Every year the Lithuanian Free Market Institute assesses the tax burden and announces when the Tax Freedom Day comes in Lithuania. This is the day when the average taxpayer stops paying off the demands of the state in the form of taxes and begins to enjoy the full benefit of his labour. Sadly, as the tax burden grows, this day moves later in the calendar. On an average, each one of us gives away almost half of the welfare earned. The tax burden is about to reach a level of 40 per cent.
One may wonder why I am so worried about the growing tax burden. From the point of view of social policy, it would seem, there is no reason for fear: the more budget revenues are raised, the more generous and manageable social aid is. Yet, I would suggest taking a wider look at the union of taxes and social policy. Analysis should start from the fact that people seeking support have insufficient income and property.
WHY ARE PEOPLE GETTING POORER?
So why are some people unable to take care of themselves without burdening the rest of the society? The reasons why people lose income due to circumstances outside their control are manifold. For one thing, this may refer to a disabled child or an orphan or a young widow raising several small children. Another category of problems revolves around individual needs and personality traits. Some people have nothing because they don’t want to; others are not capable of earning as much as they need. Finally, there is one universal reason why people lose income. It affects everyone, socially supported and not supported alike. I am talking about taxes. This manifestation of the state’s life reduces everyone’s income by expropriating part of it. Every person is impoverished as a result through no fault of his or anyone else’s.
WHAT IS TAX INCIDENCE?
One may object that money handed over to the government does not disappear but comes back to people in the final analysis. Even quite the opposite. The government, one may argue, is capable of allocating the tax burden so that the heaviest part of it is placed on the richest residents. If public funds were used properly, the argument goes on, redistribution would occur in one direction – from the rich to the poor. However, this proposition is refuted by the phenomenon of tax incidence. In the case of tax incidence, the taxpayer is merely a technical aid in collecting the tax from others and transfering it to the budget.
For example, it is universally recognised that VAT is a consumer tax and that profit tax falls on production. Indeed, profit tax is paid by enterprises but it is invariably calculated into the price of goods and services sold. In the very same way social security contributions are divided between the employer and the employee. Business people pay taxes directly from their own pockets only when they go bankrupt, so to speak, and have no one to shift the taxes onto. Running businesses, on their part, impose part of social security contributions on the same employees by paying lower wages or on the buyers by raising the prices of goods sold. So the widespread belief that there are different taxes paid by “employers,” “companies” or “consumers” is erroneous.
Equally unjustified is the belief that the tax burden can be allocated “fairly.” As a rule, the tax burden falls heaviest on ordinary people as there is no one they could shift the taxes onto. Because of the tax incidence any attempts to allocate the tax burden in some way are futile. After all, it is people – buyers and consumers – who pay taxes in the end. The direction “from the rich to the poor” occurs not only on the revenue side but also with regard to distribution. Analysis of state revenues and expenditures for 1996 – 1999 shows that public funding is often channelled not in favour of socially supported groups but for corporate welfare programmes or commercial structures.
Another common fallacy is that the government receives money for redistribution through mutually beneficial exchange, that is by providing services and creating value. It is often said that we pay taxes and receive free education, free roads and other services in return. But there is no denying that the state collects money through coercion (all taxes are mandatory, or coercive) and people have no choice with regard to government services. Because of this element of compulsion we do not get services adequate to the taxes paid. Also, some taxpayers have never used or will never use government services.
The facts that tax allocation does not lend itself to assessment and calculation, that taxes are an act of compulsion and that services supplied by the state are not adequate to taxes paid lead to conclusions that taxes have damaging effects on human welfare. The heavier the tax burden, the graver the effects. In social terms people are hurt the most when they pay taxes. Existing social policy measures are meant, among other things, to compensate for the harm done by tax collection. A tax that would be tolerable in social and economic terms – a tax that would not impoverish people and generate sufficient revenues to support the destitute – would be very low. Tax reductions have a multiplying effect: The lower the taxes, the fewer the people in need.
THROUGH THE LOOKING GLASS
Taxes hurt people not only financially. They have an extremely harmful effect on people’s morals and spiritual health. A mass of taxes and complicated computation rules deepen the sense of insecurity. They also engender and exacerbate social problems.
Let us look at specific applications of taxes. The government seeks to set taxes at such a level that the tax burden would not hurt socially supported groups. In the case of a predefined social event (a loss of income, old age, etc.) tax favours are applied. But do these measures really allow the tax burden to be distributed evenly? Unfortunately, not. And here the tax incidence is at work. The fact that VAT or income tax breaks are applicable to enterprises which employ people with disabilities does not mean that the disabled will benefit from the game. Concessions are also applied to potential dependants. If, for example, a family is raising more than three children, income tax is reduced by 10 litas for each new child. Such concessions seem somewhat cynic. After all, 10 litas will not save a man when he is deprived of ten times more through excise duties.
Analysis of the effects of tax favours leads to several conclusions. First, if the general tax burden is too heavy, individual concessions will always be too low to ensure an adequate standard of living. Second, it is not only the needy who benefit from concessions. Finally, any favours make people adjust to established requirements in order to qualify for them. Under such conditions social support appears to be a lucrative business. Such a state of being is immoral, not to mention its economic ineffectiveness.
To sum up, a heavy tax burden impoverishes people and swells the numbers of the needy. Neither tax favours nor any other attempts to distribute the tax burden evenly can ameliorate the situation. This is unfeasible altogether. Social policies pursued by means of tax favours are ineffective in social terms. Moreover, this form of assistance distorts the neutrality of the tax system and induces people to adjust to fixed criteria. It also complicates tax administration and makes it more expensive. Given that, it is inexpedient to use the tax system in pursuing social objectives. Fewer and lower taxes coupled with simpler application are the key to improving social conditions, increasing social stability and preventing social problems. A neutral and easily administered tax system would secure adequate income, reducing the need for public funding at the same time.
