Effectiveness or justice – in taxation

During my studies I’ve almost always been taught those two things are mutually exclusive on the macroeconomic level. Nevertheless, economic policy-makers still strive for a fair balance between those two features people expect from the economy.

Today I’ve been pondering upon combining effectiveness and justice in taxation. Effectiveness is usually defined as obtaining as much as possible from the certain resources, or using as little resources as possible to obtain the certain effect. In case of taxes the effects might be collected revenues, the resources might be acted as by the taxation rate, but also costs of running the collection system, or the influence of taxation rate on economic activity. Justice, in turn, refers to the fair distribution or redistribution of goods, based on the given criteria. When it comes to taxes, the considered issue is the taxation system (the most popular ones are progressive and linear).

Still the most relevant criterion taken into account when speaking about effectiveness is the bearing, which the taxation rate has on economic activity. If taxes are low, people are more motivated to work and less likely to evade them – in such countries the level of redistribution is low, usually, because when a country is a tax haven, it draws capital from abroad and small per cent of big sums bring ample revenues. The theory of higher revenues from cutting taxes has been elaborated on by an economic advisor of Ronald Reagan – Mr Laffer, who devised a Laffer curve. Higher taxes are linked to the higher rate of redistribution and as it is argued – they tend to discourage people from working. Some critics of high taxes claim also they put people off earning more – here I can’t agree – cause there are thresholds, over which the additional income is taxed at higher rate, I think it never happens that the higher taxation rate applies to the whole income after exceeding a threshold.

There are plenty of criteria, according to which justice in taxation is perceived. In two most frequent ones the individuals should pay the same per cent of their income (flat tax) or the richer should pay higher share of their earnings (progressive tax). Flat tax is often misidentified with the system where everyone pays the same amount of money in a form of taxes. Such systems are the thing of the past these days – but in case of flat taxes the richer still pay more than the poor, but their burdens rise linearly.

As we went through with the theory, it is time to present my proposal for taxation system in Poland, which in my opinion is a fair combination of effectiveness and justice. I would put forward a flat tax with rate of around 18 – 22 per cent and annual tax allowance of 10 – 12 thousand złotys, with no other deductions and relieves (worth considering are different thresholds of deductible income for single taxpayers, couples and payers with dependants). Rings a bell? Yes, this is similar to the first proposals of American economists from the late seventies. This would introduce an element of justice – the system would be simple, would not discourage people from working and would give much less room for abuses and tax evasion. Under a new system, with the flat rate of 20 per cent and deductible amount of 10 thousand zlotys, the effective taxation rates for a payer:
- who earns 1 000 zł a month would be (12000-10000)*0,2/12000=3,33%
- who earns 2 000 zł a month would be (24000-10000)*0,2/24000=11,67%
- who earns 3 000 zł a month would be (36000-10000)*0,2/36000=14,44%
- who earns 8 000 zł a month would be (96000-10000)*0,2/96000=17,92%
- who earns 15 000 zł a month would be (180000-10000)*0,2/180000=18,88%
Such system would decrease the tax burdens for the poorest, provide the fair, “creeping” progression and would guarantee considerably low taxes for the richer. No deductions and exemptions would mean that tax declaration forms could, as proposed, consist of one page. Much could be saved on the tax collection system – just imagine most of those people currently working for IRS who carry papers from one pile to another and hinder your life, are sacked. The army of clerks given the boot would result in lower budget expenditures for tax collection apparatus. However, some of the saved money should be spent on enforcement tax police – in my opinion tax evasion should be severely punished and penalties should be severe enough to dissuade taxpayers from tax avoidance.

Why is it impossible to put my idea into practise?
Firstly, ordinary citizens perceive it unjust, though in my view this is the most just solution
Secondly, the rich prefer the systems which create the illusion of justice but give a lot of room for abuse, that’s why in the States a CEO of a big company has a lower effective taxation rate than his secretary – he can afford to hire a specialist who’ll reduce his income.
Thirdly, regarding corporate income taxes, there is a big business of tax advisory services, tax optimisation solutions and consultancy firms – such great lobby has a vested interest in the status-quo of the present complicated corporate tax law, on which they can make money.