Capital 5: Special Concepts of income taxation Flashcards
What are the most important special concepts of income taxation?
- “Dual Income Tax (DIT)” in the Nordic Countries which distinguishes between capital income and earned income
- “Box System” in the Netherlands which distinguishes between ordinary income, income from substantial shareholding and income from private savings
- “Notional Interest Deduction” in Belgium which seeks to eliminate the discrimination of equity against debt financing
Explain the dual income tax? (mostly in nordic countries)
= differentiates between capital income (e.g., dividends, interest, corporate profits) and earned income (e.g., wages and salaries) and taxes them differently
- capital income taxed at a flat rate, which is significantly lower than the progressive rates applied to earned income
- earned income taxed at progressive rates, meaning higher income levels face higher tax rates
What are the overall reason for the different taxation of capital income and earned income? (Dual income tax)
- seeks to strengthen the international competitiveness in these countries,
- and secures overall neutrality towards investment and financing decisions
What is the swedish Dual income tax system?
1.Capital income: include proceeds from capital, gains of assets, and other income yielded by assets (e.g. interest, rental, dividend, etc.)
- Capital income flat rate 30%, corporate profits: 20.6%
2.Earned income: any income other than capital income
- Employment income: e.g. salaries, wages, and pensions
- Business income: profits of business (income from a partnership or a sole proprietor) which are not capital income#
–>progressive tax rates at 55.30%
In the swedish dual income tax system, what is important regarding the profit from businesses?
–> Profits from the business have to be divided into capital income and business income
What is Swedens reassons for seperating the two categories in the dual income tax? (capital income perspective)
= Since all capital income taxed at a uniform flat rate, there are no incentives to shift income between
- Different categories of capital income
- Different taxpayer
How does the Notional Interest Deduction in Belgium work?
- Companies may deduct a notional interest on the equity capital from the taxable base
- this notional interest rate is linked to the interest rate on long-term government bonds
Why does Belgium has a Notional Interest Deduction (NID)?
- Traditionally, debt financing is tax-advantaged because interest payments are deductible,
- while equity financing is not (dividends are paid from post-tax income)
- The NID aims to elimate this bias by providing a deduction for equity similar to interst on debt
What is the impact of the notional interest deduction on the tax burden?
- High incremental equity capital leads to high reductions of tax base irrespective of the actually yielded return on investment
- The impact of deducting a notional interest decreases with increasing profitability
Example: We have a return on investment of 1, 10, 20% of the incremental equity of 1.000 and a NID of 1%.
1%: Taxable income = 10(Profit) - 10 = 0 ->Average tax rate = 0%
10%: Taxable income = 100(Profit) - 10 = 90 ->Average tax rate = 22.50%
20%: Taxable income = 200(Profit) - 10 = 190 ->Average tax rate = 23.75%
–>With increasing profitability, the effective tax rate converges to the statutory tax rate
What does the box system in the Netherlands aims to do ? (Advantages)
= aims at taxing income effectively in oder to:
- Improve the state’s tax revenue
- Enhance the neutrality of the Dutch tax system
- Facilitate the collection of taxes (no assessment necessary)
- Overcome lock-in-effects in corporations due to avoiding dividends or sell of shares
Can you explain the 3 boxes in the Box system in the netherlands?
Box I: Employment Income (Income from businesses, work and home ownership)
- Progressive tax rate from 9.32% to 49.5%
Box II: Income from substantial business shareholdings
- 24.5% on the first EUR 67,000; and 33% on the excess
Box III: Income from savings and investments
- Flat tax rate of 36%
Box system: When does an income qualify as Box II income?
- Income derived from a substantial interest, i.e., shareholdings of at least 5% in a private or public limited company
Box system: what happens when an income qualifies as Box III income ?
- Assumed yield between 1.8% to 5.33% of the actual value of net assets (assets minus liabilities) held during the year
- Included are shares, saving deposits, property, etc.
Box system: Which kinds of income are included under the Box III?
- Included are shares, saving deposits, property, etc.
- Note: actual income received (e.g. interest, dividends, capital gains) and expenditures are irrelevant
Box system:
What are the two alternative a shareholder of a Dutch B.V can be taxed?
Can either be taxed according to Box II or Box III
- Box II: For qualified participation (substantial interest), dividends are taxed at 24.5% or 33% due to shareholder relief system (lower than the general rate of 49.5%)
- Box III: For non-qualified participation, an assumed yield of 1.8% to 5.33% of net asset value is taxed at a flat rate of 30%, depending on asset value.
