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The OECD’s annual review of tax policy in the world (Tax Policy Reforms 2018) shows that between 2015 and 2016 (years with full comparative data) the share of taxes in GDP increased in 20 out of 36 OECD member states (however, not all of them completed and filed the questionnaire). This means that in these countries tax revenues grew faster than GDP.
In such a situation, the economic considerations provide an argument for countercyclical measures, i.e. using the period of prosperity to reduce the level of public debt. Especially since the budget costs of debt repayment will also increase in light of the increase in the global interest rates, which is expected within the next few years. Therefore, the situation of the future budgets may be more difficult.
In practice, however, such warnings are unlikely to work. Due to the growing tax revenues, the governments of many countries have found themselves in a fairly comfortable situation, where the public finances are improving without the need to cut expenditures or carry out painful and unpopular tax reforms. According to OECD’s review, instead of pursuing such reforms the governments are mainly using the additional revenues to improve the financial situation in selected areas of the economy, or to support selected social groups, depending on the electoral preferences.
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The governments are primarily focusing on personal income tax (PIT), not only because it is — along with the retirement pension and health care insurance — the main source of tax revenues, but also because it is the easiest to use this tax for the purpose of reducing income differences. The dominant trend is the progressive reduction of corporate income tax (CIT) rates in the world, as well as — like in Poland — the attempt to eliminate loopholes and increase compliance in the collection of value added tax (VAT).
However, the deeper we delve into the specifics of the introduced changes, the more difficult it becomes to indicate clear-cut trends. Among the eight countries that introduced significant changes in PIT in 2017 and 2018, four — among others Ireland and Finland — reduced the top rates, and four — South Africa, Israel, South Korea and Latvia — increased them (South Africa from 41 to 45 per cent, South Korea from 40 to 42 per cent above a certain level of income). In Norway, where the tax system distinguishes between ordinary and personal income and subjects them to different taxation, the reduction of the highest tax rate for the former group was combined with an increase in the taxation of the latter. In Sweden, non-residents will pay a higher rate of PIT. Meanwhile, in Canada the province of British Columbia introduced new, higher PIT rates, while at the same time the authorities of Quebec and Saskatchewan reduced the rates.
The most significant decrease in PIT rates was observed in the United States (from 39.6 per cent to 37 per cent), but this only applies to people earning over USD500,000 a year (and over USD600,000 in the case of marriages). The Netherlands announced a reduction of the highest Personal Income Tax rate from 52 to 49.5 per cent from 2019.
However, the tax change that is the most characteristic of the current trend of using tax policy also to achieve social objectives is Latvia’s 2018 departure from the previously applied flat rate income tax in favor of a progressive rate. So the PIT at the rate of 23 per cent was applied to all income. Currently, for income up to EUR20,000 per year the PIT rate is 20 per cent, for income from EUR20,000-55,000 the PIT remains at the previous level of 23 per cent, and for income above that threshold a rate of 31.4 per cent is applied.
There is no uniform trend when it comes to PIT tax rates and income thresholds in the currently dominating progressive systems. The number of rates is either increased or simplified depending on the current preferences of the voters and the government. In addition to changing rates, the OECD countries also frequently change the tax-free amounts, as well as the amounts of tax breaks and tax credits. But these are difficult to navigate without the knowledge of a tax advisor. For example, various forms of tax preferences for the least-earning employees were introduced in Norway, Slovenia, Turkey and Ireland.
Preferences for educated immigrants
A new emerging trend are tax preferences aimed at attracting more foreigners who are better educated and who are starting their own businesses, mainly in Europe. They are supposed to combat the deteriorating demographics and to stimulate innovation.
Favorable tax solutions directed towards educated immigrants are primarily applied by the Nordic countries. Sweden only taxes 25 per cent of the income earned by educated people who were not Swedish residents in the past 5 years. The similar situation is in Iceland with regard to foreign workers with professional skills that are rarely found in the country.
Growing taxation of capital
In contrast to the declining or otherwise privileged taxation of income from employment, in many countries there is an opposite trend when it comes to the taxation of income from capital: such taxes tend to increase. In Latvia, which has carried out more comprehensive changes in its tax system, in 2018, the tax on income from capital and a separate tax on capital gains were increased, from 10 and 15 per cent, respectively, to a uniform rate of 20 per cent. In Iceland, in an effort to equalize the taxation of labor and capital, the tax on income from capital was increased from 20 to 22 per cent.
Over the last two years, taxes on capital have also been raised by Belgium, the Netherlands, Luxembourg, Slovakia and South Korea, while the United Kingdom has reduced the amount of the tax-free allowance.
Decreasing significance of CIT
In recent years revenues of state budgets from CIT have mostly been growing, but this was mainly due to the improvement of the overall economic situation and the rising corporate profits. However, according to the OECD report, these revenues are still below the levels recorded in the pre-crisis years 2007-2008.
CIT rates are currently mainly being reduced, but we should keep in mind that the importance of this tax in the tax systems of the individual countries varies. In Poland, the significance of CIT is relatively limited (its share in the overall tax revenues is slightly above 5 per cent). The most significant CIT reduction took place in the United States, where at the federal level the CIT rate was reduced from 35 to 21 per cent. However, CIT rates are also being lowered by other countries, which either results from previously planned reforms or from the adoption of entirely new solutions.
However, as in the case of PIT, there is no uniform trend in the changes relating to CIT. There are countries in which this tax is being increased. Turkey raised the CIT rate from 20 to 22 per cent. As part of major changes in its tax system, Latvia has moved away from the previous CIT at the rate of 15 per cent towards the taxation of distributed corporate profits at the rate of 20 per cent. Earnings retained in enterprises are not taxed.
Increasing VAT compliance in the world
On an international scale, we can see greater convergence in the changes concerning VAT and other indirect taxes. The global financial crisis triggered a wave of VAT increases in the years 2008-2010, as this tax can be easily used in order to quickly and effectively close budget gaps. This path is still followed by countries that continue to suffer from a budget crisis or are on the verge of such a crisis.
The improving economic conditions and the increase in consumption in countries that had already successfully dealt with the crisis, have led to clear increases in VAT revenues, and the governments are not willing to quickly give up on these increased proceeds. Once taxes are raised, it is very difficult to reduce them. More frequently — similarly as in the case of income taxes –VAT rates, and more specifically the various deviations and derogations from the standard rate, become an area of interventions that are supposed to benefit selected social groups or interest groups. The European Commission (EC), which has thus far taken a fairly orthodox position in support of the coherence and uniformity of the VAT system, is now inclined to give the individual EU member states greater freedom in this area.
For example, when it comes to the increasingly individual application of VAT rates, Latvia has introduced a new reduced rate of 5 per cent for certain food products. In Hungary, where the standard VAT rate is the highest out of all OECD countries (25 per cent), a reduced rate (5 per cent) was introduced for the sale of milk and poultry, and in 2018 it was extended to the sale of pork and fish.
The VAT rate divergences are not limited to food, but also apply to other categories of products and services. In Hungary, the tax rate on restaurant services (which had already been reduced to 18 per cent in 2017) was decreased to only 5 per cent. In 2018, the tax rate on internet services was also reduced from 18 to 5 per cent in that country.
One common phenomenon when it comes to VAT is the desire to expand its application to more and more types of production and services, and to increase the tax compliance along with counteracting corruption. The Polish government, but also other EU member states, have placed increased emphasis on improved VAT compliance and collection. This is reflected by the expansion of the tax collection instruments to solutions such as the split payment mechanism, the introduction of standard audit files, and the popularization of transaction reporting. These activities are consistent with the previous recommendations of the OECD and the group of countries belonging to the G20.
Tax revenues are growing at a faster rate than GDP
The broad array of solutions introduced and announced in individual countries makes it difficult to indicate clear-cut trends when it comes to the rates of taxation. With regard to PIT and CIT, we can mostly speak of reductions in the tax rates, and in relation to VAT we are mainly observing the stabilization of the rates, along with a simultaneous expansion of the categories of goods and services covered by this tax. This leads to increased tax burdens, which are not offset by the individually introduced tax breaks and/or reductions. Then there are also the entirely new types of consumption taxes associated, for example, with energy consumption and environmental burdens.
The individual situation of each taxpayer is different, and depends not only on the legal solutions, but primarily on the obtained income and the consumer decisions. Therefore, it is difficult to make comparisons and assessments clearly indicating where taxation has increased or decreased. The only relatively objective, albeit indirect, indicator is still the size of the tax burdens in relation to GDP. The OECD report indicates that in 2016, that is, already in the conditions of a significantly improving economic situation, the tax burdens increased in most countries.
In this context, Poland is a country of medium-high taxes, and the ratio of tax revenues to GDP was around 33.6 per cent in 2016. For comparison, at that time the highest share of taxes in relation to GDP — 45.9 per cent — was recorded in Denmark, and the lowest share — 11.8 per cent — was recorded in Indonesia. At the same time, however, according to the OECD report, Poland was among the top five countries (alongside Greece, the Netherlands, Latvia and South Korea) in which the tax burdens in relation to GDP increased the most between 2015 and 2016 (by over 1 percentage point of GDP).