Capital 3 Flashcards
What are the 3 pillars of pension system?
- Public pension: Within social security system, payments by employer
- Occupational pension: Usually provided by employer, payments by employer, and or employee
- Private pension: Paid soley by taxpayer on a voluntary basic
What is the intertemporal taxation of pensions?
A: Contributions by employer and or employee:
- T: paid out of taxed income
- E: Deductible from the tax base
B: Fund´s investment return
- T: Pensions fund is taxable with return on investment
- E: pensions fund is exempt from taxation
C: Withdrawal of pension benefits:
- T: pension payment is fully or partly subject to tax
- E: pension payment is excempt from taxation
Taxation of pensions: Example:
EEE, TTT, TTE, TEE
EEE:
- Contribution: 100
- ROI: 100*1,05^10 - 100 = 62.9
- Pension payment: 100+62.9= 162.9
PV: 100
TTT:
- Contribution: 100x(1-0.25) = 0.75
- ROI: 75x(1+0.05x(1-0.25))^10 - 75 = 33.4
- Pension payment: (75+33.4)x(1-0.25)= 81.3
PV: 56.3
TTE:
- Contribution: 100x(1-0.25) = 0.75
- ROI: 75x(1+0.05x(1-0.25))^10 - 75 = 33.4
- Pension payment: (75+33.4)= 108.4
PV: 75
TEE:
- Contribution: 100(1-0.25) = 75
- ROI: 751.05^10 - 75 = 47.2
- Pension payment: 75+47.2= 122.2
PV: 84.5
What is the general formula of net present value?
PV: C * (1-ta) * (1+r*(1-tb))^T * (1-tc) * 1/(1+r*(1-td))^T
C = Contribution
r = interest rate
T = the investment period
ta = tax on contriibution
tb = tax on yielded interest
tc = tax on withdrawal
td = tax rate on general capital income
What is director´s renumeration?
- Payments to members of a managing board of directors: usually taxed as employment income
- Payments to members of a supervisory board: either taxed as employment income, as business income or as income from professional services –>not subject to SSC
What are the 3 kinds of investment icnome?
- Income from fixed assets (movable or immovable property, rental income)
- Income from licences (Licence fees on patents, royalties)
- Income from capital market: Interest income, Dividends
What are the two alternative of determination of rental income?
Alternative I:
- received rental income - related actual costs,
- often incl. capital allowances or lump-sum deductions
Alternative II:
- Deemed rental income based on e.g. cadastral tables, determined by tax authorities, deductions are not allowed
- Examples: Belgium, Netherlands
–>Income is either subject to progressive tax rates or flat rates
What are the main characteristics how are royalties taxed?
- Income type
- Tax rate
- Usually, the qualify as investment income or rental income if not part of a business,
- and are subject to either progressive or flat tax rates
-
Different taxation often related to the kind of royalties; know-how derived from the
inventor: business income, copyrights: investment income
What are thre 3 forms of dividend taxation?
- Classical system: no elimination of double taxation, net dividends fully taxable as investment income#
- Shareholder relief: dividends are only partly subject to tax, e.g. at 50% or are taxable at reduced rates
- Imputation system: corporate tax due is creditable against the tax on gross dividend (dividend payment plus corporate tax due on the underlying profit)
–>Exemption dividends are exempt from PIT
What are the 3 tax systems including capital gains in taxable income?
- Comprehensive IT (accrual method): capital gains part of the taxable income and included in the ordinary income
- Comprehensive IT (only standard income): capital gains not taxable
- Comprehensive IT (accrual method/standard income with seperate capital gains tax): capiital gains taxed seperately from ordinary income
Why are capital gains often treated preferentially?
- Progression
- Inflation
Why is progression a reasons for the preferential treatent of capital gains?
Progression = means that tax rates increase with income levels
- When capital gains are taxed upon realization, the entire gain is added to income in the year of sale, possibly pushing the taxpayer into a higher tax bracket
- And therefore likely to be higher than if capital gains would have been taxed on a constant basis
Why is inflation a reasons for the preferential treatent of capital gains?
- Typically a portion of capital gains can be traced back to price increases in the past, i.e. incurred during holding/possession period
- this inherent part of a capital gain does not increase the taxpayer’s ability to pay since he cannot maintain his original capital stock
Why is a distinction between capital gains and ordinary business income necessary and in which methods is it necessary?
- necessary in both a comprehensive IT (accrual method) and a separate capital gains tax
- preferential tax treatment is only granted to capital gains!
What is the criteria to distinguish capital gains from ordinary business income?
- Number of similar transactions: the greater the number of similar transactions in the past, higher liklihood for ordinary business income
- Nature of asset: when there is a intention to resell at a profit
- Period of ownership: The shorter ownership, the more likley i the gain regarded as business income
- related activity: presumption that transaction is connected with taxpayer ordinary business
- Degree of organization: activities organized and carried on in the manner of a trade ->ordinary business income
- Circumstances that caused the disposition:
Preferential treatment of capital gains: what methods exist incorporate a preferential treatment?
- connecting factors for tax base and rate?
Tax base:
- exemption (total/partial)
- Allowances
- Indexation
- Roll-over-relief
Tax rate:
- Reduction
- Deferment of taxation
Preferential treatment capital gains:
What is meant with exemption, allowances? Country examples
conncenting to the tax base?
- Excemption: In Cyprus, capital gains exempts fromt taxation, außer immmovable prooperty
- Allowances: Germany grants taxpayers a maximum allowance of 45.000 for capital gains realised upon the sale or termination of their business ->tax reduction: allowances * tax rate
Preferential treatment capital gains:
What is meant with Indexation?
conncenting to the tax base?
Indexation: Portugal, acquisition cost of i..e fixed business assets are adjusted acc to the appliciable indexation relief after >24 months
- Indexation relief coefficients lists different coefficients from 1.73 to 1.00
Preferential treatment capital gains:
What is meant with , Rollover relief?
conncenting to the tax base?
= Rollover relief applies when the capital gain from the disposal of an asset is not immediately taxed
- the gain is deducted from the acquistion of the new replacement asset
- taxation is deferred until the replacement asset is disposed of
Deferment of taxation of capital gains until
- Disposal acquired assets (if non depreciable)
- Depreciation of acquired assets (if depreciable) -> 100k; depreciation 10.000 über 10, aber with gain 50k —> 50000/10 = only 5.000 depreciation which results in higher taxable income
Preferential treatment capital gains:
What is meant with reduced tax rate, deferment of taxation?
connected to the tax rate:
reduced tax rate:
- reduced tax rates i.e. when assets hold for a longer period
Deferment of taxation:
- In france, short-term gains, i.e. assets held for less than two years, are taxed as ordinary business income ->optionally capital gains can be spread over three years
What are other privately held assets?
= comprise in particular land and buildings and share in corporations: Land and buildings:
- Capital gains from the disposal of these assets computed and taxed similar to capital gains from business assets
What are the execptions in the taxation of other privately held assets in particular land and buildings ?
- Capital gains from the disposal of residential buildings tax-exempt in most countries
- Many countries also exempt long-term capital gains from immovable property, i.e. land and buildings held for more than, e.g. five years in Italy and ten years in Germany
-
Reason: to tax only capital gains derived from speculative transactions, i.e. short
term - Otherwise the concept of standard income prevails
- These capital gains are typically part of other/miscellaneous income
What is the taxation rationale regarding shares in corporations?
- Should be subject to tax (principle of fairness)
- Should be granted preferential treatment like other capital gains (progression of PIT and inflation)
What is the issue with taxing capital gains from the disposal of shares?
- Double taxation of corporate profits (CIT + PIT)
- But: corporate profits (CIT) are also subject to PIT when distributed as dividends
- Dividends and capital gains from disposing shares are identical types of income from an economic point of view
- Neutral taxation of corporate finance demands for an equal taxation of dividends and capital gains from disposing shares
What is the result of the preferential tax treatment of capital gains from shares and dividends?
- Incentive to sell shares instead of distributing profits when capital gains receive a preferential tax treatment (and vice versa)
-
Incentive to retain profits when dividends and capital gains are subject to
PIT (lock-in-effect)
Summary
- Sell Shares: Investors are motivated to sell shares rather than take dividends if capital gains have lower tax rates.
- Retain Shares: Investors may delay selling shares (lock-in effect) when capital gains are subject to tax only upon realization.
What is the shareholdings distinguishen regarind the disposal of capital gains from shares?
1.Substantial shareholdings:
- Relief is either granted by reducing the tax rate or the tax base
- Example: 1% or more of share capital in Germany
2.Non-substantial shareholdings:
- Short-term capital gains taxed like capital gains from substantial shareholdings in most countries (speculative transactions)
- Long-term capital gains tax exempt in many countries which obviously follow the concept of standard income
