Mannheim Tax Index

The tax location attractiveness, measured by the effective average tax rate (EATR), has changed little compared to previous years, particularly in low- and high-tax locations. Changes in the mid-range of the country ranking can be attributed primarily to adjustments in the corporate tax rate, which is often used as a tool for tax incentives for investment. The time series shows, however, that tax rates are currently tending to converge. In particular, in several Central and Eastern European countries, tax rates are rising and increasingly approaching the European average. Following last year's increases in Slovenia (from 19% to 22%) and the Czech Republic (from 19% to 21%), further Member States are following suit with corresponding reforms this year. Estonia is raising its general corporation tax rate from 20% to 22% and abolishing the reduced rate of 14%. Lithuania is raising its tax rate from 15% to 16%, while Slovakia is implementing a significant increase from 21% to 24%. This development signals a shift away from aggressive tax policies aimed at creating location advantages and investment incentives based on reduced tax revenues. The main reason behind these measures is to strengthen public finances in the face of various crises (including the COVID-19 pandemic, the energy crisis and the war in Ukraine). This also leads to a slight increase in the overall effective average tax burden within the EU.

A comparison of various high-tax countries reveals considerable variation in the cost of capital, which is primarily due to specific investment incentives. These include, in particular, the notional interest deduction on equity (e.g. Belgium until 2022, Italy until 2023, Portugal) to reduce the debt equity bias, and increasingly incentives in the form of accelerated or excess depreciation. Accelerated depreciation results in a tax advantage due to the tax deferral effect. Over the past ten years, the average cost of capital for acquired patents in Italy was 4.6% and the average cost of capital for machinery in Portugal was 4.1%. Similarly, despite increasing its corporation tax rate from 19% to 25% in 2023, the United Kingdom was able to reduce its cost of capital to 4.7% by simultaneously introducing full immediate depreciation for machinery. In addition, some countries offer opportunities for excess depreciation, whereby amounts above the actual acquisition costs can be deducted for tax purposes. As a result, Belgium has achieved an average capital cost of 4.2% for acquired patents over the past ten years. At the same time, these regulations lead to distortions between different economic goods: in Belgium and Italy, intangible assets are significantly more tax favoured than tangible assets, while in Portugal and the United Kingdom, the opposite is true. Such differences can lead to undesirable disincentives and market distortions.

The previous examples show that, even with corporation tax rates above the EU average, investment incentives can be advantageous from a tax perspective, expanding investment volume can be advantageous from a tax perspective, as corporate investments benefit from tax incentives compared to alternative investments on the capital market. Germany, in contrast, does not currently offer comparable investment incentives for large companies. Accordingly, the cost of capital for acquired patents at 5.7% and for machinery at 6.4% is significantly above the real market interest rate of 5%. In order to create new investment incentives, the German government has announced a degressive depreciation of up to 30% for movable fixed assets as part of its ‘growth booster’ for the years 2026 to 2028. This accelerated depreciation would reduce the cost of capital for machinery to 6%. This, however, is not enough to make corporate investments significantly more attractive than capital market investments from a tax perspective. Due to the high starting level, for example, only a complete immediate write-off based on the UK model could reduce the cost of capital for machinery to up to 4.7%. The unilateral promotion of tangible assets carries the risk of additional market distortions and requires further political action, for example through expanded tax incentives for output of R&D. In summary, stronger input-based tax incentives in combination with the emerging tax level of 20-25% in the EU offer Germany a good opportunity to strengthen its international competitiveness and at the same time stimulate the expansion of domestic investment.