Flat tax » Tax Research UK

It is possible to have a flat tax, or to have democracy, but not both

Oct 252011

I seem to have reignited some debate on flat taxes this morning, so let me mention this old theme of mine in a little more detail.

Back in 2006 the ACCA published a report they commissioned from me entitled “A flat tax for the UK? The implications of simplification”. The report was paid for by ACCA research funds and as such had to meet strict, objective academic research standards, including (as is essential for a professional institute) a neutral approach. But I am not subject to those constraints here, and I can therefore be more straightforward about what the evidence I uncovered when writing that report revealed.

There are no flat tax states

The first conclusion I reached was that there are no “flat tax states”. Those countries that claim this title in Eastern Europe have tax systems that are nothing like the flat tax model as laid out by Alvin Rabushka and Steve Forbes in the USA, who are the main political promoters of this idea. At best they have single rate income tax, capital gains tax and corporation tax systems with all the resulting complexity that flow from retention of such structures. In fact, Russia, Lithuania and Serbia even manage multiple rates of income tax, which somewhat negates the claim to have flat tax systems.

So-called flat tax states have complex tax systems

Secondly, the tax systems that these states operate are not simple. They all retain complex rules for calculating income, the treatment of capital allowances and the consideration of capital gains. They also have a wide variety of allowances and reliefs available for ordinary citizens to claim against their personal income including, in most cases, relief for pensions, mortgage interest, education costs, home to work travel, union and other dues, charitable contributions and so on, and on (in some cases).

Flat taxes increase admin burdens

Next, these systems do not appear to reduce the administrative burden on the tax payer, as is claimed. In Estonia 84% of adults submit a tax return each year; in the UK it’s 16%. And in the same country details of benefits in kind supplied by an employer to their employees have to be made monthly, which makes the annual P11D routine in the UK seem like a positive panacea in comparison.

Flat taxes do not deliver increased tax revenues or growth

These departures from the myth that is promoted around flat taxes might have been acceptable if the claims for their economic performance had been shown to have any support. Unfortunately that was not the case either. It is widely claimed that tax revenues increase when flat taxes are introduced. No evidence was found to support this claim. Income tax revenues fell in countries introducing flat taxes if other obvious factors (such as Russia’s oil boom, the creation of which can hardly be attributed to a tax change) are taken into account. Indeed, if tax revenues did increase it was almost entirely of VAT and NIC, as was he case for example in Slovakia and Romania, where income tax revenues fell.

Nor can this increase in indirect tax be attributed to economic growth resulting from the adoption of a flat tax. Indeed, the Estonian Ministry of Finance specifically warned against making an assumption that this was possible. Their spokesman when interviewed for the report said of flat tax “it’s a tax; it’s not a medicine for the economy.”

And the IMF and Institute for Fiscal Studies did not find the rich in Russia were more tax compliant after the introduction of a flat tax, as its proponents claim they should have been. But curiously though those on low pay who actually saw flat taxes increase their tax burden in that country were more tax compliant, counter intuitively to the claims of those who propose such taxes.

Flat taxes undermine democracy to benefit the rich

Finally, although the UK’s leading exponent of flat taxes, Richard Teather of Bournemouth University claimed that his proposals for a flat for the UK would not help the rich in the UK and would only benefit the less off, my work showed that the data he used when coupled with HMRC data could not support that view. In fact, those earning less than £22,000 might save an average of about £200 a year (before NIC changes, which are likely to increase their bills based on the precedent of other flat tax states), those between about £22,000 and £74,000 would see their tax bills rise by up to £2,000 whilst those earning over £74,000 might see their tax bills reduce by over £7,000 an average. This is a clear indication that this system will favour the rich, as all other surveys in the UK and the range of data I reviewed for other countries also showed to be true.

So, the evidence failed to support any of the claims made by the flat tax lobby. In which case I concluded that those promoting flat taxes wished to promote these four things:

1. Reduced taxes for the rich
2. Increased taxes for working people
3. Reduced tax on companies
4. Reducing the role of government.

As some indication of this two quotes from Alvin Rabushka, the man who invented flat tax are illuminating. Both come from the interview with me for this research, which he consented to be published. About the redistributional effects he said:

The only thing that really matters in your country is those 5% of the people who create the jobs that the other 95% do. The truth of the matter is a poor person never gave anyone a job, and a poor person never created a company and a poor person never built a business and an ordinary working class guy never drove economic growth and expansion and it’s the top 5% to 10% who generate the growth for the other 90% who pay the taxes to support the 40% in government. So if you don’t feed them [i.e. the 5%] and nurture them and care for them at the end of the day over the long run you’ve got all these other people who have no aspiration for anything more than, you know, having a house and a car and going to the pub. It seems to me that’s not the way you want to run a country in the long run so I think that if the price is some readjustment and maybe some people in the middle in the short run pay a little more those people are going to find their children and their grandchildren will be much better off in the long run. The distributional issue is the one everyone worries about but I think it becomes the tail that wags the whole tax reform and economic dog. If all you’re going to do is worry about overnight winners and losers in a static view of life you’re going to consign yourself to a slow stagnation.

I think that pretty much supports my first two claims, and since the third is part of the same metric, it’s covered by the same evidence.

As for the role of government he said:

I think we should go back to first principles and causes and ask what government should be doing and the answer is “not a whole lot”. It certainly does way too much and we could certainly get rid of a lot of it. We shouldn’t give people free money. You know, we should get rid of welfare programmes, we need to have purely private pensions and get rid of state sponsored pensions. We need private schools and private hospitals and private roads and private mail delivery and private transportation and private everything else. You know government shouldn’t be doing any of that stuff. And if it didn’t do any of that stuff it wouldn’t need all of that tax money so that’s the fundamental position and as long as you’re going to have government do all that stuff you’re going to have all those high taxes.

As he also made clear, that then let’s you have a flat tax. In other words: privatisation is pre-condition of flat tax. Public service and flat taxes are incompatible in his opinion. But in that case what I wrote for the Guardian last year is true:

Flat tax is not a serious attempt at taxation, but is instead an exercise in social engineering. That is why its innocent appeal is so dangerous.

That ‘social engineering’ process is designed, as Rabushka himself say, to ‘take the tax code out of the economy’. In other words, it leaves people wholly dependent upon market forces. The consequence happens to be that politics is neutered on the way because as anyone who follows general elections knows, at the end of the day politics is about the economy. Rabushka and the right wing want to stop that. And if you don’t believe me, John Meadowcroft who writes for the Institute of Economic Affairs, a think tank Margaret Thatcher still supports, said recently when asked if he thought democracy a ‘market institution’ (when undertaking an interview on www.transformingbusiness.net) that :

Democracies and free societies tend to go hand in hand. Having said that, democracy tends to lead to socialist policies, such as protectionism. If democracy leads to property rights and the rule of law, then yes, you need democracy. But otherwise, democracy is not a prerequisite for a market economy. Democracies tend to create very large states. In most European countries, including the UK, nearly half of GDP goes to the state. This is not good for the creation of free markets.

It seems fair to conclude that some in the mainstream the right wing now think democracy can be sacrificed to the market, and I believe that promoting flat taxes is part of that process. Which leads to the conclusion that two writers (Hettich and Winer) have put forward that:

It is possible to have a flat tax, or to have democracy, but not both

I agree.

Cameron’s opponents aren’t just anti-EU, most are also pro-flat tax – and that’s all about making the rich richer

Conservatives, Europe, Flat tax, Tax justice, Uncategorized 19 Responses »

Oct 252011

Cameron faced his backbenchers yesterday on the EU, and lost.

But the EU was not the whole reason for this. Polly Toynbee had what was, without doubt, the best line on this issue:

But the “in or out” debate was never just a dry calculation of national interest. The two sides stand for profoundly different visions of the good society. A few Labour mavericks straddle the divide, but most anti-Europeans are from the far right for good reason. To them EU red tape, health and safety, human rights and labour regulations throttle British business.

Their vision is of a Britain thriving by undercutting basic protection of the workforce – working hours, maternity rights, holidays, sickness, security at work, equal treatment of agency workers. Read the sceptics’ outpourings to see their vision of our island as a low-tax, maybe flat-tax haven for the super-rich, free to treat employees as “flexibly” as they like. This is a fine distraction from the real cause of our worsening economic crisis – this government’s extreme austerity choking demand.

She’s right. Those voting against Cameron weren’t just anti-EU. They’re anti society as we know it in the UK and want to throw it all over in favour of radical transformation that will hasten the flow of funds from the poor to the rich; something flat taxes are designed to do.

If in doubt look to their inspiration across the pond: Rick Perry is proposing a flat tax. There is only one explanation – and that is that these taxes push governments to the very margins of existence – which is exactly what their proponents want. If in doubt look at the detailed analysis of the proposal by my friends Citizens for Tax Justice in the USA. They say Perry’s plan would give:

- Enormous tax cuts for the richest five percent of taxpayers and of $209,562 for the richest one percent in 2010.

- Tax hikes for all other income groups. The bottom 95 percent of taxpayers would pay an average of $2,887 more in federal taxes in 2010.

That’s what the Tories oppising Cameron really want.

There’s going to be a role for those in favour of tax justice for a long time to come.

The economics of the playground – the message from senior tax inspectors to HM Treasury

Flat tax, HMRC, Tax evasion, Tax gap 2 Responses »

Mar 162011

I was at a meeting in Westminster this morning organised by the Association of Revenue & Customs – the union representing the senior staff of H M Revenue & Customs, which is affiliated to the Tax Justice Network.

Accountancy Age has reported the comments made by Graham Black, its president who said:

THE TREASURY IS participating in the “economics of the playground” by cutting the budget of HM Revenue & Customs, the head of the tax inspector’s trade body has said.

Graham Black, who is the president of the Association of Revenue and Customs, said that there was no rational basis for the Treasury to cut HMRC’s budget, which it was only doing to send a message to other government departments. He said that cuts disproportionately affect HMRC’s core compliance work, which generates revenue – the only government department to do so.

All present agreed with him, bar the Tory MP, Mark Garnier. He displayed the quite alarmingly extremist position of so many Tory MPs, advocating a Hong Kong style 15% flat tax system and suggesting that tax evasion was a natural, and seemingly justified reaction bypeople to high taxes on items such as cigarettes.

This man is not from the playground: he clearly advocates the destruction of society as we know it and the break down of law and order to achieve it. Unsurprisingly his comments were condemned by others present.

Not me though: I took the chance to refer to my new report 500,000 missing people: £16 billion of lost tax. The reaction to the simple explanation of the data in theta report was one of shock by some present: i suspect that this report will have a long shelf life as the reality of the maladministration behind it sinks in.

But I’d stress – that maladministration is not the fault of HMRC staff or Companies House staff: it is the failure to deliver them with the resources they need to do their job properly. The economics of the playground is behind this and the Treasury is to blame, as Graham Black said.

When will they listen? As Graham also said – work on the tax gap by the likes of ARC shows HMRC could deliver billions extra to the Treasury but they refuse to take the opportunity. It’s as if they know the numbers that will win next week’s lottery and refuse to buy a ticket, he said.

But it’s worse than that.

It’s the Tories deliberately supporting tax evaders.

And deliberately supporting tax avoiders.

And deliberately undermining markets.

Now why would they do that?

The Impact of the Flat Tax Reform on Inequality

Conservatives, Flat tax 1 Response »

Mar 252010

There’s a great paper under the above title in the Romanian Journal of Economic Forecasting by Liviu Voinea and Flaviu Mihaescu.

As they report:

In this paper we focused on the flat tax impact on inequality in Romania. We compared 2005 against 2004, when we were able to isolate the flat tax impact from other factors. We found that the higher the gross wage is, the higher the flat tax gains are. The inequality indicators we calculated (the Gini index, the relative mean deviation, the coeficient of variation, the standard deviation of logarithms, the Mehran index and the Piesch index) show an increase in inequality determined by the flat tax.

The Lorenz curve is illustrative, as only the last quintile of the population (richest 20%) appears as the clear winner of the flat tax. The results also indicate that the higher the income level, the higher the income elasticity of consumption.

We conclude that the flat tax led to increased income inequality and it stimulated households consumption particularly among the wealthiest households.

This was the outcome I forecast in my own paper on flat taxes, which these authors reference.

It’s not a surprising finding – but it’s good to have it confirmed that flat taxes are unambiguously regressive.

It’s worth noting George Osborne has been a big fan of them.

Laffer on the blackboard

Economics, Flat tax 4 Responses »

Jan 152008

The IMF has published a paper on the Laffer curve that concludes:

The paper shows how tax rate cuts can increase revenues by improving tax compliance. The intuition is that tax evasion has externalities: tax evaders protect each other, because they tie down limited enforcement capacity. Thus, relatively small tax rate cuts, which decrease incentives to evade taxes, can lead to increased revenues through spillovers – creating Laffer effects.

The supply siders will be over the moon with joy. There’s just one problem. The assumptions that make this work are:

We investigate an economy populated by a unit volume of taxpayers. There is a single tax authority with limited resources, which audits taxpayers. The model is set up in three steps. First, we describe how tax enforcement works. Second, we introduce the maximization problem of the taxpayer, in particular the decisions on compliance and labor supply. Third, we introduce taxpayer heterogeneity and solve the model.

In other words, this is a blackboard based model. Well, we all already know that Laffer works on a napkin. Adding a formula or forty makes no difference: there is no evidence for it in reality.

This economics is a bit like Nintendo’s Wii. Right around the world now there are millions of people believing they can play championship tennis or beat Tiger Woods at golf. That’s because the assumptions have been changed in the virtual reality model of their world to achieve the illusion they desire. So too with mathematical modelling that creates the assumptions that deliver the result you first thought of. In reality these people can hardly play tennis or golf. And they’re not doing either: they’re playing make believe. This economics is also playing make believe.

So don’t get too excited guys: we won’t be buying the argument. It’s wrong, as almost all evidence based research shows.

Flat taxes do not stack

Flat tax Comments Off

Dec 132007

I was quite pleased to find one of my old articles on flat tax reappear on the web of late. It originally appeared on Society Guardian and never made it onto the Guardian web site. But it was very well read in some very useful places, so I thought it worth giving it a new link.

And I haven’t changed my mind about the conclusion:

Flat tax should, therefore, be seen for what it really is: a mechanism to increase wealth disparities in society.

New York CPAs propose flat tax

Ethics, Flat tax, Tax management 1 Response »

Dec 042007

Financial Week has a headline that says:

A tax reform plan not only accountants would love

It refers to a proposal by the New York State Society of Certified Public Accountants (the US equivalent of Chartered Accountants) for what they call a simple exact transparent tax (SET).

Now let’s be blunt, the SET is a flat tax. As Financial Week says:

like other flat tax proposals, would tax all income at a single rate-no income brackets, no phase-out of deductions and no surtaxes.

And as Bob McIntyre of Citizens for Tax Justice said:

A flat tax, regardless of what tax code rationalizations might accompany it, favors the wealthy. With a flat tax, people currently taxed at the top rate win

And as in Bulgaria, the poorest lose.

Financial Week says its surprised that CPAs are calling for this:

The U.S. tax code is overly complicated and hard to comply with, but certified public accountants are perhaps the last people you’d expect to develop a fix for it.

I’m not. Too many in accountancy see their role to be increasing the wealth of the wealthiest in our society. After all, that is what wealth management is. And this is a marketing exercise that panders to that market. They know it won’t work. They know it won’t happen. But they’re politically cynical enough to pander to their clients and ignore the ethics of their duty to society as a whole.

Which is why accountants cannot be trusted to act in the public interest.

Bulgarian – poorest will suffer from the Flat Tax

Ethics, Flat tax 1 Response »

Dec 042007

The Sofia Echo reports that:

Salaries of nearly 1.2 million people would decrease after the introduction of flat rate tax in Bulgaria, according to the Confederation of Independent Trade Unions in Bulgaria.

Labour and Social Policy Minister Emilia Maslarova agreed that there was a real possibility for employees in some industries, such as textile, agriculture and food in the private sector, to see their salaries decrease.

These are in Bulgaria, as just about everywhere, the poorest paid in society. Which is yet more evidence, if evidence were needed that flat taxes are not equitable.

But let me be clear: Bulgaria needs tax reform to tackle its endemic corruption. It could have it. But combining that reform with just one tax rate is the mistake. There is no need for that.

Tax simplification and progressive taxation go together. Tax simplification and single rate flat taxes are a recipe for injustice and the reallocation of wealth to the richest in society.

Why not get rid of Capital Gains Tax?

Capital Gains Tax, Ethics, Flat tax, Tax Justice Network, Tax management Comments Off

Nov 162007

I was at the ICAEW’s Philip Hardman lecture last night. I admit, it’s a bash usually worth attending and this year was no exception.

The lecture was Mike Truman, editor of Taxation magazine and at least once or twice commentator on this blog or issues it raises.

Mike’s theme was simple. It was “can a fair tax system ever be simple”. To his credit Mike never once mentioned flat taxes. Better still, he addressed his subject with a considerable social conscience on display, and on several occasions it would have been hard to spot the difference between what he said and the content of the Tax Justice Network Code of Conduct on Taxation.

Take this as an example. Mike argued that tax requires horizontal and vertical equity, That means people on the same income are taxed the same and people on higher incomes are taxed proportionately more than those on lower income, Quite right too.

Then he argued in favour of the latest Capital Gains Tax reforms by Chancellor Alastair Darling because a) they abolished the distinction between business and other assets and b) gave no tax incentives hold assets for the long time when economic rationality should indicate they should be sold.

I buy that argument but I attach a condition, which I sought to present to Mike as a question, which time did not allow. If you want horizontal and vertical equity and you don’t want to differentiate the tax treatment of disposals dependent on time held or type of asset isn’t there a massive tax simplification that is readily available, which is to charge all capital gains to income tax?

I put the point to Mike afterwards, and he agreed with my point. Indeed, he said the suggestion had been in his draft. But he’d thought it might cause too much indigestion over the dinner that followed.

Have courage Mike, say I. Indigestion is temporary. Tax justice is for keeps!