SUNK COSTS AND PROFIT TAXATION: A SOURCE OF TAX NON-NEUTRALITY

This Paper uses a two-period Von Stackelberg model to study the effects of profit taxation on the behaviour of a monopolist, when the entry of a potential competitor is threatened. A barrier to entry, consisting of a sunk cost, is assumed. If the potential competitor decides to enter, thus making a loss, deduction is allowed in the following period. This model shows that these tax deductions can make profit taxation be distortive.