EU proposes tax incentives for equity financing like those for debt

© Reuters. FILE PHOTO: European Union flags fly outside the European Commission headquarters in Brussels, Belgium, March 6, 2019. REUTERS/Yves Herman

BRUSSELS (Reuters) - The European Commission proposed on Wednesday that companies get tax incentives for raising money through share issues in the same way they do when they borrow, allowing to remove the tax bias favouring corporate debt and make firms more stable.

European firms get 70-80% of their financing from bank loans and the rest from securities, making them vulnerable when banks are less forthcoming with lending or during a banking crisis.

"By making new equity tax-deductible, just as debt is at present, this proposal reduces the incentive to add to (companies') borrowing and allows them to make financing decisions based on commercial considerations alone," Commission Vice President Valdis Dombrovskis said.

The total debt of corporations in the European Union was 14.9 trillion euros in 2020 or 111% of EU gross domestic product.

In the United States, the corporate financing proportions are reversed and the EU is striving for that under its capital markets union project to increase non-bank financing for firms.

"Our proposal will help companies build up more solid capital, making them less vulnerable and more likely to invest and take risks," EU Economic Commissioner Paolo Gentiloni said.

The Commission expects the combined approach of equity allowance and limited interest deduction on debt to boost investments by 0.26% of GDP and GDP itself by 0.018%.

Under the Commission proposal the tax deduction would be made on the difference between net equity at the end of the tax year and net equity at the end of the previous tax year, multiplied by a notional interest rate.

The allowance on equity would be deductible for 10 consecutive tax years, as long as it did not exceed 30% of the company's taxable income.

The proposal will now have to be agreed with EU governments and the European Parliament before it becomes law.