Corporate Taxes in Germany

To compute costs, Paradisi (2021) considers three components: i) mechanical cost of a corporate tax cut, ii) fiscal externality from increased income tax collection caused by higher wages, and iii) fiscal externality from increased profits (which are then taxed at the corporate tax rate). Component i) is given by average profits times the change in the corporate tax rate. To compute it, Paradisi first estimates firm average annual profits by subtracting average labor costs from average value added in the study sample, getting to €120M. The average change in the corporate tax rate is 0.8%, which gives a mechanical cost of approximately €983,644 per firm. To calibrate ii), he multiplies the income tax rate by labor supply and by the change in wages caused by the tax cut. To obtain the annual change in labor earnings caused by the policy, Paradisi multiplies the change in monthly labor earnings caused by the policy (€127/worker) by average employment (265 workers/firm) and by 12 months, getting €33,894 per firm. The government collects payroll and personal income tax rates on this amount. The relevant personal income tax rates in Germany at the time of the policy change were 14% for income between 9,169 and 14,255, and 24% for income above 14,255. The payroll tax rate was 20%. So total fiscal externalities per firm per year due to increased labor earnings are €17,265. Component iii) is given by the product of the pre-period corporate tax rate (18.65%) and the average change in profits caused by the tax cut (€-2,623), for a fiscal externality of €489. This gives a total cost of 983,644-489-17,265= €965,889 per firm per year.

Dividing the willingness to pay by the net costs (€1,007,051/€965,889), Paradisi (2021) gets an MVPF of 1.04.