1.1 Introduction to Taxation Flashcards
Governments need tax revenues to
finance to public services such as hospitals, schools, policing, retirement pensions, social benefits and government borrowing
Governments can use taxes to
stimulate one sector of the economy and control another
- tax depreciation allowances on capital expenditure may develop the manufacturing sector
- high taxes on alcohol and tobacco may discourage sales
In Wealth of Nations, Adam Smith proposed that a good tax should have the following characteristics:
- Fair - reflect persons ability to pay
- Absolute - certain and not arbitrary
- Convenient - easy to pay
- Efficient - low collection costs
The three major principles of good tax policy are:
- Equity - fairly levied between one taxpayer and another
- Efficiency - cheap and easy to collect (PAYE collects tax at source on salaries and wages)
- Economic effects - should reflect the persons ability to pay (the amount of tax paid should be dependent on the level of burden the tax will create relative to individuals wealth)
Direct taxes:
Are paid directly to the government by person liable for them based on their income
- Egs: income tax, corporation tax, capital gains tax,
Indirect taxes:
One party is liable for the tax but it is collected and paid to government by another party.
- ultimately imposed on the final consumer of goods (the more consumed the more tax paid)
- Eg: Value added tax (VAT)
A tax base is
Is something that is subject to tax
Taxes can be classified by tax base, ie, by what is being taxed:
- Income - income taxes and tax on entity’s profits
- Capital or wealth - taxes on capital gains and inherited wealth
- Consumption - excise duties and sales tax (VAT)
Incidence
The incidence of the tax is the distribution of the tax burden, ie. who is paying the tax
- Formal incidence - person who has direct contact with tax authorities (legally obliged to pay the tax) (VAT - company paying tax)
- Actual / effective incidence - person who actually bears the cost of the tax (VAT - consumer who bears the cost)
Taxable person
The individual or entity accountable for the tax payment
Competent jurisdiction
- A taxable person normally pays tax in country of residence
- The jurisdiction of a tax authority is it’s right to assess, collect and enforce the payment of tax
- If an individual / entity falls within the competent jurisdiction of a particular tax authority then this creates an obligation for them to apply that authority’s tax laws
Hypothecation
This means that certain taxes are used entirely for certain types of expenditure
- eg: road tax is used entirely for maintaining roads
- eg: London congestion charge is used to pay for transport
Tax gap
- This is the gap between the tax collectable in theory and the amount actually collected
- This may arise due to tax avoidance and evasion
- Authorities will aim to minimise this gap
Tax rate structure - there are three types of taxes:
- Progressive taxes - takes an increasing portion of income as income rises (eg: UK income tax), ie. the higher you earn the higher average tax rate
- Proportional taxes - takes the same proportion of income as income rises
- Regressive taxes - takes a decreasing proportion of income as income rises (ie. a higher tax on those with lower incomes)
Source of tax rules
- Legislation produced by national government of country (these are law and therefore mandatory) - includes statutory instruments where detailed notes are required
- Precedents based on previous legislation / case law (decisions made in tax cases brought to court) - these challenge current legislation or interpretations, the rulings are binding and provide guidance on interpretation of tax statutes
- Tax authorities also issue interpretations (statements of practice), (eg: tax bulletins in the UK)
- Directives from international bodies (European Union guidelines on VAT)
- Agreements between different countries (UK/US double tax treaties)
