Post No.: 0507
Taxation does garner a lot of negative connotations, tax systems are typically complex, it can appear like we have an adversarial relationship with our governments, and we and the media tend to focus on those who seem to get to pay less than ourselves. From a cursory understanding of economics, of course it appears totally wrong for the government to tax our hard graft – but there are a multitude of good reasons to tax businesses and citizens.
Take every tax, rate and whom/what it applies to on a case-by-case basis but tax itself, as a thing wherever civilisations have existed, is evidently an incredibly fit meme in cultural selection terms; hence Benjamin Franklin expressed the idiom, “…in this world nothing can be said to be certain, except death and taxes.”
Some good reasons for taxation are that those countries that tax moderately and spend this public money in the right way compete better against countries that tax too little, because they can afford stronger armed forces to deter or repel any attacks on their territories, they can afford better education levels and healthcare for their citizens to maximise the productivity of their real economies, and they can somewhat redistribute the wealth to reduce inequality and therefore create more democratic countries that aren’t merely ruled by a small but rich and powerful elite group.
It’s important not to interfere with market forces too much or unnecessarily, and we must be sensitive to the present economic conditions too (e.g. if there’s a recession that might risk a depression then lowering some taxes might help stimulate more consumer spending; albeit if the local currency is relatively strong then people might just buy more imports rather than stimulate the local economy). But taxes can be used to reduce pernicious behaviours if there’s at least some price elasticity of demand regarding the products concerned (e.g. cigarettes), or to somewhat compensate for negative externalities or correct for the tragedy of the commons as free market failures themselves.
Everyone should first learn about what taxes pay for, such as for protecting or providing public goods that cannot be efficiently or fairly substituted privately. Taxes are for the common good – it’s like charity, except you benefit from it too. The true spirit of taxes is pooling resources to serve the greater good and to achieve scale efficiencies. It’s about a country that’s together – possibly in the face of competition with other countries. The happiest nations tend to be ones that are taxed well. The USA had very high taxation at one time, and it became a superpower during this time. It’s true that governments often waste through failed projects and (vastly) underestimate the full costs of some projects (as do corporations and individuals frequently do too), and we tend to focus on this waste due to our negativity bias – but we shouldn’t ignore the efficient economies of scale achieved through tax-funded, essentially ‘crowd-funded’, endeavours too. Many important innovations came from publicly-funded research that didn’t have any immediate commercial profitability (e.g. the World Wide Web).
I guess it just depends on how much we care about ourselves as individuals or about our own countries as a whole? Governments, taxes and regulations have their benefits in civilisations – the only problem is if governments go too far; but that’s true with individuals, corporations and other non-state actors too.
Many people who took for granted lots of the things that taxes pay for or will pay for understood the critical importance of cooperation once COVID-19 hit their countries. Many people otherwise tend to forget the good pro-social benefits that result from what taxes help pay for. We can be so unaware of all the tax-funded benefits we receive in our lifetimes, such as our primary and also likely secondary education. So getting people to not think of taxes as something that ‘takes away’ or is ‘taxing’ but as something that creates the vital things around us in our streets, healthcare, defence and economy might help. Applying social norm pressures is however far more effective to get people to pay on time. Or part of the solution could be to get people more involved in where tax money goes to on a local and national level? (An experiment showed that if people could directly vote for where 5% of their taxes went to then they’d feel much happier about paying their taxes.)
Geographically small states, principalities, emirates, crown dependencies or similar can get away with having low taxes, but large countries cannot. Read Post No.: 0426 to understand some key reasons why. At present, even in Switzerland, tax revenue is nearly 30% of GDP, which is less than many other ‘developed’ countries but still a substantial percentage. Monaco too isn’t a totally tax-free place and has VAT and some corporation taxes. Hong Kong has a decent economy but we cannot ignore all those ‘far less developed’ places like Tanzania or Cambodia, which also have low tax revenues relative to their GDPs but enormous poverty, or all those ‘highly developed’ places like Sweden or Germany, which have higher relative taxation and strong economies. The huge variances in tax revenues and GDPs, and other metrics, show us that there’s far more to it than the taxes of a country though, hence we cannot just emulate the tax laws of another country and expect the same outcomes as them. The ‘Laffer Curve’ states that there’s an optimal level of taxation but it doesn’t show where this level is at all – well, according to the curve itself, any guess between 0 and 100% is feasible(!)
‘Tax evasion’ is illegal whereas ‘tax avoidance’ is technically legal but ventures into morally grey areas when it becomes aggressive. Both tax evasion and avoidance distorts competition, leads to a loss of public revenue, and undermines the compliance morale of other taxpayers.
International tax avoidance is an international problem where both corporations and countries are culpable. Multinational enterprises (MNEs) have an unfair tax advantage over other businesses (e.g. Amazon or Starbucks versus a local bookstore, local café or start up), thus they unfairly distort competition between firms. Between countries, a level playing field based on taxing the ‘substantial’ activities of businesses within a country (e.g. where the goods/services are actually being sold to at-arm’s-length customers) – not their mere ‘paperwork’ (e.g. transactions made within/between enterprises under common ownership or control) – is necessary to avoid the distortion of competition between different countries too.
The problem with legal tax avoidance techniques is arguably not so much that companies are using them to reduce their tax burdens – the problem is that the law needs these loopholes plugged up. But no country can unilaterally solve this problem so it’s down to international treaty bodies, such as the Organisation for Economic Co-operation and Development (OECD), to truly solve it. It’s complicated because different countries compete against each other yet need to cooperate to ensure that this is done in a fair manner. Woof.
‘Base erosion and profit shifting’ (BEPS) refers to company tax planning strategies that exploit the gaps and mismatches in tax rules between jurisdictions to artificially shift profits from a place where the ‘real’, ‘substantial’ or ‘significant’ economic activity occurs to a place where there are no/lower taxes. This means that countries aren’t receiving what they fairly deserve, which is a problem for ‘developing’ countries in particular, who rely on tax revenues to grow their real economies. In many tax havens where MNEs locate their headquarters or subsidiaries for tax purposes, billions of dollars ‘flow’ through these places via financial assets but the locals largely remain in poverty. They don’t even employ many people – a post office box doesn’t need any staff at all!
Leaving loopholes open yet asking or expecting people to behave morally is essentially asking or expecting people to self-punish themselves i.e. if someone acts morally and decides to pay their fair percentage of taxes, they’ll be punished by having less money than their less moral competitors. Money equates to power and cumulative advantages too. We economically encourage or discourage behaviours via incentives and disincentives, and when viewed in this way, it’s obvious why some people – who can afford and are in a position to – choose to free-ride and avoid paying their fair share of taxes. People’s internal moral compasses have a habit of rationalising away immoral acts hence it’s down to enforced laws to clarify matters and shape these incentives and disincentives by moving more tax reduction strategies into the ‘tax evasion’ category. Consumer pressure fails if consumers are still giving tax-avoiding businesses their business – sentiments without meaningful punishment means little.
Economic rents should be taxed because these aren’t gains made through proper hard graft. They wouldn’t arise if markets worked perfectly. Rent-seeking involves getting something that exceeds what is economically or socially necessary. Non-economically-productive wealth extraction, such as tax avoidance schemes, abusing monopoly powers, rigging Forex (foreign exchange) markets, lobbying to extract bigger subsidies from governments, free-riding off public services paid for by other companies and individuals who are paying their fair share of taxes (who fund the good health and education of the workforce, roads, policing, etc. that these businesses rely upon), is contrasted with wealth creation, such as actually producing stuff, adding value to something and selling or sharing it. So these tax-avoiding companies and individuals actively seek economic rents.
We’re trying to avoid outcomes that don’t represent economic reality i.e. taxes that aren’t being paid to where they are deserved, as in where the actual economic activities take place, in this case. If a country (its trained workforce, public infrastructure, public services, etc.) isn’t getting what it deserves based on where the arm’s-length transactions are occurring then, according to even classical economic theory, the global market won’t self-correct to its optimal state. The free-riding tax havens are getting far more than they deserve, at the expense of higher tax jurisdictions that collect enough taxes to be able to pay for and provide public services that serve and facilitate actual wealth creation.
Some freedoms impose upon or restrict the freedoms of others. Such aggressive corporate tax planning and state tax competition harms other corporations and states unfairly (and even most libertarians believe that governments and laws should keep out of the way unless people, firms or nations do harm to others). Not all competitive tactics are fair or good for the economy or society (e.g. imagine assassinating the competition – tax evasion and avoidance aren’t quite so drastic but they can be regarded as stealing from countries who pay for and provide public services that serve and facilitate actual wealth creation).
In the EU, the artificial shifting of taxable profits from one jurisdiction to another undermines the right of the member states to exercise their own tax jurisdictions in relation to activities actually carried out on their own territories. The EU is about a balancing act because it enables freedom of movement (the four freedoms – people, goods, services and capital) within the economic bloc yet needs to limit it in some ways in order to minimise harmful tax competition within it.
It can be complicated though because how much of the value or wealth creation and profits for a firm were due to, for instance, the obtaining of raw materials or parts, the design, the manufacturing, or the sales and marketing – where each operation can happen in different countries? The international community therefore needs to work out a, perhaps, standardised model for apportioning the profits to these areas in a consistent and fair manner.
…I have far more to elaborate on the subject of aggressive tax avoidance strategies. In the meantime, you can post your views by using the Twitter comment button below.
Woof. In a way, we should want to pay more taxes because it means we’re earning more! Unless earnings or profits are taxed at 100% – every extra unit of money we earn will mean more money in our own pockets.