Transcript tax-incidence-equity&distortion-masood

GLOBAL SERVICE/ INDUSTRY
Asia Pacific Tax Conference – 2006
Tax Incidence - Equity & Distortion
AUDIT / TAX / ADVISORY / LINE OF BUSINESS
S. Masoud Ali Naqvi
Senior Partner
KPMG Taseer Hadi & Co.
17 March 2006
Tax Incidence – Equity & Distortion
Revenue sources for a Government
Taxation
Borrowing
Money Creation
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Tax Incidence – Equity & Distortion
Basic Principles of Taxation
Fairness
Efficiency
Effectiveness – sufficient
Simple – Convenient
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Tax Incidence – Equity & Distortion
Standards for a good tax system
Sufficient to raise necessary government revenues
Convenient to administer and to pay
Efficient in economic terms
Fair to taxpayers
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Tax Incidence
Who actually bears the final burden of a particular tax
or set of Taxes.
The final burden is distinguished from the initial
burden.
The initial burden is borne by those who makes the
payment to the tax authority
The final burden is borne by those whose real income
is reduced as a result of it
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Tax Incidence
Progressive Tax Incidence
A tax is progressive if final tax burden is higher for high
income households relative to low income households
Regressive Tax Incidence
A tax is regressive if its burden is higher for low income
households relative to high income households
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Tax Incidence
Direct Tax
The initial and final burden are the same
Indirect Tax
When the initial burden can be passed on as a final
burden to others.
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Incidence of Tax
SPDC Study Conclusions:
Indirect taxes are regressive and neutralizing their
regressivity appears to be difficult
Direct taxes are progressive although their
progressivity has declined over time
The regressivity of direct and indirect taxes combined
is reduced relative to the regressivity of indirect taxes
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Incidence of Tax …. (Contd.)
Implication is that enhancing the weight of direct taxes by styling
the primary ones of revenue generation from indirect to direct is
likely to render the incidence of the tax regime proportional and
progressive
Expenditure regimes is also regressive resulting in overall
regressive fiscal structure as the greater burden of taxation falls
on poor and they do not appear to be primary beneficiary of
public expenditure
The above has resulted in transfer of resources from the
relatively lower income group to relative higher income group
which has compounded inequality and poverty
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Tax Incidence – Equity & Distortion
Concept of equity / fairness
Reflects each taxpayers’ ability to pay and enhance
horizontal and vertical equity
Ability to pay is measured by :
Income
Wealth
Standard of living
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Tax Incidence – Equity & Distortion
Horizontal equity
That persons with the same ability to pay the tax
should owe the same amount of tax.
Vertical equity
That persons with greater ability to pay owe more
than persons with a lesser ability to pay.
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Tax Incidence – Equity & Distortion
Equals
Equals will be these having the same pre-tax income.
Equal treatment is equal post tax living standards for
pre-tax equals.
Equal average tax rule and equal taxes among equals.
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Tax Incidence – Equity & Distortion
Tax Rate Structure
Regressive Rate Structure
Proportional Rate Structure (Flat Tax)
Progressive Rate Structure
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Tax Incidence – Equity & Distortion
Tax Rate Structure
Average Tax Rate
The tax rate on income determined by dividing tax paid by an income
measure. Income measures selected are usually gross income or taxable
income
Marginal Tax Rate
The rate of tax applied to the next dollar of taxable income. In a
progressive rate structure this rate increases as income levels increase.
In a proportionate rate structure average and marginal rates are the same.
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Taxation Policy - Factors Hampering the
Economic Development
The Growth Crisis
The Resources Mobilization Crisis
The Balance of Payment Crisis
The External Debt Crisis
The Distributional Crisis
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Tax Incidence – Equity & Distortion
Distortions
Political disharmony between Centre and province
Lack of equitable distribution of fiscal and powers
amongst Federal, Provincial and local Governments
Provincial Government generates only 5 percent of tax
revenue as against 38 percent in India
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Tax Incidence – Equity & Distortion
Distortions (contd….)
Exemptions/Exclusions from tax base
Agriculture income
Capital gains on real estate
Exemptions, allowances, tax credits, tax reduces and
tax defends resulting in tax expenditures
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Tax Incidence – Equity & Distortion
Tax Revenue Gap
Tax actually payable and tax actually collected
Shadow Economy
Size
Lack of tax ethics and social norms
Inconsistency in growth sectors versus tax incidence in
these sectors
Network/Lobby culture
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Tax Revenue Gap
Potential tax revenue
minus
Actual budget collection
Tax revenue gap
▪ Income
▪ Traditions
▪ Networks
Inadequate
legal base
Inadequate tax
administration
Shadow
economy
Institutional
inefficiency
Legal tax avoidance
Tax avoidance
Tax evasion
Tax burden
Limited budget
resources
Unreported economic
activities
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Tax Gap – Pakistan Scenario
The tax to GDP ratio for a developing economy should
be around 15 percent
5 percent additional tax revenue = 300 m
1 percent additional tax revenue = 60 m
( on 2005 GDP )
With expected Growth Targets on an average 1 percent
additional revenue to GDP should yield annually 75 m
over next four years
Tax expenditure for 2004-2005 was estimated at Rs.25m
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Summary of Tax Expenditures
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Tax Incidence – Equity & Distortion
Tax Reforms Model
Optimal Tax Model
Harberger Tax Model
Supply side Tax Model
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Tax Incidence – Equity & Distortion
Optimal Tax model (OT)
Design optimal tax system for tax efficiency
Harberger Tax Model (HT)
Design system that will minimize tax induced tax
distortions which may be administratively feasible and
politically acceptable (Uniform Tariff / Broad Base VAT)
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Tax Incidence – Equity & Distortion
Supply-side Tax Model (SST)
Reduce role of state
Reduce tax rates to minimize disincentive on work,
saving and investment
Minimize distortions in related prices
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Tax Incidence – Equity & Distortion
Recent Trends – Combination of all these models
Enhance the revenue productivity of the tax system
Minimize relative price distortions
Tax system to be comprehensive, simple and
transparent
Broaden tax base
Lower marginal rates
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Reforms Initiative
LTU
MTU
Customs Administration Reforms (CARE) project
Installation of Scanners
Liquidation of Refunds
Sales Tax Project STARR / STREAMS
Effective Dispute Resolution
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Tax Incidence – Equity & Distortion
Broaden Tax Base
To ensure horizontal equity is desirable from the political
economy point of view as it reduces influence of special
interest group on tax policy and reduce administrative
costs
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Tax Structure Issues
Narrow base
Over dependence on import related taxes
High tax rate
Tax concessions and exemptions
SRO culture
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Income Tax
NTN holders
Tax return filers
(20%)
2004-2005
2003-2004
2.28 million
2.11 million
1.23 million
1.0 million
115,702
101,851
(growth over 2003-04)
Sales Tax
Registered persons
Growth percentage
14%
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Tax Incidence – Equity & Distortion
Reforms imperative
Institutional locks for credible commitment
Transparency
Allocation to political sequencing
Incentive and compensation
Public Education and communication
Encouraging participation in Reforms
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Tax Incidence – Equity & Distortion
Customerised subsidies to invest
Training expertise
Pricing of land and utilities
Large equity stake in some ventures
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Taxation Policy - Underground Economy
Large number of economic activities outside reporting system
and tax net.
Constituents of underground economy
Illegal activities, smuggling, narcotics, corruption etc.,
Legitimate, but not reported to tax authorities.
Causing
Large fiscal losses
Distorts incentives structure and growth path of economic system
Loss of fiscal revenue and demand on public services a
contributing factor for fiscal deficit.
High and uncertain cost of doing business an important constraint
for the private sector led development strategy.
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Taxation Policy - Areas Requiring Policy
changes to Counter Underground Economy
Economic liberalization
Fiscal discipline
Enhanced space for private sector
Tax reforms comprising of low rates and broad
base
Transparent decision making
Severe punitive measures against the errant
Equitable and expeditious justice
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Taxation Policy - Major irritants in achieving
Policy Objectives
UNEMPLOYMENT / POVERTY LEVEL
Social net
Lack of basic amenities (Medical, clean water etc.)
Taxes impact on savings
National Saving Schemes
TAXATION
Multiplicity of taxes – Federal, Provincial, Local
In-equity in allocation of taxes amongst provinces and local bodies
Incentive for tax evasion
Complexity of tax laws
High incidences of taxes
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Taxation Policy –
Unemployment / Poverty Level
Engendering growth
Implementing broad based governance reforms
Improving income generating opportunities
Improving social sector outcomes
Reducing vulnerabilities to shocks
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Distributional Crisis
Key to inequality
Equity content sharply eroded
Incidence of poverty is a function of economic growth
and distribution
Inequality in holding of assets
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Distributional Crisis
Inequality measured by Gini coefficient that:
1 percent reduction in equality is likely to reduce poverty
by 8.5 percent
1 percent increase in per capita income is expected to
reduce equality by only 3.6 percent
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Alternate Estimates of Poverty Elasticity
Table 3.6
Alternate Estimates of
Poverty Elasticity
With reference to
Inequality Measures
Growth
Inequality
Gini coefficient
-3.6
8.5
Quintile dispertion ratio*
-2.3
3.6
Extreme inequality represented
by square of Gini
-1.2
2.4
*share in national income of the highest 20 percent of population to the lowest 20 percent of population
Source: SPDC estimates
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Composition of Tax Revenue (%)
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Burden of Indirect Taxes by Income Group (%)
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Burden of GST Net of Tax on Key
Agricultural Inputs (%)
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Thank you
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Presenter’s contact details
Syed Masoud Ali Naqvi
Senior Partner
KPMG Taseer Hadi & Co.
[email protected]
www.kpmg.com
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