Center for Economics and the Environment: Policy Series
Tax credits come in many forms and serve an array of purposes, although economic development is central to their existence. Although tax credits come in many forms, they all share a basic structure: They are provided to a private entity for a specific project, usually to enhance the entity’s ability to obtain financing. The holder of a tax credit can apply it against his or her tax liabilities according to its redemption value, its redemption date, and other rules governing the credit.
This paper summarizes the findings in the economics literature on the effectiveness of state tax credits in spurring economic development. Based on the literature, the three important lessons to be learned about applying tax credits are:
- Tax credits generally have not been found to lead to increased employment even at firms that receive them. This result seems to depend somewhat on the incentive structure of the tax credit program.
- In some sectors and some localities, it is possible for tax credits to lead to increased employment in non-recipient firms. This suggests that agglomeration economies might play a limited role in determining the effectiveness of tax credits. The literature provides little to no guidance, however, as to when and where tax credits can be targeted for this purpose.
- State tax credits do not tend to lead to higher levels of employment for local residents, nor, by extension, do they lead to higher levels of employment for state residents.
These lessons are consistent with the general literature on the, at best, lukewarm effects of development incentives on local employment. Keep in mind that the tax credit programs examined typically are geared directly at job creation. This suggests that for states like Missouri, which tend to have dual-purpose tax credit programs, it would be difficult to find strong evidence that development tax credits have generate significant increases in overall economic activity.
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Wall, Howard J., "Tax Credits As A Tool Of State Economic Development Policy" (2017). Center for Economics and the Environment. 9.