection with establishing new enterprises.

Employers receive regional employment premiums at the weekly rate of £3 per male worker and £1.50 per female worker.

Development areas.-The regional grants are payable at the rate of 20%. Factory rentals, loans, interest subsidies, removal and training grants and regional employment premiums are the same as for Special Development Areas. Intermediate Areas.-Regional buildings grants are available at 20 percent on the cost of industrial buildings. There is no regional grant on purchases of plant and machinery. Other incentives are similar to those mentioned above, except that employers do not receive regional employment premiums.

Mr. MIKVA. Mr. Michael McIntyre.

STATEMENT OF MICHAEL J. MCINTYRE, DIRECTOR OF TRAINING, INTERNATIONAL TAX PROGRAM, HARVARD LAW SCHOOL

My name is Michael McIntyre, director of training of the international tax program at Harvard Law School and a member of the Harvard Business School faculty. I have recently been appointed. visiting associate professor of law at Wayne State University.

I am appearing today at the invitation of this committee to discuss the implications of DISC for our Nation's tax policy.

As this committee recognizes, the time has now come to reassess the judgment made in 1971, when the original DISC legislation was approved by Congress.

It is a pleasure for me to appear before this committee to discuss the merits of the Domestic International Sales Corporation legislation. This is my first appearance before this committee, although I have had the opportunity on several occasions in the past to submit written statements on current tax reform issues.

As I said, as this committee recognizes the time has now come to reassess the judgment made in 1971 when the original DISC legislation was approved by Congress. At that time, the United States had an overvalued currency which was causing domestically produced goods to be overpriced abroad.

Unwilling to formally devalue the dollar, we felt compelled to adopt a series of indirect measures to accomplish the same result.