chapter 11 Tax Law and Policy, Structure, and International Tax Law
Defining Taxes and Tax Law
Definition of Taxes: Taxes are defined as compulsory, unrequited payments made to the government.
Legal Obligation: The law mandates that individuals provide money to the government without receiving a specific, direct good or service in return.
General Benefit: Taxpayers do not receive direct consideration; instead, they benefit from the general provision of institutions, infrastructure, and policies provided by the government to society.
Nontax Revenue vs. Taxes:
User Charges and Service Fees: These are payments like highway tolls or passport fees. They are due only when an individual requests a specific service or good. The amount is generally proportional to the government's cost of provision.
Social Insurance Contributions: These are often considered nontax revenue. While they are usually compulsory, they differ from taxes because individuals receive future benefits (social insurance payments) based on the period of their contributions. However, many citizens perceive no practical difference between these and income taxes.
Tax Law as Public Law: Tax law governs the legal relationship between private persons and the state. It is commonly categorized as a sub-discipline within administrative law.
Branches of Tax Law:
Substantive Tax Law: Sets the criteria for taxation, including who is taxed, on what, for how much, where, and when.
Procedural Tax Law: Governs the formalities of assessing and collecting tax liability, defines taxpayer rights and obligations, and establishes judicial powers for settling disputes between taxpayers and the administration.
The Tax System: This is a mix of various taxes. While specific taxes often have their own substantive laws, a general tax law typically provides overarching definitions and procedural rules.
The Taxing Power and Constitutional Limitations
Grant of Power: The power to impose and collect taxes is typically granted to the government via the constitution.
Levels of Government: Tax laws can be enacted by central, regional, and local governments. This applies to unitary states, federal states, and supranational organizations like the European Union (EU).
Comparative Example: USA vs. EU:
United States: The federal government enacts income tax laws but lacks a universal federal goods and services tax. States share the power to collect income taxes with the federal level.
European Union: Goods and services taxes (VAT) are harmonized through EU legislation. However, the EU lacks comprehensive legislation on income taxes, which remains a reserved competence of Member States. The EU cannot collect taxes directly (except from its civil servants) and relies on transfers from Member State budgets.
Limiting Principles: The taxing power is constrained by general legal principles and fundamental rights protected by the constitution. Key principles include:
The Legality Principle: Only law (a legislative act) may impose tax obligations. This is summarized by the phrase "no taxation without representation."
Relationship to Property Rights: While taxation may be seen as encroaching on property rights, it is necessary to fund the justice system that protects those very rights.
The Equality Principle: Prohibits arbitrary taxation without a reasonable foundation. However, legislatures are granted a "margin of appreciation" to determine if differences in situations justify different tax treatments.
Legal Precedent: Burden v United Kingdom [2008] ECHR 356: The European Court of Human Rights ruled that high inheritance taxes for two sisters living together did not violate discrimination prohibitions, as they were not comparable to married or civil partners who paid less.
Balance of Powers:
Legislature: Decides on the existence and design of tax laws.
Executive: Enforces and collects taxes. Governments often delegate power to the executive to issue interpretative decrees or regulations (e.g., Article 38 of the Netherlands’ General Tax Act allows the Minister of Finance to set rules for avoiding double taxation without involving parliament).
Judiciary: Settles disputes between the administration and the taxpayer.
The Three R’s of Taxation: Goals and Economic Objectives
Revenue: The primary goal is raising funds to finance government expenditures. Raising revenue involves transferring income or wealth to the state, which inherently reduces welfare and can negatively impact economic growth if taxes are too high.
Redistribution: The goal of shifting income and wealth between the rich and poor to reduce inequality.
Regulation: The use of taxes to steer behavior towards choices that stabilize the economy or foster social desirability.
Political Perspectives:
Libertarian View: Favors "small government," advocating for low revenue and minimal regulation.
Social Democratic View: Supports egalitarian outcomes and solidarity, advocating for high redistribution.
Efficiency and the Deadweight Loss:
Behavioral Responses: Taxes influence choices between work/leisure and consumption/saving.
Deadweight Loss (Excess Burden): The social cost of taxes arising from behavioral distortions (e.g., a labor tax increasing wage costs). An efficient system minimizes this loss.
Neutrality: A design characteristic where decisions are made on economic merit rather than tax consequences. Regulating and redistributive goals often require non-neutrality.
Excise Duties Metaphor/Example: Taxes on cigarettes and alcohol serve to "internalize" social costs (health care burdens) into the private cost for the consumer, thereby discouraging undesirable behavior.
Redistribution, Progressivity, and Tax Incidence
Thomas Piketty’s Thesis: In Capital in the Twenty-First Century (2013), Piketty argues that if private wealth grows faster than the general economy (r > g), wealth concentrates among the rich. He advocates for a progressive tax system to prevent social and economic instability.
Types of Taxation:
Progressive Taxation: Higher taxes on more advantaged persons; the average tax rate increases with income or wealth.
Regressive Taxation: The average tax rate decreases as income or wealth increases. Taxes equal in law may be regressive in effect (e.g., cigarette taxes hit lower-income groups harder as a percentage of wealth).
Proportional Taxation: The tax liability is a constant percentage of income or wealth regardless of size.
Tax Incidence:
Legal Incidence: The statutory bearer legally responsible for paying the tax.
Economic Incidence: The person whose welfare is ultimately affected.
Direct Taxes: Legal and economic incidence coincide (e.g., personal income tax).
Indirect Taxes: Legal and economic incidence fall on different persons (e.g., VAT, where entrepreneurs pay the tax but shift the burden to consumers via prices).
The Tax Mix and Defining Income
The Tax Mix Categories:
Taxes on Income: Ad personam (personal) taxes that account for a taxpayer's individual/family circumstances.
Taxes on Goods and Services: In rem (transaction) taxes focused on the value and nature of a transaction.
Taxes on Property.
History of Income Tax: Introduced in the late 19th century. Notable drivers include the Napoleonic war (UK), the Civil War (US), and the World Wars (Europe).
Theories of Income:
Accretion Concept (Schanz-Haig-Simons): Income equals the net accumulation of wealth over a year (sum of consumption and change in property value).
Source Concept: Income is restricted to market gains from stable sources (labor and capital). It excludes hobbies and family transactions.
The Apple and Tree Analogy: In the accretion concept, both the apples (gains) and the change in the tree's value (capital gains) are income. In the source concept, only the apples (gains) are income; the tree is just the precondition for earning.
Mechanics of Income Taxation: Liability and Reductions
Subjective Tax Liability: Defines who pays.
Individual Assessment: Based only on personal income.
Joint/Family Assessment: Aggregates income of a family unit. Aggregation has been ruled unconstitutional in countries like Germany, Italy, Spain, and Ireland due to equality violations.
Hybrid: Individual assessment but considers family circumstances.
Objective Tax Liability: Determines the amount and timing of tax.
Timing - Realization Principle: Income is taxable only when realized (funds received, property sold, or deemed realized by law). Deferral allows for moving this point into the future.
Taxability - Exemptions: Explicit provisions removing tax from principally taxable income (e.g., Pension EET: Exempt contributions, Exempt investment returns, Taxed payments).
Reductions - Allowances: Statutory amounts that reduce taxable income. Personal/basic allowances provide a subsistence threshold below which no tax is paid.
Reductions - Deductions:
Business Expenses: Directly linked to revenue generation.
Depreciation: Yearly deduction for the reduction in value of capital assets (e.g., machines).
Personal Deductions: Usually disallowed except for regulatory or ability-to-pay reasons (e.g., charitable gifts, alimony, medical expenses).
Limitations: Bribes, penalties, and mixed/commuting expenses are often limited or explicitly nondeductible.
Calculation Example: Total Revenue () minus COGS (), rent (), wages (), depreciation (), and interest () equals a taxable income of . A further charity deduction of results in .
Tax Rates, Credits, and Corporation Taxes
Tax Rates: Typically applied via progressive brackets.
Average vs. Marginal Rates:
Average Rate: Total taxes divided by total taxable income.
Marginal Rate: The rate applied to one additional euro of income. Influences behaviors "at the margin."
Global vs. Schedular Systems:
Global: Sum of all income items taxed at the same rates.
Schedular: Different rates for different income types.
Dual Income System (Nordic Countries): Progressive rates for labor/pension income and lower flat rates for capital/investment income.
Flat Tax System: Characterized by a single proportional rate, limited deductions, and a generous allowance. Effectively remains progressive because the average rate increases with income.
Tax Credits: Euro-for-euro reduction of tax due.
Refundable Credits: Allow for a refund if the credit exceeds the tax liability.
Analysis: Credits have uniform value for all; reductions (allowances) have higher value for those in higher marginal tax brackets.
Corporation Taxes: Income taxes on legal entities.
Arguments Against: Companies are legal fictions; the burden always eventually falls on individuals (consumers, employees, or shareholders).
Arguments For: Pragmatic convenience of collection from one entity; neutrality regarding business forms (sole proprietor vs. partnership vs. company).
Taxes on Goods, Services, and Property
Value Added Tax (VAT):
Nature: Most important general transaction tax. Collected fractionally at every stage of production and distribution.
Taxable Transactions: Supply of goods and services by persons acting in a professional capacity.
In rem: Taxed on the value of the transaction, ignoring the taxpayer's personal situation.
Invoice-Credit Method: Taxpayers charge Output VAT on sales and credit Input VAT paid on purchases. This avoids cumulative burdens.
Example: Sales of with VAT () minus input VAT of results in due to the authority.
Rates: EU minimum standard rate is . Low rates (or ) apply to medicine, food, and books.
Property Ownership Taxes:
Net Wealth Tax: Includes all assets and debts.
Dutch Presumptive System: Presumes a return on investments/savings, taxed at , effectively creating a wealth tax.
Property Transaction Taxes (Succession Duties):
Estate Tax: On the value of the deceased's property.
Inheritance Tax: On the legacy received by an heir.
Gift Tax: On transfers "inter vivos" (between the living) to prevent avoidance of estate taxes.
Financial Transaction Taxes: Proposed to raise revenue and discourage harmful speculation post-financial crisis.
Tax Procedure and Management
Taxpayer Rights: Right to be informed, assisted, heard, appeal, privacy, confidentiality, and certainty.
Taxpayer Obligations: Honest and cooperative behavior, providing information, keeping records, and paying on time.
Administrative Principles: The authority must be impartial and proportionate.
Assessment Procedures:
Authority Assessment: The authority determines the liability based on returns and third-party data.
Self-Assessment: The taxpayer determines the liability and remits pay upon filing (common for VAT).
Withholding Tax: A third party (e.g., employer) withholds tax from payments to the taxpayer and remits it directly to the state.
Sanctions:
Penalties: Deterrent and punitive measures for late/inaccurate filing or failure to disclose.
Criminal Laws: For tax evasion or fraud. Notable case: Al Capone was convicted of tax evasion when other prosecutions failed.
Tax Management Definitions:
Tax Planning: Lawful use of options provided by the legislature.
Tax Avoidance: Using artificial arrangements void of commercial justification to obtain a tax benefit. Legal but often unethical. Countered by Specific Anti-Avoidance Rules (SAAR) and General Anti-Avoidance Rules (GAAR).
Tax Evasion: Illegal conduct involving intentional non-reporting or fraudulent fabrication.
Globalization and International Tax Law
Jurisdiction Types:
Universal Jurisdiction: A state taxes residents on all income, domestic or foreign.
Source Jurisdiction: A state taxes foreign persons only on income derived within its national borders.
Double Taxation: Occurs when two states assert overlapping jurisdiction. This is a major obstacle to trade. The "Single Tax Principle" is the international norm.
Tax Treaties: International agreements (often based on the OECD or UN Model Conventions) that resolve jurisdictional conflicts. They limit national tax claims to ensure single taxation.
Challenges of Globalization:
Outdated Rules: Current regimes assume physical presence; digitization allows business without a physical footprint.
Tax Competition: States lowering taxes to attract international business. This becomes "harmful" if it erodes other states' tax bases.
International Tax Reform: Efforts like the G20/OECD BEPS (Base Erosion and Profit Shifting) project aim to modernize rules and ensure multinational enterprises pay their "fair share."