TAXING THE RICH WILL NOT PAY FOR THE DEFICIT
An analysis of a recent HMRC [Her Majesty’s Revenue and Customs] publication, Income Tax Liabilities’ Statistics, shows that raising higher rates of tax, even to confiscatory levels, will provide only modest help in reducing the deficit. It will also lead to disincentives and to a self-reinforcing decapitalization of the economy which, in turn, will reduce labour income.
Rioters in the streets, left wing extremists and the TUC say that there is no need for major cuts in public expenditure to reduce the current British government’s £141 billion deficit (2010/1). If the ‘rich’ were taxed more heavily, they say, this could eliminate the deficit.
More moderate voices say that, in the interests of ‘fairness’, the ‘rich’ should pay more tax as a contribution to reducing the deficit even if, these moderates acknowledge, such tax increases would not eliminate the deficit.
The government has been feeble in rebutting these claims. Indeed, it has kept in place the 50 per cent tax on incomes over £150,000 p.a. and has imposed banking taxes, all in the name of fairness and the mantra, “we are all in this together”.
CAPITAL LEVIES
Of course, the ‘rich’ - although often wrongly categorized in the media, and by politicians who should know better – correctly refers to those with a stock of wealth in the form of bonds, shares, property and the like. In the past there have been attempts to tax assets to some extent by a capital levy to finance government current expenditure. These attempts occurred in the Asquith era and, again, under Harold Wilson. Vince Cable has also suggested such a tax.
These attempts in Britain never got very far. It was quickly recognized that there would have to be an enormous valuation and assessment exercise in assessing the value of assets and the liabilities to be set off against them which would be so costly that the net receipts would be meagre unless the level of the levy was confiscatory. So a low level, say, one per cent to three per cent, capital levy was pointless.
When considering a higher rate of capital levy, which cannot be paid out of income, this requires assets in the shape of bonds, stocks and property to be sold, to be realized in cash. However, this runs into a major and insoluble problem. In a land where capital and cash holdings are being taxed at high rates, who will have the spare cash to buy such assets? Who has such a stock of ready cash? A sizeable rate of capital levy is, therefore, a contradiction in terms since it needs capital to provide the cash to buy the assets being sold to pay the levy.
Moreover, economists, quite correctly, point out that the immediate effects of taxing capital would reduce its quantity, reduce the dynamism of the economy and reduce returns to labour which would become relatively more plentiful in relation to capital.
The long-term dynamic effects would be enormous because it would pose the question – who would establish businesses or work hard to acquire wealth if a substantial part of their assets were seized?
Furthermore, a capital levy would also lead to massive decapitalization as capital assets were run down to pay for current government spending.
TAXING HIGH INCOMES
With the idea of a capital levy discarded as leading to a total collapse of society and economic breakdown, the proposal of ‘taxing the rich’ has morphed into a proposal to tax high incomes, specifically high declared taxable incomes. Here the earners have a flow of income out of which part of that flow can be appropriated by the government.
Nevertheless, it should be clear that those with high declared taxable incomes are not the equivalent of the ‘rich’.
Taxable incomes refer to one year of high earnings, possibly to be succeeded in many cases by years of lower earnings, say, on retirement, or are the product of low earning prior years where professionals, such as lawyers or doctors, learn their trade. Also, truly rich people often have non-income producing assets, yachts, castles, Rembrandts, etc. They arrange their affairs so they generate little taxable income, often by using tax-breaks deliberately created by the same governments which seek to tax the ‘rich’, such as ISA’s, enterprise schemes, low taxes on business sales, farmland, forests, heritage, domiciled status, etc. High taxes on high declared tax incomes do not, therefore, tax the rich.
The main economic arguments against high taxes on income are, once again, the effects that high taxation has on the dynamism of the economy. Nigel Lawson’s reforms in the 1980s conclusively proved that a greater tax take is accomplished by lowering high income taxation on higher incomes. As a result, between 1999 and 2008, the top five per cent of taxable incomes provided between 40 per cent and 43 per cent of all income tax. Higher tax rates simply disincentivise. High earners cease to work or to invest or they move abroad. All this is widely acknowledged.
CALCULATING THE TAX TAKE
However, while reiterating the economic and practical arguments, it is useful to show in accounting terms that raising taxes, ‘taxing the rich’, can only have a limited yield and would in no way make other than a modest effect on reducing the deficit, even if there was no change in behaviour by earners.
An analysis of HMRC’s own figures show precisely how little tax could be raised by confiscatory taxes on higher incomes, as shown by the attached Table.
The Tables, entitled Liabilities by Income Range in the HMRC publication, enable the results of high confiscatory tax rates to be calculated. The last outturn figures are for 2007/8 with estimated figures for 2010/1. For the purpose of this study, I first assume a situation where the state decides that every tax payer with a taxable income of over £100,000 would face a tax rate of 100 per cent, that is, total confiscation of all income above that level. This is the extreme position of ‘taxing the rich’.
The calculations below show that this would raise an extra £55 billion on the 2007/8 figures and only £45 billion in 2010/1 – because taxes have already increased by the addition of the 50 per cent rate and lowering or abolishing allowances. This is in the context of an annual deficit of £141 billion.
A second example is where, instead of total confiscation, taxes were increased to 70 per cent from 40 per cent on the 2007/8 incomes over £100,000 and this would bring in £27 billion. In 2010/1, the figures are slightly difficult to calculate because some tax payers are already paying tax at 50 per cent on incomes over £150,000 so a 70 per cent tax rate on incomes over £100,000 would bring in a somewhat lesser percentage of the £45 billion available total, ,say, £20 billion.
CONCLUSION
‘Taxing the rich’ has come to mean taxing those with high declared taxable incomes in a particular year, even if they are not asset-rich. However, even confiscatory rates of 70 per cent or even 100 per cent will not pay for one-third of the deficit.
Disincentivisation and decapitalisation will mean rapid economic collapse.
On the contrary, there needs to be truly massive cuts in government spending far beyond the timid reductions being put forward at present, as well as reduction in taxes. This will incentivize the producers and also provide the capital needed for investment and job creation.
As Henry Hazlitt memorably put it:
“Almost the whole wealth of the modern world, nearly everything that distinguishes it from the pre-industrial world of the seventeenth century, consists of its accumulated capital.”
Even before the financial crash, the CIA World Factbook ranked the UK at 131 out of 145 countries surveyed (The United States was at 135) in the percentage of GDP devoted to gross fixed investment. Moreover, unlike many developing countries, the majority of the gross fixed investment was devoted to replacing depreciated assets, so the net new capital invested was already very low. Contrariwise, developing countries, such as China and India, had high rates of gross capital fixed investment with a smaller proportion spent to replace depreciated assets as their existing capital stock was lower. Even compared with developed country rivals, such as Switzerland, Germany and Japan, which can be assumed to have the same investment required to replace depreciated assets, the UK had poor rates of gross fixed investment and thus much lower rates of net additional fixed investment.
Further taxing higher incomes will only modestly reduce the deficit but higher taxes on higher incomes means decapitalization, the road to ruin.
Calculation of Availability to Tax
20010/1 2007/8
A Total income of those earning over £100,000 (millions) 153,200 155,500
Total number of taxpayers earning over £100,000 (000’s) 670 647
Total liability for tax of taxpayers earning over £100,000 (millions) 56,140 51,220
Average tax rate percentage on those earning between £50,000 & £100,000 22.3% 24.6%
Average retained percentage of income after tax of those earning between £50,000 & £100,000 77.7% 75.4%
Total retained income of taxpayers earning over £100,000 p.a. if taxed at average rate of
taxpayers earning between £50,000 & £100,000 52,059,000 48,783,800
With this data the following calculation can be made:
B Amount available for extra tax
Total income of those earning over £100,000 (millions) 153,200 155,500
Less:
Total retained income (millions) 52,059 48,783
Tax already paid (millions) 56,140 51,220
Sub-total 108,199 100,003
Available for extra tax (millions) 45,001 55,497
Source:
Inland Revenue Tables 2007/8 Outturn
2010/1 Projection
HMRC: Income Tax Liabilities Statistics, Liabilities by Income Range, Table 2.5, published 28th January 2011Note:
The retained income is the income after tax which would arise if all taxpayers earning over £100,000 had attributed to them only an income of £100,000 and this amount was then taxed at 22.3% (2010-11) or 24.6% (2007/8), these being the average tax rates for those years for those earning between £50,000 and £100,000. In other words, all taxpayers earning over £100,000 were treated as if they only earned £100,000.
The calculations are as follows:
For 2007/8 647,000 taxpayers x £100,000 x 75.4% = £48,783,800
For 2010/11 670,000 taxpayers x £100,000 x 77.7% = £52,059,000
FUTURUS/28 October 2011
Rioters in the streets, left wing extremists and the TUC say that there is no need for major cuts in public expenditure to reduce the current British government’s £141 billion deficit (2010/1). If the ‘rich’ were taxed more heavily, they say, this could eliminate the deficit.
More moderate voices say that, in the interests of ‘fairness’, the ‘rich’ should pay more tax as a contribution to reducing the deficit even if, these moderates acknowledge, such tax increases would not eliminate the deficit.
The government has been feeble in rebutting these claims. Indeed, it has kept in place the 50 per cent tax on incomes over £150,000 p.a. and has imposed banking taxes, all in the name of fairness and the mantra, “we are all in this together”.
CAPITAL LEVIES
Of course, the ‘rich’ - although often wrongly categorized in the media, and by politicians who should know better – correctly refers to those with a stock of wealth in the form of bonds, shares, property and the like. In the past there have been attempts to tax assets to some extent by a capital levy to finance government current expenditure. These attempts occurred in the Asquith era and, again, under Harold Wilson. Vince Cable has also suggested such a tax.
These attempts in Britain never got very far. It was quickly recognized that there would have to be an enormous valuation and assessment exercise in assessing the value of assets and the liabilities to be set off against them which would be so costly that the net receipts would be meagre unless the level of the levy was confiscatory. So a low level, say, one per cent to three per cent, capital levy was pointless.
When considering a higher rate of capital levy, which cannot be paid out of income, this requires assets in the shape of bonds, stocks and property to be sold, to be realized in cash. However, this runs into a major and insoluble problem. In a land where capital and cash holdings are being taxed at high rates, who will have the spare cash to buy such assets? Who has such a stock of ready cash? A sizeable rate of capital levy is, therefore, a contradiction in terms since it needs capital to provide the cash to buy the assets being sold to pay the levy.
Moreover, economists, quite correctly, point out that the immediate effects of taxing capital would reduce its quantity, reduce the dynamism of the economy and reduce returns to labour which would become relatively more plentiful in relation to capital.
The long-term dynamic effects would be enormous because it would pose the question – who would establish businesses or work hard to acquire wealth if a substantial part of their assets were seized?
Furthermore, a capital levy would also lead to massive decapitalization as capital assets were run down to pay for current government spending.
TAXING HIGH INCOMES
With the idea of a capital levy discarded as leading to a total collapse of society and economic breakdown, the proposal of ‘taxing the rich’ has morphed into a proposal to tax high incomes, specifically high declared taxable incomes. Here the earners have a flow of income out of which part of that flow can be appropriated by the government.
Nevertheless, it should be clear that those with high declared taxable incomes are not the equivalent of the ‘rich’.
Taxable incomes refer to one year of high earnings, possibly to be succeeded in many cases by years of lower earnings, say, on retirement, or are the product of low earning prior years where professionals, such as lawyers or doctors, learn their trade. Also, truly rich people often have non-income producing assets, yachts, castles, Rembrandts, etc. They arrange their affairs so they generate little taxable income, often by using tax-breaks deliberately created by the same governments which seek to tax the ‘rich’, such as ISA’s, enterprise schemes, low taxes on business sales, farmland, forests, heritage, domiciled status, etc. High taxes on high declared tax incomes do not, therefore, tax the rich.
The main economic arguments against high taxes on income are, once again, the effects that high taxation has on the dynamism of the economy. Nigel Lawson’s reforms in the 1980s conclusively proved that a greater tax take is accomplished by lowering high income taxation on higher incomes. As a result, between 1999 and 2008, the top five per cent of taxable incomes provided between 40 per cent and 43 per cent of all income tax. Higher tax rates simply disincentivise. High earners cease to work or to invest or they move abroad. All this is widely acknowledged.
CALCULATING THE TAX TAKE
However, while reiterating the economic and practical arguments, it is useful to show in accounting terms that raising taxes, ‘taxing the rich’, can only have a limited yield and would in no way make other than a modest effect on reducing the deficit, even if there was no change in behaviour by earners.
An analysis of HMRC’s own figures show precisely how little tax could be raised by confiscatory taxes on higher incomes, as shown by the attached Table.
The Tables, entitled Liabilities by Income Range in the HMRC publication, enable the results of high confiscatory tax rates to be calculated. The last outturn figures are for 2007/8 with estimated figures for 2010/1. For the purpose of this study, I first assume a situation where the state decides that every tax payer with a taxable income of over £100,000 would face a tax rate of 100 per cent, that is, total confiscation of all income above that level. This is the extreme position of ‘taxing the rich’.
The calculations below show that this would raise an extra £55 billion on the 2007/8 figures and only £45 billion in 2010/1 – because taxes have already increased by the addition of the 50 per cent rate and lowering or abolishing allowances. This is in the context of an annual deficit of £141 billion.
A second example is where, instead of total confiscation, taxes were increased to 70 per cent from 40 per cent on the 2007/8 incomes over £100,000 and this would bring in £27 billion. In 2010/1, the figures are slightly difficult to calculate because some tax payers are already paying tax at 50 per cent on incomes over £150,000 so a 70 per cent tax rate on incomes over £100,000 would bring in a somewhat lesser percentage of the £45 billion available total, ,say, £20 billion.
CONCLUSION
‘Taxing the rich’ has come to mean taxing those with high declared taxable incomes in a particular year, even if they are not asset-rich. However, even confiscatory rates of 70 per cent or even 100 per cent will not pay for one-third of the deficit.
Disincentivisation and decapitalisation will mean rapid economic collapse.
On the contrary, there needs to be truly massive cuts in government spending far beyond the timid reductions being put forward at present, as well as reduction in taxes. This will incentivize the producers and also provide the capital needed for investment and job creation.
As Henry Hazlitt memorably put it:
“Almost the whole wealth of the modern world, nearly everything that distinguishes it from the pre-industrial world of the seventeenth century, consists of its accumulated capital.”
Even before the financial crash, the CIA World Factbook ranked the UK at 131 out of 145 countries surveyed (The United States was at 135) in the percentage of GDP devoted to gross fixed investment. Moreover, unlike many developing countries, the majority of the gross fixed investment was devoted to replacing depreciated assets, so the net new capital invested was already very low. Contrariwise, developing countries, such as China and India, had high rates of gross capital fixed investment with a smaller proportion spent to replace depreciated assets as their existing capital stock was lower. Even compared with developed country rivals, such as Switzerland, Germany and Japan, which can be assumed to have the same investment required to replace depreciated assets, the UK had poor rates of gross fixed investment and thus much lower rates of net additional fixed investment.
Further taxing higher incomes will only modestly reduce the deficit but higher taxes on higher incomes means decapitalization, the road to ruin.
Calculation of Availability to Tax
20010/1 2007/8
A Total income of those earning over £100,000 (millions) 153,200 155,500
Total number of taxpayers earning over £100,000 (000’s) 670 647
Total liability for tax of taxpayers earning over £100,000 (millions) 56,140 51,220
Average tax rate percentage on those earning between £50,000 & £100,000 22.3% 24.6%
Average retained percentage of income after tax of those earning between £50,000 & £100,000 77.7% 75.4%
Total retained income of taxpayers earning over £100,000 p.a. if taxed at average rate of
taxpayers earning between £50,000 & £100,000 52,059,000 48,783,800
With this data the following calculation can be made:
B Amount available for extra tax
Total income of those earning over £100,000 (millions) 153,200 155,500
Less:
Total retained income (millions) 52,059 48,783
Tax already paid (millions) 56,140 51,220
Sub-total 108,199 100,003
Available for extra tax (millions) 45,001 55,497
Source:
Inland Revenue Tables 2007/8 Outturn
2010/1 Projection
HMRC: Income Tax Liabilities Statistics, Liabilities by Income Range, Table 2.5, published 28th January 2011Note:
The retained income is the income after tax which would arise if all taxpayers earning over £100,000 had attributed to them only an income of £100,000 and this amount was then taxed at 22.3% (2010-11) or 24.6% (2007/8), these being the average tax rates for those years for those earning between £50,000 and £100,000. In other words, all taxpayers earning over £100,000 were treated as if they only earned £100,000.
The calculations are as follows:
For 2007/8 647,000 taxpayers x £100,000 x 75.4% = £48,783,800
For 2010/11 670,000 taxpayers x £100,000 x 77.7% = £52,059,000
FUTURUS/28 October 2011