Economic Instruments for the Circular Economy in Italy

10. Corporate tax credits

Abstract

The promotion of secondary and other recovered materials is one of the actions envisioned in Italy’s Strategy for the Circular Economy. Corporate tax credits to support preferred materials in packaging and products were recently introduced in Italy. While corporate income tax incentives, including in the form of tax credits, have been used effectively by countries to stimulate R&D investments by firms, the rationale for their use in support of environmental policy objectives is less proven.

This chapter looks at opportunities to strengthen the use of corporate income tax incentives, with a focus on tax credits, to support circularity. It takes stock of existing practices and provides practical guidance, including considerations for their enhanced design, evaluation and implementation as part of a policy mix.

10.1. Introduction

Taxes and tax incentives have increasingly been used by countries to encourage firms to contribute towards environmental policy objectives (Ecorys, 2020[1]). Tax incentives generally target company investments in research and development (R&D), or in the conversion of technology and infrastructure. Existing corporate income tax (CIT) incentives (e.g. reduced tax rates, tax allowances and tax credits) related to the environment often target climate mitigation objectives (e.g. through energy efficiency in buildings), while incentives for sustainable and circular production and consumption are less common. While the literature suggests that CIT incentives may effectively stimulate R&D investments by firms, the rationale for their use in support of environmental policy objectives is less proven. In Italy, corporate tax credits to support preferred materials in packaging and products (already presented in Chapter 5) were recently introduced.

This chapter takes stock of existing practices in the use of CIT incentives and, from this, draws practical guidance on their use to support the circular economy transition further, with a particular focus on corporate tax credits. As already discussed in previous chapters, the literature generally recommends that the internalisation of externalities through pricing is to be prioritised over ad hoc incentives in order to generate clearer price signals while minimising costs. CIT incentives could have a role to play in overcoming specific barriers, such as unawareness of innovation opportunities towards more circular production methods. CIT incentives may also have the advantage of being deployable rather quickly, and could help to generate stakeholder support for broader environmental fiscal reforms. However, given that the associated costs may be substantial, including foregone revenues, potential distortion in resource allocation, and administrative costs of running and evaluating a scheme, the literature generally recommends a cautious approach to the use of CIT incentives for environmental objectives.

The chapter is structured as follows:

• Section ‎10.2 provides an overview of the use of CIT incentives and presents available information on their effectiveness in achieving policy goals, including to promote business R&D and to support environmental policy objectives. Given the lack of empirical studies on environment-related CIT incentives, the analysis in this section largely draws on evidence from their application in other policy areas.

• Section ‎10.3 presents CIT incentives, in the form of corporate tax credits, that have or are being used to support the circular economy transition in Italy and presents available information on the uptake of tax credits introduced by the Ministry of Environment and Energy Security (MASE).

• Section ‎10.4 draws on best practices from the use of CIT incentives and previous analyses to provide practical guidance on their use to promote the circular economy, including opportunities to enhance instrument design, implementation and evaluation.

10.2. Current trends in the use of corporate tax incentives and lessons learned

10.2.1. To promote business R&D

CIT incentives for R&D (i.e. R&D tax incentives) have become a major policy tool to support business R&D and innovation in OECD countries and partner economies, in addition to direct support (e.g. research grants). Figure ‎10.1 shows government support for business R&D by type, i.e. in the form of direct funding or in the form of tax support, in 2020. R&D tax incentives accounted for 55% of total government support for business R&D in the OECD area in 2020 (OECD, 2023[2]). The share of government support provided indirectly in the form of tax incentives is higher in Italy, where R&D tax incentives accounted for more than three-quarters of total government support for business R&D. R&D tax incentives commonly used in OECD countries include expenditure-based incentives, such as tax credits, enhanced allowances or accelerated depreciation, in addition to preferential tax provisions that relate to outputs (i.e. income generated from R&D), such as intellectual property rights and patenting (OECD, 2023[3]).

Figure ‎10.1. Tax incentives play a prominent role in government support for business R&D

Direct government funding and tax support for business R&D, by type, as a percentage of GDP, 2020

Notes: BERD stands for “Business enterprise expenditure on R&D”.

Source: OECD R&D Tax Incentive Database (OECD, 2023[2]).

Empirical evidence indicates that R&D tax incentives can boost both the level of investments by firms and the number of firms investing in R&D (González Cabral, Appelt and Hanappi, 2021[4]). The OECD microBeRD+ project (2023[3]) estimates a gross incrementality ratio (IR) of 1.4, meaning that, on average, each unit of R&D tax support induces 1.4 additional units of R&D. The impact is significantly larger for small and medium-sized firms (than for large firms) (OECD, 2020[5]). Moreover, R&D subsidies, which promote research, have a comparable degree of input additionality as R&D tax incentives, which promote more experimental development, suggesting that the two types of support may complement each other (OECD, 2023[3]). Box ‎10.1 presents results from an analysis of company-level data, providing evidence of the effectiveness of R&D tax credits implemented in Italy.

Existing studies indicate that the effectiveness of R&D tax incentives is generally determined by their design features, although more efforts would be required to comprehensively assess links between specific design features and the effectiveness of different CIT incentives (OECD, 2020[5]). The available literature suggests that, in general:

• Expenditure-based tax incentives may be more cost-effective than income-based ones to stimulate additional investments (González Cabral, Appelt and Hanappi, 2021[4]).

• Tax incentives (as well as grants) are less effective when focused on specific sectors or specific technologies (Criscuolo et al., 2022[6]).

• Provisions that allow for flexibility, such as the refundability or carry-over of tax incentives, are preferable as they may disconnect the incentive from firms’ profit situation and hence significantly increase business responsiveness to the provision of tax support (OECD, 2023[3]).

Box ‎10.1. Evidence of the effectiveness of R&D tax credit schemes in Italy

Results from the OECD microBeRD+ project (2023[3]) provide evidence of the impact of public support policies for business R&D using confidential microdata and analyses within and across countries.

Table ‎10.1 shows the results of a counterfactual analysis of business-level data carried out to investigate the varying impacts that two tax credit schemes had on business R&D activities in Italy. The first tax credit (left columns), which was repealed in 2010, indicates a negative impact on both intramural (in-house) R&D (i.e. the extent of R&D that firms perform rather than outsource) and R&D employment, implying a positive effect of the tax incentive, but with a moderate incrementality ratio (0.59). The second measure had an equally positive (and statistically significant) effect on both intramural and extramural R&D, as well as on R&D employment, with a considerable incrementality ratio (2.24) (OECD, 2023[3]).

Table ‎10.1. The incremental R&D tax credit effectively encouraged business in-house R&D expenditure

Difference-in-differences estimates of the impact of volume-based R&D tax credit (2007-2009) and incremental R&D tax credit (2015-2019), Italy

Policy	Tax incentive 2007-2009			Tax incentive 2015-2019
Estimation	Based on policy change			Based on policy uptake
Dependent variable (log)	Intramural R&D	R&D employment	Extramural R&D	Intramural R&D	R&D employment	Extramural R&D
Average treatment effect on the treated	-0.061* (0.032)	-0.101*** (0.025)	-0.050 (0.142)	0.389*** (0.016)	0.279*** (0.009)	0.144** (0.060)
N (firms-years)	19 181	18 291	5 347	90 371	89 128	24 512
Implied incrementality ratio	0.59			2.24

Notes: Standard errors in parentheses are clustered at the company level.

*** 1%

** 5%

* 10%.

Source: Adapted from (OECD, 2023[3]).

10.2.2. To support environmental policy objectives

In recent years, CIT incentives have been used by numerous countries to make green R&D and capital investments more attractive to business and to support environmental objectives, such as greenhouse gas (GHG) emissions reduction (Ecorys, 2020[1]). As environmentally friendly technologies may have a higher initial cost compared to conventional alternatives (albeit there are expected gains in the long term, for example, from higher energy efficiency), firms may not see an economic interest and are therefore discouraged from investing in them. Governments can use CIT incentive schemes to bridge this gap by making R&D and capital investments more attractive to firms (Van Santen et al., 2023[7]).

In practice, there are uncertainties as to whether CIT incentives offer a cost-effective means to achieve environmental gains. In general, environmental taxes would need to be prioritised over CIT incentives, which generally target environmental externalities poorly. While the available evidence suggests that expenditure-based CIT incentives may effectively stimulate R&D investments by firms, the rationale for their use in support of environmental policy objectives is less established in the literature (see for instance the reviews by Ecorys (2020[1]) and Köppl and Schratzenstaller (2021[8])). Furthermore, quantifying environmental outcomes attributable to CIT incentives is difficult (Van Santen et al., 2023[7]). If not well designed, CIT incentives can have costs that extend beyond revenue losses, including potentially distortionary effects on the economy and significant administrative costs for monitoring and compliance (Klemm, 2009[9]). Overall, there are concerns that CIT incentives may not be a sufficient or an efficient approach to achieving environmental gains, especially if they are not implemented in combination with other supporting policy instruments (OECD, 2010[10]).

At the same time, CIT incentives could offer several advantages. CIT incentives may be well suited to targeting positive externalities, such as innovation spillovers from R&D (Köppl and Schratzenstaller, 2021[8]). They could help target specific barriers not addressed by environmental taxes and other instruments. Furthermore, CIT incentives can be easily implemented in a transparent way and are directly contingent on new investments (Klemm, 2009[9]), and, if well designed, they may bear lower administrative and compliance costs than direct subsidies (González Cabral, Appelt and Hanappi, 2021[4]). Moreover, in certain circumstances, CIT incentives are more easily introduced than environmental taxes and may help generate political support for broader policy reforms (Köppl and Schratzenstaller, 2021[8]). However, good policy design is crucial to minimise risks of windfall gains and ensure policy effectiveness.

Although there is limited information on the effectiveness of environment-related CIT incentives in achieving set environmental objectives, the evaluation of existing measures can provide insights on lessons learned in terms of policy design and implementation. Available studies on their impact tend to look at targeted measures introduced in specific countries (Köppl and Schratzenstaller, 2021[8]).1 Two case studies from Spain and the Netherlands provide evidence of varying degrees of effectiveness of CIT incentives in generating additional environment-related investments, as described below:2

• Spain’s corporate tax credit for ‘Environmental Investments’. The tax credit was introduced in 1997 and covered 10% of a firm’s total capital investments allocated to environmental protection, including installations to prevent air and water pollution. The measure was phased out in 2006.3 Evaluation of the scheme showed that its use was limited (0.4% of all tax declarations in 2005), but it had significant influence on environmental capital investments, supporting most of the business initiatives in environmental protection (total EUR 1.033 billion) in Spain in 2005. This could indicate a limited additionality of the tax credit scheme, as firms benefitted from support for investments that were required to comply with existing environmental legislation (OECD, 2010[11]).

• The “Vamil/MIA” incentives scheme in the Netherlands. This long-standing Dutch scheme includes provisions for both accelerated depreciation (“Vamil”) and tax allowances (“MIA”) to support investments in innovative environmentally friendly techniques, which have been in effect since 1991 and 2001, respectively. They cover investments in techniques that are listed on the “Environmental List” and amount to at least EUR 2 500 per asset. Evidence from the scheme’s evaluation indicates high uptake and effectiveness in inducing additional investments, partly due to its design features and implementation aspects, which include (Van Santen et al., 2023[7]):

  • The use of a dynamic, positive environmental technology list (Environmental List), which is annually revised and tightened to maximise the scheme’s additionality and to limit windfall gains.

  • A multi-year budget envelope to compensate for over- and under-exploitation of the scheme and for flexibility in the use of funding.

  • Relatively low administration costs thanks to simplified procedures for firms (e.g. an online portal) and high awareness about the scheme among the firms concerned.

10.3. Corporate tax credits relevant to the circular economy in Italy

In recent years, Italy has been expanding the use of CIT incentives to achieve environmental policy objectives, including measures to support the circular economy transition. Relevant measures include a wide range of tax credits under Italy’s industrial plan “Transizione 4.0” (Transition 4.0) as well as more recent measures introduced by MASE to support the use of secondary materials. This section provides a brief overview of both types of measures, as well as available evidence on the uptake of tax credits to support secondary materials more specifically. The analysis in this chapter focuses on the case of corporate tax credits to support recycled content and other preferred materials, as this is the more experimental type of support developed in recent years. Furthermore, evaluations of measures developed within the Transition 4.0 plan are already planned thanks to the dedicated efforts of experts.4

10.3.1. Tax credits under the industrial plan Transition 4.0

Various assessments of the state of the circular economy in Italy have identified the need for larger and more systematic investments for R&D and innovation related to the circular economy (European Commission, 2022[12]; Circular Economy Network, 2020[13]). Italy’s 2022 Budget Law5 introduced Transition 4.0, its renewed industrial plan, to enhance research, facilitate technology transfer and training, and promote the digital transformation of manufacturing processes and asset investments. Some insights from the experience with tax credit schemes under Italy’s Transition 4.0 plan provide useful lessons learned in scheme design and implementation.

Among other things, the Transition 4.0 plan funded investments to support the circular economy transition thanks to the following measures:

• Tax credits for investments in tangible, capital and intangible goods. To encourage companies to invest in new capital goods that are supportive of the technological and digital transformation of production processes in Italian production sites.

• R&D and innovation tax credits for research, development and innovation. To boost spending on research, development and technological innovation in order to make businesses more competitive, and to encourage processes of digital transition in the field of the circular economy and environmental sustainability.

• Tax credits “Training 4.0”. To incentivise and support companies to train their staff in the technologies and skills relevant to the technological and digital transformation of businesses.

Several design features of the Transition 4.0 plan had been revised based on previous plans (e.g. “Industria 4.0” and “Impresa 4.0”) to enhance uptake and the overall effectiveness of the incentive scheme. Importantly, incentives in the scheme were applicable to all firms in Italy, including small and medium enterprises (SMEs), as well as businesses running at a loss. The plan increased deduction rates and the maximum expenditure ceilings, while lowering the period for the reception of tax credits. Overall, it provided a stable and clear plan that could be taken into consideration by businesses in their long-term investment planning decisions. The forthcoming “Transition 5.0” plan, an evolution from Transition 4.0, aims to further support green and digital transitions by focusing on the shift to more energy efficient and sustainable production processes, modulating the share of the tax benefit for firms based on their achievements to improve energy efficiency.

10.3.2. Tax credits to support circularity

MASE has introduced a series of fiscal incentives for enterprises, mainly in the form of tax credits, to discourage the use of virgin materials in production processes and to incentivise the shift towards the use of recycled or compostable materials. Recent measures include the following:

1. Tax credits for enterprises that applied to purchase products made from recycled plastics, packaging containing recycled paper, plastics or aluminium, as well as biodegradable packaging (2019 Budget Law and MiTE Decree 14 December 2021).6 Tax credits corresponded to 36% of expenses incurred by enterprises in 2019 and 2020, up to a maximum annual amount of EUR 20 000 per beneficiary. The measure was renewed for 2023 and 2024, with an increase of the allocated maximum budget (2023 Budget Law).7

2. Tax credits for enterprises that applied to purchase: i) intermediary and final products composed (of at least 75%) of materials from the recycling of waste or scrap materials, and ii) high-quality compost produced from the treatment of organic waste (Leg. Decree 34/2019 and MiTE Decree 6 October 2021)8. Tax credits corresponded to 25% of expenses incurred in 2020, up to a maximum annual amount of EUR 10 000.

3. Additionally, to limit the consumption and environmental impacts of single-use plastic products, the Ministry announced a tax credit for enterprises that applied to purchase alternatives to single-use plastics, either reusable alternatives or made from biodegradable or compostable materials (Leg. Decree 196/2021).9 Tax credits would correspond to 20% of expenses incurred in 2022, 2023 and 2024, up to a maximum annual amount of EUR 10 000 per beneficiary. At the time of writing, the measure is in the implementation phase.

For corporate tax credits developed and managed by MASE, monitoring efforts are carried out on an annual basis as part of the preparations of proposals to be renewed or strengthened for new Budget Laws.10 While limited in scope, these monitoring exercises offer some insights into the uptake of existing and past measures. Insights from these monitoring efforts are presented in the next paragraphs.

For measure #1 (2019 Budget Law and MiTE Decree 14 December 2021), the information available to date indicates high uptake, with demand for the tax credit largely outweighing the allocated resources. Initially, resources allocated for the years 2019 and 2020 amounted to EUR 1 million/year vis-à-vis a total of almost 600 applications and nearly EUR 11 million of requested financial support. Most of the financial support was granted for the purchase of biodegradable and compostable materials (amounting to EUR 8 million and EUR 9 million of expenses incurred in 2019 and 2020, respectively).11 Consequently, the 2023 Budget Law renewed the measure for the years 2023 and 2024, with a total budget of EUR 6 million, and also allocated an additional EUR 10 million to cover requests from previous years.

Measure #2 (Leg. Decree 34/2019 and MiTE Decree 6 October 2021) faced low uptake (total of 184 received applications for EUR 1.3 million of financial support, compared to a maximum available budget of EUR 10 million). The majority of requests received concerned the purchase of recycled products (total EUR 8.8 million of declared expenses, compared to EUR 59 000 for compost). This measure was discontinued after 2020. Although the measure was, to some extent, similar in scope to measure #1, its design and implementation faced lower business responsiveness. MASE suggested that selected revisions could help to enhance the uptake of the measure, including: i) a higher tax credit rate, to provide a more meaningful financial incentive; ii) a lower threshold for recycled content; and iii) implementation over a longer time frame, to provide a consistent signal to businesses.12

For both measures #1 and #2, the majority of requests came from micro- and small-sized enterprises (76% for the tax credit on recycled materials, and 83% for the tax credit on intermediary products and compost), with large firms accounting for a minor share of requests (0.04% for measure #1). This appears to be in line with the composition of the country’s industry in general, which would not suggest significant additional barriers to the uptake of corporate tax credit measures by SMEs in particular.13 The agriculture and fisheries sectors accounted for around one-third of applications in both cases, yet more granular data on the remaining sectors, or their share by type of investment made, is not available.

Evaluating the effect of corporate tax incentives on environmental goals requires monitoring and an assessment of the extent to which an incentive scheme led to changes (if any) in the firms’ investment structure and behaviour, as well as any changes in environmental indicators (including through indirect effects) and any macroeconomic effects, such as on jobs and economic growth. However, collecting information on actual environmental outcomes is difficult given the vast array of environmental impacts and the challenges of isolating the scheme’s (direct and indirect) impacts from other external factors. Nevertheless, even stylised estimates may help assess the effectiveness of environmentally related corporate tax credits (and other CIT incentives)14 and their cost-benefit in achieving set environmental goals compared to other policy instruments.

Data collected by MASE on corporate tax credits provide a good basis to monitor the uptake of implemented corporate tax credits by firms, even if more detailed information at the company level (e.g. specific sectors) and other variables (e.g. type and size of investments) could help draw a more complete picture, including indications of any distortionary effects across firms. Such information would be crucial to evaluate the cost-effectiveness of implemented measures. The experience of designing and monitoring tax credits as part of a comprehensive scheme, such as Transition 4.0, could also provide important insights into relevant aspects for the evaluation of CIT incentives for the circular economy, as well as possible opportunities for their strengthened use.

Beyond corporate tax credits aimed at boosting the use of preferred materials in production, in recent years MASE (or previous denominations) has trialled a range of fiscal incentives, also aiming to support sustainability and circularity in production and consumption. These are detailed in Box ‎10.2.

Box ‎10.2. Other fiscal and financial incentives introduced to support circularity

In 2021/22, the Ministry of the Ecological Transition (MiTE, currently known as the Ministry of Environment and Energy Security, MASE) introduced funds to encourage retailers to reduce the use of packaging and to sell products in bulk. Firms could request a non-repayable maximum amount of EUR 5 000 per beneficiary to reimburse expenses incurred in 2020 and 2021 for the purchase of equipment required to sell bulk or loose products (MASE Decree 22 September 2021).

The measure faced a low level of uptake (total requests for funding amounted to EUR 700 000, compared to the total allocated resources of EUR 20 million for the 2020/21 biennium). It is possible that the financial support, of a maximum of EUR 5 000 per beneficiary, represented an insufficient incentive for businesses, especially for larger retailers. Importantly, the financial support mechanism suffered from slow implementation and was applied to investments made in the past, hence, it is unlikely that the measure generated considerable additionality.

Additionally, some corporate tax credits were announced but were not implemented. One example is the corporate tax credits intended to support technological upgrades, specifically to convert production processes in the plastic packaging manufacturing sector to shift to compostable plastics (2020 Budget Law). These were originally conceived in conjunction with Italy’s plastic tax, whose implementation faced significant delays.

Sources: Decree of the Ministry for Ecological Transition 22 September 2021 “Measures to encourage the sale of products in bulk or on tap”; Relazioni illustrative delle Proposte per Legge di Bilancio 2023; Law 27 December 2019, no.160; Law Decree 30 April 2019, No. 34 “Urgent measures for economic growth and for resolving specific crisis situations”, then converted with Law 28 June 2019, No. 58.

10.4. Lessons learned and guidance on the use of CIT incentives

Considering the uncertainties on the effectiveness of CIT incentives in achieving environmental objectives, the associated costs, risks of windfall gains and distortions, their use as environmental policy tool should be carefully considered. As already discussed in Chapter 7, other policy instruments, notably pricing, may be preferred over the introduction of subsidies or fiscal incentives in isolation. Nevertheless, in the interest of supporting markets for secondary materials, tax incentives could play a complementary role within a broader policy mix where they clearly target specific barriers that are not comprehensively addressed by other policy instruments. Moreover, even as a second-best policy option, environment-related CIT incentives can provide for leeway to the introduction of environmental taxation, as they may not always face the same barriers to introduction. Hence, it is worth to consider features of their design and implementation to ensure that CIT incentives are effective in achieving policy objectives.

This final section summarises the lessons learned on the use of environment-related CIT incentives, including corporate tax credits, and provides guidance on opportunities for enhanced design, implementation and monitoring of corporate tax credits to promote circularity.

10.4.1. Design measures to minimise risks of windfall gains and maximise additionality, with a clear policy objective

Targeted corporate tax credits, like all CIT incentives, should aim for efficiency in the use of public resources, in line with the fundamental principles of fiscal policy (Hanappi, Millot and Turban, 2023[14]). Short-term negative impacts on public budgets may be offset by environmental and economic gains in the longer term. Cost-effective corporate tax credits should aim to generate additional investments above the level of investments that would have occurred without the scheme. Risks of windfall gains should be minimised, as they run counter to fiscal efficiency objectives (Van Santen et al., 2023[7]).

Features of instrument design have been found to play a role in determining the effectiveness of CIT incentives in triggering changes in a firm’s behaviour (Ecorys, 2020[1]), while providing clarity on the desired aim and the production process targeted.15 Clarifying the underlying policy objective should be the first step of developing any policy instrument, as this will allow to address key questions, such as whether the instrument is capable and appropriate to achieve the desired objective, or whether alternative instruments might be better suited (OECD, 2015[15]). To achieve the highest level of additionality and environmental benefits, it is generally recommended to use expenditure-based CIT incentives (e.g. tax credits and allowances), which tend to be more cost-effective at stimulating additional investments, and including generous carry-forward or refundability provisions for firms to benefit from the incentive independently of their profit situation (González Cabral, Appelt and Hanappi, 2021[4]; OECD, 2023[3]).

Other important design considerations concern the definition of technical criteria, such as the recycled content threshold that triggers the tax credit and the size of the monetary incentive. The setting of recycled content thresholds is a delicate matter. They should be sufficiently ambitious and periodically tightened to continue to provide meaningful incentives for higher recycled content, but they should also reflect the current market availability in order to avoid unintended effects, such as short-term pressures in the market for recycled materials or a drop in the quality of the selected products (Brown and Börkey, 2024[16]). Preparatory studies and consultations with industry players could better inform the selection of eligibility requirements (e.g. the recycled content threshold) and other technical criteria (European Commission, 2014[17]), and defining a clear path for the periodic revision of these requirements. Market studies could also be undertaken to assess the average cost of changing targeted practices and to better calibrate the size of the financial incentives. Moreover, relevant economic and environmental indicators might be identified in the early design stages to ensure the robust monitoring and evaluation of introduced measures.

10.4.2. Ensure clarity and predictability as part of a long-term vision

Clarity in eligibility requirements and administrative procedures related to CIT incentives, stability and timing of the incentives, as well as a sufficiently long time frame of implementation, are essential to provide enterprises with an element of predictability before their investment decisions are made. Evidence from the use of R&D tax incentives indicates that having certainty in a corporate environment facilitates planning over the longer term, and that R&D tax incentives are more effective when provided over a longer time frame. Predictability is crucial for firms to integrate the tax benefit in their investment plans, which can span many years. Conversely, frequent changes are likely to strongly reduce the effectiveness of tax incentives regardless of their design features (European Commission, 2014[17]). Timely implementation is also key.16 The presence of time gaps, between the announcement of measures and the possibility for enterprises to claim the tax benefit (e.g. following implementing decrees with the technical requirements), may be detrimental to the effectiveness of measures in influencing investment or purchasing choices that relate to manufacturing and product design processes that have long lead times.

Ensuring clarity, predictability and long-term planning may be more difficult for ad hoc measures that need to be frequently renewed (Klemm, 2009[9]), such as corporate tax credits introduced or renewed through Budget Laws. These are more prone to be characterised by short-term planning and discontinuity, besides also generating higher administration costs that could limit their effectiveness. On the contrary, CIT incentives that are introduced as part of comprehensive schemes, such as Transition 4.0, are more likely to provide a stable and meaningful incentive for firms to consider in their long-term planning compared to stand-alone measures, while also providing opportunities to reflect on the broader policy mix in which measures are introduced. A long-term vision is particularly important in the case of measures that aim to promote circularity, as these aim to modify a firm’s behaviour and structure, as well as production processes over the long term.

The overall complexity of incentive schemes, as well as a lack of accompanying measures to inform about their existence, can also pose barriers to the uptake of CIT incentives (Van Santen et al., 2023[7]). Small and young firms, in particular, might be discouraged to apply due to uncertain compliance costs and decision response times (although there is no evidence of additional barriers for SMEs to the uptake of measures introduced by MASE). Better access to information and clarity in the administration of the scheme can help increase awareness and understanding of R&D tax incentives among firms, as well as increase accessibility. Moreover, having a single online application form or a one-stop portal to respond to any relevant inquires can significantly reduce both the administration and compliance costs (Van Santen et al., 2023[7]).

10.4.3. Seek opportunities for evaluation while minimising administrative costs

Timely and comprehensive data collection to monitor the uptake of CIT incentives and also to carry out an evaluation are essential, without significantly increasing the administrative burden on firms. The availability of more complete and granular data can support the evaluation process of introduced measures and inform their possible reform to enhance effectiveness (Van Santen et al., 2023[7]). Evaluations should assess, to the extent possible, the effects of the measures on corporate behaviour and the environment, incorporating both qualitative and quantitative assessments. At the same time, firms should not be burdened with excessive reporting requirements, which might discourage uptake, especially by smaller companies. The right level of granularity and frequency of data collection should be considered, in addition to measures that simplify administrative procedures for firms.17

The scheme should be simple and clear to administer so as to lower the costs for both the government and firms (Van Santen et al., 2023[7]). From the perspective of governments, CIT incentives may potentially have lower administration costs compared to other policy instruments, though this will largely depend on the design of the scheme.18 In the case of measures implemented individually (as was the case of corporate tax credits for circularity implemented by MASE) or highly complex schemes, administrative costs for public administrations are likely to be substantial. Policy makers should therefore seek to simplify administrative procedures (e.g. for application or appeals) to minimise costs and help secure business buy-in for the measures, especially as the provisions for continuous monitoring and evaluation are likely to increase costs for governments as well as firms.

Experience with CIT incentives can provide useful general guidance on opportunities to minimise administrative costs and enhance monitoring and evaluation efforts. Ad-hoc CIT incentive measures may be included into broader tax incentive schemes and in related, systematic monitoring and evaluation as well as reporting exercises. Legal provisions, to regularly monitor and evaluate tax incentive schemes, provide a strong motivation for governments to systematically collect and make high-quality data available. A representative example is the mandatory periodic revision of tax incentive schemes in the Netherlands (see ‎Annex 10.A). Moreover, regularly publishing information from monitoring and evaluation, for example as part of tax expenditure reports, can help ensure transparency in the management of public funds and contribute to the public acceptability of tax incentive measures (European Commission, 2014[17]). Other relevant considerations include limiting fragmentation in the tax code by centralising the administration of tax incentive schemes and strengthening co-ordination between Ministries in the development of tax credit measures (e.g. with the Ministry of Economy and Finance).

10.4.4. Ensure policy effectiveness by linking corporate tax incentives to other measures

As mentioned above, consideration should be given to the overall policy mix into which CIT incentives are introduced to ensure their effectiveness. It is unlikely that CIT incentives, such as corporate tax credits, alone will deliver on the set policy objectives in a cost-effective way, given the fiscal and administrative costs and the risks of low additionality. However, combined with other policy instruments, CIT incentives could help reinforce existing policies (e.g. environmental taxes or subsidies) where there are specific barriers that may require targeted measures, for instance a lack of awareness of circular innovation opportunities in production processes. The introduction of revenue-generating instruments in a policy mix could compensate for the loss of revenue and provide options to achieve budget neutrality, and may achieve greater effectiveness in steering consumption and production patterns. However, care should be taken to prevent the overlap of instruments that would duplicate subsidies and reduce overall efficiency (European Commission, 2014[17]).

Focusing specifically on the policy objective to strengthen markets for secondary materials, there are concerns that instruments such as corporate tax credits alone may not be enough to achieve overall reductions in primary material demand, and in a way that is cost efficient. Other policies may be required to mitigate the risks of unintended effects, lower the costs for public finances, and to amplify the likelihood of positive environmental outcomes. Policies such as mandatory or award criteria in green public procurement (GPP), modulated Extended Producer Responsibility (EPR) fees and environmental taxation tend to be part of the policy mixes in OECD countries.

References

[16] Brown, A. and P. Börkey (2024), “Plastics recycled content requirements”, OECD Environment Working Papers, No. 236, OECD Publishing, Paris, https://doi.org/10.1787/b311ee60-en.

[13] Circular Economy Network (2020), Rapporto sull’economia circolare in Italia.

[6] Criscuolo, C. et al. (2022), “Are industrial policy instruments effective?: A review of the evidence in OECD countries”, OECD Science, Technology and Industry Policy Papers, No. 128, OECD Publishing, Paris, https://doi.org/10.1787/57b3dae2-en.

[19] Dressler, L. and R. Warwick (2024), “Corporate Tax Incentives as climate policy tools? Lessons from three European countries”, OECD Taxation Working Papers, OECD Publishing, Paris.

[1] Ecorys (2020), Taxation in support of green transition: an overview and assessment of existing tax practices to reduce greenhouse gas emissions, European Commission, https://www.ecorys.com/case-studies/taxation-in-support-of-green-transition-an-overview-and-assessment-of-existing-tax-practices-to-reduce-greenhouse-gas-emissions/ (accessed on 16 May 2024).

[12] European Commission (2022), The Eco-Innovation Scoreboard and the Eco-Innovation Index, https://ec.europa.eu/environment/ecoap/indicators/index_en.

[17] European Commission (2014), A study on R&D tax incentives – Final report, European Commission, Directorate-General for Taxation and Customs Union,, https://data.europa.eu/doi/10.2778/447538 (accessed on 17 January 2024).

[20] Garcia-Quevedo, J., E. Martinez-Ros and K. Tchorzewska (2022), “End-of-pipe and cleaner production technologies. Do policy instruments and organizational capabilities matter? Evidence from Spanish firms”, Journal of Cleaner Production, Vol. 340, p. 130307, https://doi.org/10.1016/j.jclepro.2021.130307.

[4] González Cabral, A., S. Appelt and T. Hanappi (2021), “Corporate effective tax rates for R&D: The case of expenditure-based R&D tax incentives”, OECD Taxation Working Papers, No. 54, OECD Publishing, Paris, https://doi.org/10.1787/ff9a104f-en.

[14] Hanappi, T., V. Millot and S. Turban (2023), “How does corporate taxation affect business investment?: Evidence from aggregate and firm-level data”, OECD Economics Department Working Papers, No. 1765.

[9] Klemm, A. (2009), “Causes, Benefits, and Risks of Business Tax Incentives”, IMF Working Paper, No. 21, International Monetary Fund, https://www.imf.org/external/pubs/ft/wp/2009/wp0921.pdf (accessed on 22 May 2024).

[8] Köppl, A. and M. Schratzenstaller (2021), “Aspects of Environmentally Beneficial Tax Incentives. A Literature Review”, WIFO Working Papers, No. 621, Austrian Institute of Economic Research.

[2] OECD (2023), OECD R&D Tax Incentives database, https://oe.cd/rdtax (accessed on 19 January 2024).

[3] OECD (2023), “The Impact of R&D tax incentives: Results from the OECD microBeRD+ project”, OECD Science, Technology and Industry Policy Papers, No. 159, OECD Publishing, Paris, https://doi.org/10.1787/1937ac6b-en.

[5] OECD (2020), “The effects of R&D tax incentives and their role in the innovation policy mix: Findings from the OECD microBeRD project, 2016-19”, OECD Science, Technology and Industry Policy Papers, No. 92, OECD Publishing, Paris, https://doi.org/10.1787/65234003-en.

[15] OECD (2015), Creating Incentives for Greener Products: A Policy Manual for Eastern Partnership Countries, OECD Green Growth Studies, OECD Publishing, Paris, https://doi.org/10.1787/9789264244542-en.

[11] OECD (2010), “Annex E. R&D and Environmental Investments Tax Credits in Spain”, in Taxation, Innovation and the Environment, OECD Publishing, Paris, https://doi.org/10.1787/9789264087637-13-en.

[10] OECD (2010), Taxation, Innovation and the Environment, OECD Publishing, Paris, https://doi.org/10.1787/9789264087637-en.

[18] Presidenza del consiglio dei Ministri (2001), Circolare della Presidenza del consiglio dei Ministri del 2 maggio 2001, n.1/1.1.26/10888/9.92. Guida alla redazione dei testi normativi., https://www.rgs.mef.gov.it/_Documenti/VERSIONE-I/Attivit--i/le-relazio/C_PCM-02-05-01.pdf.

[7] Van Santen, W. et al. (2023), Beleidsevaluatie MIA\Vamil, Ministerie van Infrastructuur en Waterstaat.

Annex 10.A. Selected country experiences with environment-related CIT incentives

Spain’s tax credit for Environmental Investments

Spain introduced an Environmental Investments (EI) corporate tax credit in 1997, which was initially phased out in 2006. The credit covered 10% of a firm’s total capital investments devoted to environmental protection, including installations to: i) prevent air pollution from industrial facilities; ii) prevent pollution of surface, underground and sea water; iii) reduce, recover or adequately treat industrial waste; and iv) generate renewable energy from selected processes (OECD, 2010[11]).

The evaluation of the EI tax credit scheme showed that its use was limited (0.4% of all tax declarations in 2005), but its scope within environmental capital investments was significant, supporting most of the investments for environmental protection in Spain (total EUR 1 033 billion) in 2005. A sizeable percentage (68%) of the validated investments were for the installation of “end-of-pipe” solutions.

In theory, eligible investments were to go beyond legal requirements. In practice, however, the scheme also benefitted investments that aimed to comply with environmental legislation, and which would have been undertaken anyway (limited additionality). Over the period 2000-2005, the EI tax credit appeared less effective at stimulating innovation in clean production processes than the Spanish tax credit for R&D and innovation (R&D&I), which was targeted at economy-wide R&D investments, including environmental related ones. This was likely due to the limited input additionality of the EI tax credit.

Drawing from this evaluation, several lessons may be learned from the Spanish EI tax credit experience:

• If environmental R&D&I are to be promoted, horizontal incentives, such as the economy-wide R&D&I tax credit, may be more effective than targeted incentives, such as the EI tax credit. The experience of the EI tax credit indicated a low additionality effect for targeted capital investments.

• CIT incentives are justified in cases of positive externalities. They should not be granted for environmental investments that are legally required as it would run counter to the “polluter pays” principle, as well as resulting in inefficient allocation of public funds and hampering innovation.

• The effectiveness of the Spanish EI tax credit scheme was likely limited by a low awareness of its existence by businesses, complex bureaucracy and high administration costs, uncertainty about the future persistence of the scheme, and a lack of flexibility in the process of updating requirements (requiring changes in law), and carry-over options in case of a no-profit year.

The Dutch Vamil/MIA incentives scheme

The Netherlands has a CIT incentive scheme with both Random Depreciation on Environmental Investments (Vamil, since 1991) and tax allowances (MIA, since 2001) to support innovative environmentally friendly investments, focusing on the market introduction and expansion phases of innovation (Van Santen et al., 2023[7]). Eligible investments cover innovative environmental techniques that are included on the “Environmental List” and amount to at least EUR 2 500 per asset. The Environmental List, which is annually updated, determines whether a particular asset qualifies for one or both schemes, as well as the rates of support that apply (with categories from A-G). The annual revision of the Environmental List may involve the inclusion of new assets, a change of category to existing ones, or their removal from the list.

• Considering a certain risk of windfall gains (i.e. firms that benefit from the scheme but would make the same investment anyway) of 26-59% (based on survey results), the Vamil/MIA scheme led to additional “net” investments of EUR 4.4 – EUR 7.9 billion in the period 2017-2021 (compared to a total of EUR 10.8 billion “gross” investments). However, percentages vary significantly between types of technologies and firms.

• The total implementation costs for government over the same period represented 3% of the financial support provided, which is lower than other evaluated instruments. Average compliance costs for firms amounted to 15% of received tax benefit.

• In terms of the scheme's cost-effectiveness, EUR 1 of government support induced between EUR 6.4 – EUR 11 of additional investments (adjusting for windfall gains). This has been deemed as efficient, assuming that such investments in innovative environmentally friendly techniques imply the achievement of environmental benefits. Environmental outcomes are otherwise difficult to quantify.

Some efforts are being undertaken to evaluate Vamil/MIA’s effectiveness in terms of environmental outcomes, which may vary significantly by type of investment. For example, the CO₂ emissions reduction outcomes were assessed in relation to the additional “net” investments in electric vehicles (50% of investments volume in 2019 and 2020) and against the scheme’s total implementation costs. Assuming that each electric vehicle replaced a diesel one, the estimated average cost effectiveness of the scheme was EUR 141/tonne (0.0071 tonne CO₂/EUR). This was significantly lower than the equivalent estimate for the country’s Energy Investment Allowance (EIA), which targets investments in energy efficiency, and is possibly explained by the higher costs of the innovative assets covered by Vamil/MIA.

Some features of the scheme are likely to contribute to its estimated efficiency. First, the country’s legislation requires fiscal schemes to be evaluated every 5 years (following the Fiscal Regulations Assessment Framework),19 which provides crucial data and information for policy reform. Moreover, a multi-year budget ceiling allows compensation for occasional over- and under-exploitation of the scheme, which implies constant monitoring and adjustments of eligible assets and support rates on the Environmental List.20

The use of the Environmental List plays a key role in the scheme. It provides a signalling and “attention” effect by increasing firms’ awareness of the existence of eligible assets, reducing search costs and increasing confidence in such investments. The periodic tightening of requirements aims to maintain incentives for innovation and environmental gains while maximising the scheme’s input additionality (i.e. limiting the risk of windfall gains).

Awareness of the scheme is high among stakeholders. Surveys with Vamil/MIA beneficiaries showed that intermediaries (e.g. subsidy agencies) as well as media (Internet, specialised magazines) play a significant role in informing entrepreneurs about the existence of the scheme. Moreover, several ministries and agencies are involved in the implementation of the scheme, which involves, among others, the running of a helpdesk and online applications portal, and the development and annual revision of the Environmental List, all of which are likely to minimise compliance costs for businesses.

Notes

← 1.  Examples include the Dutch Energy Investment Allowance (EIA), Belgium’s Investment Allowance (IA), or Denmark’s enhanced depreciation scheme for green investments. These are being studied as part of an ongoing OECD project on the evaluation of CIT incentives for climate mitigation policy objectives (Dressler and Warwick, 2024[19]).

← 2.  ‎Annex 10.A provides more information on both country examples.

← 3.  A more recent study (Garcia-Quevedo, Martinez-Ros and Tchorzewska, 2022[20]) provides empirical evidence on the effects of policy instruments on firms’ green technology adoption in Spain between 2008 and 2014, following the re-introduction of the Environmental Investments tax credit. Their results show a more positive effect of the tax credit on stimulating investment in green technologies, providing a better stimulus than taxation.

← 4.  An interdisciplinary committee involving experts from the Italian Ministry of Economy and Finance, the Ministry of Economic Development, and the Bank of Italy were appointed to assess the economic impact of incentive schemes under the Transition 4.0 plan.

← 5.  Law 30 December 2021, No. 234 “State budget for the financial year 2022 and multiannual budget for the three-year period 2022-204”.

← 6.  Law 30 December 2018, No. 145 “State budget for the financial year 2019 and multiannual budget for the three-year period 2019-2021”. The measure replaced the tax credits introduced by the 2018 Budget Law (Law 27 December 2017, No. 55) for the years 2018, 2019 and 2020, with a similar purpose and amount. Decree of the Ministry for Ecological Transition of 14 December 2021 “Technical requirements and certifications attesting to the eco-sustainable nature of products and packaging according to current European and national legislation”.

← 7.  Law 29 December 2022, No. 197 “State budget for the financial year 2023 and multiannual budget for the three-year period 2023-2025”.

← 8.  Leg. Decree 2019/34 “Urgent measures for economic growth and resolution of specific crisis situations”, then converted to Law 28 June 2019, No. 58. The Decree of the Ministry for Ecological Transition of 6 October 2021 “Provisions implementing the tax credit on products from recycling and reuse” defined the technical criteria certifying the types of materials and products eligible for the tax credit, as well as the procedures for accessing the tax credit.

← 9.  Leg. Decree 196/2021 “Implementation of Directive (EU) 2019/904 of the European Parliament and of the Council of 5 June 2019 on the reduction of the impact of certain plastic products on the environment”. Provisions for the implementation of the tax credit, including technical criteria for the eligibility of products, as well as the procedures for accessing the tax credit, will be published in an implementing decree.

← 10.  This is aligned with best practices in the design of policy measures, which include an explanatory report, with the explanation of the motivations behind the measure proposed and the objectives, as well as a technical report (Presidenza del consiglio dei Ministri, 2001[18]).

← 11.  Data and information on uptake presented here were gathered during the project’s workshop titled “The role of fiscal instruments to promote the use of recycled materials as part of the circular economy transition in Italy” (30 January 2024, Sala Santoloci, Ministry of Environment and Energy Security, Rome).

← 12.  Relazioni illustrative delle Proposte per Legge di Bilancio 2023.

← 13.  Similarly, in the case of R&D tax credits, small firms make the most use of available tax support (with the highest share), whereas large R&D performing firms (i.e. those eligible for tax support) have the lowest use of tax relief (OECD, 2023[3]). This is an opposite trend to the one observed in other OECD countries, where larger firms tend to make more use of available CIT incentives (Dressler and Warwick, 2024[19]).

← 14.  In some cases, stylised assessments were used to provide estimates of the possible environmental impacts (in terms of CO₂ abatement) of CIT incentives, as presented in ‎Annex 10.A for the Dutch Vamil/MIA scheme.

← 15.  Presentation by Maria Teresa Monteduro (Italy’s Ministry of Economy and Finance) given at the project’s workshop titled “The role of fiscal instruments to promote the use of recycled materials as part of the circular economy transition in Italy” (30 January 2024, Sala Santoloci, MASE, Rome).

← 16.  Ibid.

← 17.  Ibid.

← 18.  In terms of overall costs, it is possible that instruments, such as direct subsidies, could support the achievement of environmental policy objectives at a lower cost than CIT incentives, although there is no conclusive evidence of this (Van Santen et al., 2023[7]).

← 19.  “Act of March 22, 2017, containing rules on the management, provision of information, control and accountability of the finances of the State, on the management of public liquid assets outside the State and on the supervision of the management of public liquid assets and public financial resources outside the State (Comptabiliteitswet 2016)”.

← 20.  For example, electric vehicles represented almost 50% of investment volume in 2019 and 2020. The investment asset moved from category G (36% MIA reduction rate) to D (27%) in 2019 and E (13.5%) in 2020. In 2022, the asset was removed from the Environmental List. This annual revision process is deemed to significantly enhance the dynamism of the scheme.