Tax holiday also increase administrative problem because tax authorities usually do not monitor company books during the period in which a firm is exempt from taxes. As a result, there remains scope for manipulation of asset purchases, depreciation charges, and other accounts during the tax holiday period to reduce reported income, and thus taxes, after the end of the tax holiday period.

Whatever the source of leakage in tax revenues -- direct or indirect -- it means that the taxes of those entities not granted tax holidays have to be higher than otherwise in order for revenue needs to be met. Higher general tax rates impose disincentives on the other investors and on recipients of incentives once the tax holiday has expired. To the extent that taxes influence investment decisions, the result may be less investment in non-supported activities. Moreover, differential tax rates -- low on investment with incentives and correspondingly high on others -- further the feeling among tax payers that the tax system is unfair, encouraging tax payers to manipulate the allocation of profits and to cheat on the reporting gains.

Arguments in favour of tax holidays are many in the developing countries. These may be grouped into six categories. The first one originates from struggle for bureaucratic power and agency problems. Often pressures for tax holidays have come from a country's investment authority, as has happened in Bangladesh, Indonesia and other countries. There are several reasons for this but important are: first, the investment authority is charged with promoting investment but not with collecting revenue. If tax holiday attracts any investors at all, the authority benefits; on the other hand, the cost are carried by the ministry of finance and not charged against the performance of the investment agency, in case of Bangladesh, the BoI. Second, an investment institution seeks power and is likely to survive only to the extent that it has control over something of value to investors.

The second is the hidden nature of costs arguing that tax holidays are often attractive to bureaucrats because the costs are not easily measured. Although a tax holiday amounts to subsidies, they are not paid our as such, but comprise incomes foregone. Thus although the ministry of finance is reluctant to give tax holidays, they prefer them to subsidies.

Third is the relative ease of instituting tax holidays. Creating an environment that is attractive to investors is not an easy matter. It is difficult to build political or economic stability by decree or by law and in most countries it is difficult to reduce red tape. Market size is a given, at least for the medium term, and domestic politics may constrain the implementation of other policies that are attractive for foreign firms. Political crises, such as in Bangladesh, Pakistan, Indonesia and India in the early and late 1990s and terrorist attack in the USA, are especially difficult to remove. On the other hand, it takes little more than a stroke of pen to introduce tax incentives as many developing countries do when foreign investment falls off in response to the crisis. Policy makers feel that they are at least dong something.

Fourth is the Company Interests. The managers will ask for incentives, whether they influence the decision or not. However, tax sparing treaties allow investors to reap full benefits of any tax holidays they would receive.

Fifth is the power of individual stories. The stories of investors who "got away" seem to have an inordinate impact on decisions. For example, business leaders visiting different countries identify tax incentives of similar industries in those countries, such as the semi conductor industries in Malaysia, Indonesia and South Korea. Policy makers and their advisers seem to have been strongly influenced by similar cases of investment that was lost, or at least seemed to be lost, because incentives were large enough.

And the sixth argument, in keeping with neighbours is often phrased in terms of remaining competitive with neighbouring countries. The competing countries very carefully follow the others in the regional market. Tax incentives may also have encouraged greater use of capital relative to labour. It can be demonstrated that the tax holiday effectively lowers the cost of capital to the firms enjoying the holiday.

Empirical findings: One of the very first surveys was conducted by Barlow and Wender in 1955 by interviewing 247 US companies on strategies to invest abroad and found only 10 percent of the companies listed favourable foreign taxes as conditions for FDI.

The other survey conducted by Robinson (1961) found that a tax concession headed the governments' choice in attracting FDI while private investors did not consider tax concession to attract FDI. Study of Aharoni (1966) that income tax exemption is the least stimulant in attracting FDI and those investors who consider, do it only marginally. In the words of one of the investors in the survey: "Tax exemption is like a desert; it is good to have, but it does not help very much if the meal is not there." In the recent years, several investors' surveys explore the effectiveness of tax policies on FDI using alternative samples or asking more detailed questions, for example, Ernst & Young (1994), Fortune/Deloitte Touche (1997), Japan External Trade Organization (1995). All these surveys confirm that if tax policy matters in FDI, it is not the most influential factor in the site selection of multinationals. In the Fortune/Deloitte Touche survey, taxes ranked 13th out of 26 factors. Most econometric studies tend to confirm the result of the surveys that investors are mostly influenced in their decisions by market and political factors and that tax policy appears to have little effect on location of FDI for example, Root and Ahmed (1978), Agodo (1978), Shah and Toye (1978) and Lim (1983).

The most striking conclusion of a survey was that foreign investors, almost without exception, stated that taxation concessions and pioneer status did not play a significant role and the most part, played no role at all in bringing them to Singapore (Hughes et al 1969).

In Bangladesh, for the past 30 years the National Board of Revenue has been granting tax holiday and other fiscal incentives in different forms. Nearly 95 percent of manufacturing and other companies that are eligible for a tax holiday, are private limited companies owned and managed by family members and 80 percent of the companies who took advantage of tax holiday are whitening their black money by showing inflated fictitious profits. The tax incentive has not been found successful in narrowing the gap of industrial growth among different regions. Fiscal incentives for industrial growth and thereby increase in creation of job in the economically backward regions has not been achieved. Survey of 174 annual reports in the Dhaka Stock Exchange (2003) indicate that the tax holiday had created tax haven for the tax evaders. Among 124 manufacturing companies 76 of them are enjoying tax holiday and the balance have already enjoyed this benefit and now showing loss. Out of other 26 companies excepting banks and financial institutions 9 are enjoying tax holiday. Out of the 76 manufacturing 58 showed profit in their tax holiday unit and 18-recorded loss. Among the 9 non-manufacturing companies 6 recorded profit and balance, 3 incurred loss.

Critics argue that it also contributed to the widening of income inequality and creating economic distortions. Most companies, through creative accounting, misused the advantage of tax holiday showing profit during holiday period and on completion of the said period the unit is shown as making loss and the company receives sanction for new unit. Time has come to assess the effectiveness of tax incentives and tax holidays in attracting foreign direct investment including also local investment or is it a window for turning black money white, through the application of creative accounting in Bangladesh.

Dr Jamaluddin Ahmed FCA is a partner of Hoda Vasi Chowdhury & Co, Chartered Accountants.