Taxation. Dr. Marilyn Rubin John Jay College The City University of New York FEBRUARY 2013. Topics to be Covered. Taxation in the U.S. and Colombia Personal Income Tax Corporate Income Tax Sales Tax Property Tax Tax Evaluation Standards. Taxes Forever.
Taxation Dr. Marilyn Rubin John Jay College The City University of New York FEBRUARY 2013
Topics to be Covered • Taxation in the U.S. and Colombia • Personal Income Tax • Corporate Income Tax • Sales Tax • Property Tax • Tax Evaluation Standards
Taxes Forever • Taxes existed in Sumer in southern Mesopotamia (modern Iraq), the first organized society of record, where their payment carried great religious meaning. • Taxes were a fundamental part of government in ancient Greece and Egypt and in the Roman Empire. • The religious aspect of taxation in Renaissance Italy is depicted in the Brancacci Chapel, in Florence. The fresco Rendering of the Tribute Money depicts the gods approving the Florentine income tax.
Taxation in the U.S. • All levels of government in the U.S. impose taxes – national (federal), state and local. • States have almost total tax autonomy. They are sovereign entities that can tax as they see fit unless the tax interferes with interstate commerce or other federal prerogatives, e.g., tax treaties with other countries. • Local government ability to tax is subject to individual state constitutional and statutory limitations.
Taxation in Colombia • The central government collects about 80% of all taxes. • Departments in Colombia have relatively little tax autonomy and are restricted with respect to how freely they can spend their “own source” money.
Primary Taxes in the U.S. • Income Tax • Personal • Corporate • Sales Tax • Property Tax
The Personal Income Tax • A personal income tax (PIT) - sometimes referred to as the individual income tax - is generally imposed as a percentage of a person's wages and salaries. • In the U.S., the federal government and 41 of the 50 U.S. states impose the personal income tax. • 14 states authorize municipalities to use the tax.
Personal Income Tax in Colombia • Colombian citizens and foreign nationals who have lived continuously (or cumulatively) in Colombia for a total of five years are subject to the personal income tax. • The tax is imposed by the national government; no sub-national governments are authorized to impose a personal income tax.
The Corporate Income Tax • A corporate tax refers to a tax imposed on entities that are taxed at the entity level. The tax systems of most countries impose an income tax on certain types of entities. • In the U.S., the federal government and 44 of the 50 states impose a corporate income tax. • Six states permit local governments to use the tax.
Corporate Income Taxation in Colombia • A corporate income tax (Impuesto a la renta y complementarios) must be paid by all local and foreign corporations operating in Colombia. • The tax is imposed by the national government; no sub-national governments have the authority to impose a corporate income tax.
The Sales Tax • The sales tax is a consumption tax charged on the purchase of goods and services. • In the U.S., 45 states use a “general “sales tax. In 36 states, local governments are authorized to use the sales tax. • The federal government has no general sales tax; it only uses selective sales taxes (excise taxes), e.g., taxes on alcohol and cigarettes.
Sales Tax_2 • In the U.S., the sales tax is a point of final purchase or use tax. • The rate is usually set as a percentage of the sales price (or units purchased) by the government charging the tax.
Sales Tax in Colombia • The sales tax in Colombia is a value-added tax. It is a tax on consumption as in the U.S. but works differently. • So what are the differences? Suppose that you want to buy a pen for $1.50 in both the United States and Colombia . Assume that the US has a 10% sales tax and Colombia has a 10% VAT. • Both governments will get $.15, but it will be collected differently.
In the U.S.: A Final Destination Tax • The retailer charges the consumer $1.65 ($1.50 + $1.50×10%) and pays the government $0.15, leaving the same profit of $0.30. • Total revenue to US government is $0.15.
In Colombia • The manufacturer pays $1.10 ($1 + $1×10%) for the raw materials, and the seller of the raw materials pays the government $0.10. • The manufacturer charges the retailer $1.32 ($1.20 + $1.20×10%) and pays the government $0.02 ($0.12 minus $0.10), leaving the same profit of $0.20. • The retailer charges the consumer $1.65 ($1.50 + $1.50×10%) and pays the government $0.03 ($0.15 minus $0.12), leaving the profit of $0.30 (1.65-1.32-.03). Total revenue to Colombia government is $0.15.
Property Tax • The property tax is paid on the value of the property being taxed. • In the U.S. 7 states use a property tax, but collect relatively limited revenue from it. • All 50 states permit local governments to use the property tax—their major revenue source. • The federal government does not levy a property tax
Property Tax in Colombia • Municipalities impose an annual property (real estate) tax on the owner or occupier of land. • The rate depends on the use made of the property.
U.S.: State Taxes • Sales Taxes • Sales taxes are the main source of revenue for many states. • Other State Taxes • Different states have various other means to collect revenue, such as state income taxes, excise taxes, corporate income taxes, other business taxes and property taxes.
Where Are State Taxes Spent? • Education • State education budgets help finance public state universities and provide some aid to local governments for elementary, middle, and high schools. • Public Safety • State governments operate state police systems, as well as correctional facilities within a state. • Highways and Transportation • Building and maintaining highways is another state expense. States also pay some of the costs of waterways and airports. • Public Welfare • State funds support some public hospitals and clinics. States also help pay for and administer federal benefits programs. • Arts and Recreation • State parks and some museums and historical sites are funded by state revenues. • Administration • Like the federal government, state governments spend money just to keep running.
Local Government Taxes • Property taxes are the main source of local revenue. These taxes are paid by people who own homes, apartments, buildings, or land. • Some local governments also collect excise, sales, and income taxes. • Some taxes, such as room and occupancy taxes, are aimed at nonresidents in order for local governments to “export taxes.”
How Local Taxes are Spent: Some Examples • The following is a brief list of the many functions that local governments carry out or assist in: • Public school systems • Law enforcement • Fire protection • Public transportation • Public facilities, such as libraries and hospitals • Parks and recreational facilities • Record keeping (e.g., birth/death certificates)
Tax Evaluation Standards There are 5 primary standards used to evaluate taxes • Political viability • Equity • Ease of Administration • Revenue Adequacy • Economic Effects
Political Viability • Most people prefer taxes to be paid by someone else and vote for people they believe will be the “best” for them. • A famous U.S. senator once said: “Don’t tax you, don’t tax me, tax that fellow behind the tree.”
Equity • The question of equity in taxation is: how should the tax burden be distributed so that it is “fair?” • What does fair mean? There are two standards or approaches that can be used to answer this question: 1) the benefits-received approach; 2) the ability-to-pay approach.
Equity: The Benefits-Received Approach • People would pay for a public good or service only if they benefit from it. • A tax would be “fair” if those who receive greater benefits than those who received fewer benefits. • A tax can be broadly benefit-based if it causes payments to be aligned with benefits received.
Benefits-Received Approach: Challenges • Existence of pure public goods and externalities • Transference of resources for redistribution purposes impeded
Equity: Ability-to-Pay Approach • This approach has two components: 1) horizontal equity – considers equal treatment of taxpayers who have equal capacity to pay 2) vertical equity – concerns the proper relationship between the relative tax burden paid by individuals with different capabilities to pay
Vertical Equity_1 • Fairness is measured by the effective tax rate. • The effective tax rate is calculated by dividing total taxes paid by taxable income. • For example, if your taxes are $2,000 and your taxable income is $20,000, your ETR = 10%. • If your taxes are $2,000 and your taxable income is $200,000, your ETR=1%.
Equitable Tax • The tax is considered equitable if the ETR goes up as incomes go up • Regressive tax – ETR goes up as income declines • Proportional tax – ETR is same for all taxpayers • Progressive tax – ETR goes up as income increases
Ease of Administration • Taxes must be collectable at reasonable costs to society - resources used to collect a tax provide no net services to society. • Tax laws should be adopted in an open process so that voters understand the process and the potential impact.
Ease of Administration_2 • Tax payments should be based on objective and explicit criteria. • Potential for tax avoidance should be minimized. • Taxes should not be subject to individual taxpayer negotiations. • Taxpayers should be aware of the process of appeal.
Revenue Adequacy • A tax levied for revenue is worthwhile only if it can generate meaningful revenue at socially acceptable rates. • Revenue adequacy has to be concerned with the short-run and the long run.
Revenue Adequacy_2 • Revenue stability is an issue – how do tax revenues change over the business cycle. • Have to consider “tax base elasticities” which measure how the tax base is affected bychanges in economic activity.
Economic Effects • Taxes can change the way people and businesses behave. • The behavior can be in reaction to the structure of the tax as well as tax rates.
Economic Effects_2 • Ways taxes can impact behavior • Work vs. leisure • Business operations • Business locations • Savings vs. spending
Applying Tax Evaluation Standards The Fiscal Cliff
The Personal Income Tax • The Bush administration's PIT cuts for individuals earning less than $400,000 per year and couples earning less than $450,000 were left in place. • PIT rates on the highest income earners were increased from 35% to 39.6%. • The 10 percent, 15 percent, 25 percent, and 28 percent income tax brackets from the Bush tax cuts were made permanent.
Political Viability • There was strong support among a majority of U.S. voters for increasing tax rates on upper income taxpayers. • Many members of Congress did not support increasing any tax rates, even those in the highest income brackets.
Equity • Increasing PIT tax rates on upper income taxpayers was an effort to address issues of equity. • Because of other aspects of the PIT structure, upper income people may still have a lower EFT than lower income people.
Ease of Administration • Tax already is in place so no new administrative structure had to be created. • Some concern that there might be a stronger incentive for higher income taxpayers to “hide” income.
Revenue Adequacy • The increase in tax rates on upper income taxpayers is estimated to raise about $600 billion in new revenues over 10 years. • Although this is a substantial contribution to government revenues, additional changes are being considered to generate additional tax dollars.
Economic Effects • No major shifts in economic behavior is expected.
The Future of the Fiscal Cliff • Probably PIT rates will be left as they are, but efforts will be made to “reform” the tax structure. • Tax evaluation standards can be used to evaluate changes to the structure.