No. 135: The Cost of Tax Simplification: Evidence from Risk-taking in a Turnover-based Corporate Tax System

Policymakers often advocate simplified forms of corporate taxation to reduce compliance and administrative costs for small and medium-sized businesses and to better tax firms earning hard-to-tax income. One notable approach is a turnover-based corporate tax (TBCT), which taxes a corporation’s turnover instead of its taxable income. Using public financial data and proprietary administrative data for Indonesian corporations, we show that exposure to the TBCT discourages corporate risk-taking. This effect is primarily due to the lack of loss offset opportunities under the TBCT, which limits firms’ ability to share risk with the government. However, the TBCT also provides greater certainty about the tax base, and we find that it encourages risk-taking among firms facing high tax uncertainty. Overall, our findings highlight a potential cost of implementing simplified turnover-based corporate tax regimes.