Capital 1 Flashcards
Objectives of taxation?
- Compulsion: taxpayer cannot choose between paying and not paying
- Revenue collection: taxes are levied to raise revenue for government
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Other objectives:
Political: redistribution of wealth and income
Economic: stimulation of private investment
What are the elemts of tax?
- tax base
- tax rate
- = Statutory tax
- tax credits
- = Tax due
What are the taxable factors that the taxbase depends upon?
- Labour: wages and salaries
- Capital: interest, dividends, business profits, capital gains,
- Consumption: acquisition of services and goods
What are the characteristics of the ideal tax system?
- revenue collection for sufficient and stable revenue
- Efficiency/neutrality detain any effect on people´s preferences to work, invest, save and consume in order to minimise excess burdens, and to maximise economic growth
- vertical and horizontal equity
- minimium costs of administration and complieance
- international competitiveness
What are the 3 objectives of income taxation? (deeper level)
- Revenue colletion
- Fairness: Equity and Ability to pay
- Promotion of other objectives: Political and Economic
What are the principles of fairness?
- Covers the principle of equity and the principle of ability to pay
- Recognized worldwide as guiding principle of income taxation either by constitutional or common law
What is meant with the principles of equity? What are the two forms?
- Horizontal: all forms of income should be subject to tax, and be determined in the same way (= tax base)
- Vertical: redistribution from high-income to low-income households (= tax rate)
What is meant with ability to pay principles?
- People are taxed according to their financial capacity in order to contribute to the provision of public goods and services
Net income is good indicator of ability to pay:
- consideration of professional/business expenes to generate income and private expenses necessary for subsistence
- compensation of losses (carry-back and carry-forward) since PIT is levied on an annual basis
No consideration of private expeses unnecessary for subsistence and expenses not linked with professional activitiees
What are potential conflicts with the principles of fairness?
Under a Schedular income system
Potential conflicts arise because income is determined and/or taxed differently:
- Example: Earned income of €10,000 is taxed progressively at a rate of 40%.
- Interest income of €10,000 is subject to a final withholding tax of 25%.
What is the issue with the concepts of income?
- Ability to pay principle provides no universally valid and accepted notion of income
- Because financial capacity can be determined by both looking at income or consumption
- both serve as indicators for people´s ability to pay taxes
What is the equation of income and consumption?
Wages (W) + Return on Capital (R) = Consumption (C) + Savings (S)
W + R = C + S
What is the takeaway of looking at income and consumption taxes? (When are they similar)?
- Income and consumption can indicate people’s ability to pay taxes
- Without savings and – equivalently – investments, both concepts would result in a similar tax burden
Income and consumption taxes: What are the fundamental differences?
- Returns from savings and deemed returns from investment are exempt from tax if consumption defines the tax base
- But: still subject to tax like other forms of income under an income tax
Example:
- With income tax, we have 40k income and pay tax (25%) = 10k, save 30k,
- With consumption tax we save 40k since we pay 0, and consume everything in year 2, then we have additional savings of 10K 0.1(1-t) = 750 - because we don´t pay taxes in year 1, we have additional savings of the 10k otherwise paid as taxes
What are the reasons for thee strong ooposition against consumption tax?
Example:
- With income tax, we have 40k income and pay tax (25%) = 10k, save 30k,
- With consumption tax we save 40k since we pay 0, and consume everything in year 2, then we have additional savings of 10K 0.1(1-t) = 750 - because we don´t pay taxes in year 1, we have additional savings of the 10k otherwise paid as taxes
- tax exemption of interest income might explain the reasons for– The strong opposition against the consumption tax, and
- The achieved income – as a general rule – as basis of income taxatio
What is the issue with a pure income tax?
A pure income tax should not grant any allowance for:
- savings, i.e. reduction of the tax base, and or
- income from savings, i.e. reduction of the tax rate
–> this would results in a hybrid system of income taxation, which exists in many countries
What is global income?
- is there a Definition of income?
- Whst is global income?
Fairness (equity and ability to pay)
- Only abstract definition of income
- Income as construction in terms of each individual’s economic power, i.e. the control over resources or rights to consume those resources
Global income tax
- Determination of all sources of income according to the same rules
- Single tax base: aggregation of all income regardless of its source
- Single tax schedule: applied to the single tax base
- Compensation of profits and losses from different sources of incom
What are the concepts of global income tax?
- Comprehensive (Accural 1 unrealised capital gains, Accrual 2 realised capital gains)
- Standard income: Non-taxation of capital gains
What is the concept of Acccrual 1 method?
= taxation of unrealised capital gains
money value of net accretion of the economic power between two points in time, including unrealised increases/decreases in the value of assets
What is the concepts of Accrual 2 Method?
= taxation of only realised capital gains
equivalent to accrual 1, but including only realised
increases/decreases in the value of assets
When does Accrual 1 and Accrual 2 result in the same tax burden?
= result in the same tax burden, if assets are sold in the same taxable year
Reasons against accrual 1?
- Liquidity constraints
- Ascertaining the value of hardly observable market values (i.e., business assets)
What are the disadvantages of accrual 2?
- Lock-in-effect, assets tend to be hold longer
- Incentives to postpone the realisation of capital gains
When does the concepts of accrual 2 and standard income result in the same tax burden?
- Result in the same tax burden, if no assets are sold
- Taxation of standard income results in a lower tax burden, if assets are sold
- Standard income might violate the principle of fairness
What is a Schedular income tax?
= income of different sources is separated either with regard to the tax base or the tax rate, e.g., income from
- Employment/labour
- Capital (interest, dividends, rental income, business income, capital gains)
How is the tax base determined under schedular incomet tax - what are the two forms?
Determination of income of different sources follows different rules:
- Accrual method, i.e., only realised capital gains such as business profits
- Cash method, i.e., standard income such as employment income
What is the tax rate like in a schedular income tax?
- No single tax schedule is applied to a single tax base and/or all sources of income
Schedular income tax How does the tax assessment work?
- Filing of tax returns, e.g., business profits
- Final withholding taxes, e.g., interest income from private deposits
What are the reasons for the distinction between different categories of incoem?
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Administrative issues:
1. Difficult classification of different categories,
2. Income-specific reliefs difficult to implement - Surcharges on income tax levied only on certain categories of income
- Local taxes levied only on certain categories of income, e.g., Germany´s trade tax only on business income
- Social security contributions, in general only levied on employment income
–>Typically, capital gains receive a more favorable tax treatment
