New series of papers on why government can and should bring financial services into the tax base

The Victoria University of Wellington (Australia) has a new SSRN issue of interest, featuring a series of papers by Sybrand van Schalkwyk and the ever-prolific John Prebble, all on the topic of consumption tax and financial services. The first of these is the big picture:

"Value Added Tax and Financial Services"  Asia-Pacific Tax Bulletin, Vol. 10, pp. 363-370, 2004 Victoria University of Wellington Legal Research Paper No. 29/2013 Value added tax (VAT) is a relatively modern development. Designers of VAT recognized from the outset that the way in which financial institutions are remunerated creates significant difficulty when the tax is applied to their services. Administrative difficulties relate to imposing invoice-based VAT on service fees charged as part of the margin between buy and sell rates. Theoretical reasons relate to arguments that financial services should not be taxed under a consumption tax because, it is argued, financial services are not consumed in the way in which goods and services are consumed. Because of these difficulties, most jurisdictions have opted to exempt financial services from VAT. However, the commonly accepted reasons to exempt financial services from VAT are not compelling, since financial services are no different in relevant respects from other services. Moreover, there are methods by which financial services could be brought within the VAT base. Furthermore, although exemption is the simplest way for a VAT to treat financial services, it causes significant distortions in the economy.  This paper is of special interest to me because it confirms my own view that societies are increasingly accepting tax systems that intentionally tax the "easy-to-tax" most vigorously, the "hard-to-tax" much less vigorously and more randomly, and the "impossible-to-tax" not at all, and that these categories have been intentionally constructed from regulatory decision-making that renders various activities to a given category in systematic and purposeful ways. There are fundamental justice issues at stake in these regulatory outcomes. If Prebble and van Schalkwyk are correct that exempting financial services from VAT is a policy choice that has been made on the basis of an unexamined theory that these flows are hard or impossible to tax which in turn has been decided because of a failure to institute measures that would make them easy (or at minimum easier) to tax, then the failure to include financial services within existing VAT systems is a grave source of injustice within that tax policy choice (that is, in addition to and apart from the question about whether consumption taxation is itself a violation of justice in the exercise of taxation by states). The papers that follow focus on various ways to increase the coherency of the taxation of financial flows--what I would suggest is an effort to show us that financial flows could in fact be easier to tax, if not "easy-to-tax," given various regulatory reforms: "Defining Interest-Bearing Instruments for the Purposes of Value Added Taxation"   Asia-Pacific Tax Bulletin, Vol. 10, pp. 418-426, 2004Victoria University of Wellington Legal Research Paper No. 30/2013  This is the second of a series of four articles on the taxation of financial services under a value added tax. The first article considered whether, from a theoretical viewpoint, financial services should be included under a value added tax. It concluded that the arguments in favour of treating financial services in the same manner as any other service outweighed the arguments against doing so. This second article considers the definition of interest bearing financial instruments in some detail. It also considers the kinds of activities that qualify as financial services in relation to the instruments. The definition of financial services is important where a different type of treatment is applied to financial services. If financial services were taxed like any other service, then no definition would be needed. However, where, as in New Zealand, supplies of financial services can be exempted, the definition of financial services becomes very important. Alternatively, if some financial services are to be zero rated or taxed but not others, then it is necessary to have a global definition of financial services followed by individual definitions of the particular kinds of service that are to be brought within the tax base one way or the other. This article begins by considering interest-bearing instruments.  "Imposing Value Added Tax on Interest-Bearing Instruments and Life Insurance"  Asia-Pacific Tax Bulletin, Vol. 10, pp. 471-468, 2004 Victoria University of Wellington Legal Research Paper No. 31/2013  Exemption of financial services from Value Added Tax (VAT) is commonly accepted as being an anomaly in the New Zealand goods and services tax legislation. While exempting financial services from VAT is attractive to the legislature because it is a simple way of addressing the difficulties of applying VAT to financial services, it causes significant distortions, for instance tax cascading, which in turn causes price distortions. The application of VAT to interest-bearing financial instruments and life insurance is complicated by the way in which financial intermediaries charge for these services. The first part of this article investigates how interest-bearing instruments can be taxed under VAT, and the second part how life insurance can be taxed under VAT. There are several options for the treatment of interest-bearing instruments. They can be exempted, zero-rated, or included in the tax base. In this last category, there are three possible methods of including interest-bearing instruments: the invoice, cash flow, and truncated tax flow systems. The last is recommended because policy makers have come to realize that the cash flow system cannot be applied without significant modification.  "Imposing Value Added Tax on the Exchange of Currency"  Asia-Pacific Tax Bulletin, Vol. 10, pp. 469-483, 2004 Victoria University of Wellington Legal Research Paper No. 32/2013  Exemption of financial services from Value Added Tax (VAT) is commonly accepted as being an anomaly in the New Zealand goods and services tax legislation. While exempting financial services from VAT is attractive to the legislature because it is a simple way of addressing the difficulties of applying VAT to financial services, it causes significant distortions, such as tax cascading, which in turn causes price distortions. The application of VAT to services that bring about the exchange of currency is one instance where financial services could be included in the VAT base. Services bringing about the exchange of currency are a species of financial service, but are inherently different from other financial services since they are relatively simpler than other financial services. Reasons advanced for exempting financial services in general do not necessarily apply to services bringing about the exchange of currency. Bravo to the authors--this represents a lot of work and adds much to the discussion of how economically-integrated yet politically independent nations can approach the subject of taxation from the perspective that justice matters in policy decisions.

Manal Corwin, now at KPMG, to discuss Reputational Risk Deriving from the Tax Transparency Movement

Fresh out of Treasury, Manal Corwin and some of her new/old colleagues will present a webcast next Tuesday on Tax Transparency and OECD Initiative on Base Erosion and Profit Shifting:

KPMG's Tax Governance Institute will host a webcast that addresses the implications of tax transparency and the potential impact of the OECD initiative on base erosion and profit shifting. Board and audit committee members, CFOs, tax directors and other business professionals interested in attending the program – one in a series of KPMG presentations on this timely topic – can register at: www.taxgovernanceinstitute.com.

The webcast will focus on "the debate over the shift of taxable business income out of the United States and high-tax jurisdictions around the world and into low or no-tax jurisdictions, and the resulting issue of tax base erosion." I'm not sure if debate is the right word there.  Is there a debate about these two phenomena existing as a factual matter? I think no.  Is there a debate about the appropriateness of such shifting and base erosion? I think decidedly yes.

Interestingly, however, KPMG suggests this is a debate about neither the existence nor the appropriateness of profit shifting and base erosion, but rather it is specifically about transparency, namely, the extent to which the public will gain a right to know about the existence and legal sanction of these practices:

The global debate on tax transparency has sparked both public interest and concerns among many companies, and the spotlight will grow brighter in coming weeks as the OECD prepares to deliver its coordinated action plan on base erosion and profit shifting and the European Commission moves forward with announced plans to address issues around tax fairness. With potentially significant changes in future tax obligations and reputational risks at stake, senior executives and board members at multinational companies should find this webcast, and those that will follow, especially useful as they formulate how their organizations should respond to the debate and possible outcomes.

[Emphasis mine.]  This statement is from Brett Weaver, who is described as "tax partner in KPMG's International Corporate Services practice and the firm's partner-in-charge of Tax Transparency" and a member of KPMG's "Tax Transparency Steering Committee," along with Corwin, who is described by KPMG as:

national leader of KPMG's International Corporate Services practice, principal-in-charge of International Tax Policy in the firm's Washington National Tax practice, and former deputy assistant secretary for Tax Policy for International Tax Affairs in the U.S. Treasury Department and U.S. delegate/vice chair to the OECD's Committee on Fiscal Affairs. 

The other participant on the webcast will be Philip Kermode, "director of the Directorate-General for Taxation and Customs Union of the European Commission".

It seems very clear to me that the "reputational risk" Weaver identifies is going to be something corporate tax managers and their legal & accounting advisers will be forced to price in going forward. The last paragraph illuminates this:

...the [KPMG] Tax Governance Institute ... provides opportunities for board members, corporate management, stakeholders, government representatives and others to share knowledge regarding the identification, oversight, management, and appropriate disclosure of tax risk.

I think it is safe to attribute the creation of reputational risk (or what some might call an internalizing of a cost that heretofore has been externalized thanks to strong corporate tax confidentiality laws), as well as any potential that may currently exist for systemic change to occur in the OECD's approach to the taxation of multinationals, to the international tax activist movement. As a result this should be a very informative webcast.

McGill Law Journal Podcast on Tax Avoidance

I recently sat down with David Groves of the McGill Law Journal to talk about tax justice as part of the Journal's podcast series. From the MLJ website:

Tax Avoidance, Tax Evasion, and Tax Justice with Professor Allison Christians

Apple, Google, Starbucks: Some of the biggest corporations on the planet are paying virtually no tax on the profits they make. We sat down with Professor Allison Christians, H. Heward Stikeman Chair in Tax Law, to discuss fairness and justice in taxes. 

You can listen to the podcast here.

Webcast of McGill Roundtable on Tax Justice-now online

Last week the McGill Faculty of Law hosted a public roundtable on Tax Justice featuring John Christensen, James Henry, Diana Gibson, and Frédéric Zalac. If you missed the live webcast, you can now view the archived version online here.

The Boundaries of Tax Justice

I posted a draft of this paper on SSRN some time ago but neglected to post it here, so here it is. I argue that because governments chase wage-earners and consumers doggedly while selectively overlooking or ignoring other taxpayers, the imposition of income taxation as it is practised by states today is fundamentally unjust. Abstract:

The story of our time may be the awakening of society to an epidemic of global tax dodging by the world’s elites. Citizens, watchdog groups, and even government officials are puzzled, frustrated, and sometimes outraged by the phenomenon, wondering where the nation-state lost its way in regulating its people and its resources, and why it is standing by, apparently helplessly, as its tax base erodes while austerity measures undermine the welfare state. This paper demonstrates that the sequence of tax base erosion-austerity-welfare state erosion is a story about a crisis of tax justice. It does so by revisiting how Canada's historic Royal Commission on Taxation, in its search for guiding principles for tax reform, turned to tax justice as the central component for any tax system. It shows why nations have consistently failed to meet these guiding principles, instead taxing the easy-to-tax more or less comprehensively, the hard-to-tax more or less randomly, and the impossible-to-tax not at all. It demonstrates that the result is that no state today imposes taxation justly: instead, taxation as exercised around the world today is overwhelmingly characterized by arbitrariness and injustice. The paper concludes that if governments cannot or will not pursue justice in taxation, they have at minimum a duty to explain to society why this goal is no longer worthy of pursuit.

This paper includes a discussion of who should be considered a "taxpayer" by a state. I argue that citizenship-based taxation is unjust from both a human and statist perspective, and I therefore make the case for residence-based taxation. As always, comments are welcome.

Lobbying pays: the skewed impact of the fiscal cliff deal, in one striking chart

From Citizens for Tax Justice:

In 2013, the richest one percent of Americans will receive 18 percent of the tax cuts while ...[t]he bottom three-fifths ... will receive 18 percent of the tax cuts. In other words, the richest one percent of Americans will receive the same share of the tax cuts as the poorest 60 percent of Americans:

 

Note that it is hard to give tax breaks to the poorest, since they aren't much in the tax net to begin with. But what explains the middle? CTJ notes that the deal made permanent 85% of the Bush income tax cuts and 95% of the estate tax cuts, which we already know were skewed toward the wealthy and have presided over the largest widening of the income gap in US history since the gilded age. That is destroying the middle--there aren't so many people in that category any more.  And the ones still in the category have much less to work with:

Why did the fiscal cliff turn into welfare for the 1%? We know the answer, it's always the same. Incidentally Matt Stoller wrote a follow up piece arguing that if we understand how lobbying corrupts policymaking in the US, we can work against it.  But I am not optimistic.

Lobbying is policy in the US. That is how governance works. There are good aspects and bad aspects to the ability of the public to influence lawmakers in a democracy; the issue is what happens to democracy when you have to pay enormous sums to play. It seems that one thing that happens for sure is that elected officials become "utterly unresponsive to the policy preferences of millions of low-income citizens.” Major social imbalance is the result when, as Nancy Folbre says:

Our most affluent citizens now have less to gain from cooperation with the rest of us than they once had. They can effectively threaten to opt out and invest elsewhere. They can also invest vast resources in lobbying and electioneering.

I am still puzzled as to how on earth the NY Times managed to get their headline so wrong. Yves Smith calls it a big lie, and I would have to concur.

Yes, we should tax Olympian athletes.

Well said, Christine.

Update: UK Uncut v HMRC

TJN has a video from the UK Uncut movement on their lawsuit against HMRC regarding the Goldman Sachs tax giveaway, which is making progress as the Guardian reports:

In a ruling on Wednesday Justice Peregrine Simon said the matter was "plainly in the public interest" and that any judicial review of the deal which saw Goldman Sachs let off a £10m interest bill, would be separate to an anticipated National Audit Office investigation on maladministration and bad practice.

Social costs in efficient markets

Paying for the right to jump the line has heavy social and cultural costs, according to Michael Sandel's new book, What Money Can't Buy, which he excerpted in the Guardian last week.  He says:

To an economist, long queues for goods and services are wasteful and inefficient, a sign that the price system has failed to align supply and demand. Letting people pay for faster service at airports and amusement parks improves economic efficiency by letting people put a price on their time.

But there is a social cost to this efficiency:

In airports, amusement parks and hospital waiting rooms, the ethic of the queue – "first come, first served" – is being displaced by the ethic of the market – "you get what you pay for". 

And this shift reflects something bigger: the growing reach of money and markets into new spheres of life. ...

Why worry that we are moving towards a society in which everything is up for sale? For two reasons: one is about inequality; the other is about corruption. In a society where everything is for sale, life is harder for those of modest means. The more money can buy, the more affluence (or the lack of it) matters. But also, putting a price on the good things in life can corrupt them. Paying children to read books might get them to read more, but it might also teach them to regard reading as a chore rather than a source of intrinsic satisfaction. Sometimes, market values crowd out nonmarket values worth caring about.

Those values include civic responsibility, a sense of being part of a polity, cultural cohesion, etc.  I'm sure we have all experienced the psychic value of being the one who gets to jump the line at least once in a while but perhaps more often the psychic cost of watching others do so.

Tax fairness: an interactive infographic

You can choose your tax reform options and see how it impacts the curves.  Compare, for example, eliminating the EITC with doing the Reagan thing to capital gains.  Since the Laffer curve doesn't kick in until at minimum about 70% or so, I figure you could raise almost $400 billion with just a few tweaks.

You pay $426 more in tax because of tax dodging.

That's according to the the US Public Interest Research Group in a recently released report entitled Picking up the Tab.  They base it on an estimate of a $100 billion tax gap, which is likely a conservative guess since it is based on what is known, and tax evasion is based on making sure things aren't known.

From the summary:

"Even when tax haven abusers act perfectly legally, they force other Americans to shoulder the burden in a variety of ways. The taxes they don't pay must be balanced by other Americans paying higher taxes, coping with cuts to public spending priorities, or increasing the federal debt. 

Congressional studies conclude tax haven abuse costs the United States approximately $100 billion in tax revenues every year. Multinational corporations account for $60 billion and individuals the rest. 

If ordinary tax filers were to pick up the full $100 billion tab in the form of higher taxes, they would need to pay an additional $426 on average. ... "

They break out business taxes differently, and estimate that smal businesses, which generally cant't shelter as effectively as big businesses, "would need to pay an average of $2,116 each in additional taxes" to make up for the dollars lost to offshore.

The Right to Justification

Larry Solum recommends Rainer Forst, The Right to Justification: Elements of a Constructivist Theory of Justice (New Directions in Critical Theory):

Contemporary philosophical pluralism recognizes the inevitability and legitimacy of multiple ethical perspectives and values, making it difficult to isolate the higher-order principles on which to base a theory of justice. Rising up to meet this challenge, Rainer Forst, a leading member of the Frankfurt School's newest generation of philosophers, conceives of an "autonomous" construction of justice founded on what he calls the basic moral right to justification.

Forst begins by identifying this right from the perspective of moral philosophy. Then, through an innovative, detailed critical analysis, he ties together the central components of social and political justice—freedom, democracy, equality, and toleration—and joins them to the right to justification. The resulting theory treats "justificatory power" as the central question of justice, and by adopting this approach, Forst argues, we can discursively work out, or "construct," principles of justice, especially with respect to transnational justice and human rights issues.

As he builds his theory, Forst engages with the work of Anglo-American philosophers such as John Rawls, Ronald Dworkin, and Amartya Sen, and critical theorists such as Jürgen Habermas, Nancy Fraser, and Axel Honneth. Straddling multiple subjects, from politics and law to social protest and philosophical conceptions of practical reason, Forst brilliantly gathers contesting claims around a single, elastic theory of justice.

... Forst's master idea is that people have a right and duty of reciprocal justification in the domain of shared institutions and that testing for the justice of such arrangements means testing for how far they are indeed justifiable. 

This is useful in thinking about the rise of global tax activism, where it is not necessarily clear that what people seek is rule or regime change, but rather an accounting of what the rules and regimes have wrought, and a justification for the status quo and its systemic continuation through the construction of international institutions and epistemic communities.

Virtually Everyone Pays Federal Taxes: It's Really True.

It really is too bad that this has to be spelled out yet again, and that nevertheless the myth will perpetuate.  Taxprof links to The Hamilton Project, The Truth about Taxes: Just About Everyone Pays Them:

A popular myth swirling around Washington, DC, and throughout the media these days is that many Americans do not pay taxes, and are therefore free-riding off of our society without contributing themselves. This has even been referred to by some as a “new orthodoxy.”  The origin of this misconception is the observation that only about 54 percent of American households paid federal income taxes during recession-affected 2011.  But that statistic is misleading because it provides an incomplete picture of the overall tax burden on American families, and because it incorporates individuals who naturally shouldn’t be paying taxes because of their age or economic circumstances due to the Recession. A closer look reveals that nearly all Americans do, in fact, pay taxes.

They have a few charts and graphs but its this sub-heading that catches my eye:

"Other Forms of Taxes Also Count"

Yes, indeed.  There is a federal income tax that is called the federal income tax, and it is true that not everyone has to pay it, such as when they earn very small amounts of income (or, perversely, very large amounts of income...that's a different story).  Then there is another federal income tax that is called the social security tax.  Yes, it's a tax, and it's imposed federally as a percentage of income...it's a federal income tax.    The part imposed on companies is called an excise tax.  But that part on individuals?  Its a Federal.  Income. Tax.  Somehow it matters not how many times or ways we say it, people will still insist that only that tax that's actually called the federal income tax "counts" as paid, so a person who only pays the social security tax and not the income tax is a freeloader, while the person who only pays the capital gains tax and neither the FIT or the SST is not.  Never mind the other federal excise taxes, these are simply and routinely ignored because they are not "federal income taxes."

Rhetoric strikes again, and again.  Roosevelt may have been right to preserve the social security safety net by linking it to its own earmarked tax, but we too often see how this has become a sleight of hand that effectively undermines a great deal of thinking about tax policy.

On the to-read list

2 books to read:

Lea Ypi, Global Justice and Avant-Garde Political Agency:.

Why should states matter and how do relations between fellow-citizens affect what is owed to distant strangers? How, if at all, can demanding egalitarian principles inform political action in the real world? This book proposes a novel solution through the concept of avant-garde political agency. Ypi grounds egalitarian principles on claims arising from conflicts over the distribution of global positional goods, and illustrates the role of avant-garde agents in shaping these conflicts and promoting democratic political transformations in response to them. Against statists, she defends the global scope of equality, and derives remedial cosmopolitan principles from global responsibilities to relieve absolute deprivation. Against cosmopolitans, she shows that associative political relations play an essential role and that blanket condemnation of the state is unnecessary and ill-directed. Advocating an approach to global justice whereby domestic avant-garde agents intervene politically so as to constrain and motivate fellow-citizens to support cosmopolitan transformations, this book offers a fresh and nuanced example of political theory in an activist mode. Setting the contemporary debate on global justice in the context of recent methodological disputes on the relationship between ideal and nonideal theorizing, Ypi's dialectical account illustrates how principles and agency can genuinely interact.

and

Johnathan Schlefer, The Assumptions Economists Make:

Economists make confident assertions in op-ed columns and on cable news—so why are their explanations often at odds with equally confident assertions from other economists? And why are all economic predictions so rarely borne out? Harnessing his frustration with these contradictions, Jonathan Schlefer set out to investigate how economists arrive at their opinions. 

While economists cloak their views in the aura of science, what they actually do is make assumptions about the world, use those assumptions to build imaginary economies (known as models), and from those models generate conclusions. Their models can be useful or dangerous, and it is surprisingly difficult to tell which is which. Schlefer arms us with an understanding of rival assumptions and models reaching back to Adam Smith and forward to cutting-edge theorists today. Although abstract, mathematical thinking characterizes economists’ work, Schlefer reminds us that economists are unavoidably human. They fall prey to fads and enthusiasms and subscribe to ideologies that shape their assumptions, sometimes in problematic ways. 

Schlefer takes up current controversies such as income inequality and the financial crisis, for which he holds economists in large part accountable. Although theorists won international acclaim for creating models that demonstrated the inherent instability of markets, ostensibly practical economists ignored those accepted theories and instead relied on their blind faith in the invisible hand of unregulated enterprise. Schlefer explains how the politics of economics allowed them to do so. The Assumptions Economists Make renders the behavior of economists much more comprehensible, if not less irrational.

A Buffet rule for Canada?

From the Star today, a story about doctors calling for the rich to pay a greater share of income taxes in Canada.  This may come as a surprise to many Americans, who assume the Canadian system is naturally much more progressive than in the U.S.

A new organization of well-paid doctors thinks that they — and other high-income earners — should pay more in taxes.

“Who knows?” physician Michael Rachlis, one of the founders of Doctors for Fair Taxation, told me Wednesday. “Maybe we’ll start a trend. Maybe we’ll see a Lawyers for Fair Taxation start up.”

The reporter says he is not going to hold his breath.  He continues:

Most governments don’t have the nerve to scrap progressive taxation entirely. So they’ve been doing it gradually by reducing the number of income-tax brackets and by raising more money through user fees and consumption levies like the HST.

The upshot of this, as a recent study from the Canadian Centre for Policy Alternatives demonstrates, is that the poor in Canada now pay a greater share of their income to government in the form of taxes than do the ultra rich.

Which is the antithesis of the bargain made when governments first began to levy income taxes almost 100 years ago.

Doctors for Fair Taxation argues that a more progressive tax system would be good for human health. 

I'm not sure what the angle for Lawyers for Fair Taxation would be.  Americans for fair taxation of course have the opposite goal.

News from the tax transparency movement

Richard Murphy links to this review of an international tax conference hosted by the Oxford Centre on Business Taxation, in which the author quotes Lord Hollick, a businessman and influential member of the UK House of Lords Economic Affairs Committee:

"In a world of globalisation, how do single countries hold corporations to account? . . . It's hard to work out how much tax is paid where.  The disclosure regime does not get to the heart of the issue.  We need full disclosure. ... Having been an executive of a large corporation, I would be happy to do this. Companies should pay a fiar rate of tax.  We should move vigorously towards the path of transparency."

Murphy adds: "good for Lord Hollick. You can't keep a good idea down and country-by-country reporting is an idea whose time has come."

I've been working on a chapter about the rise of the tax transparency movement and its connection to economic development, will post a link to a draft soon.

Everybody does it

Britain is talking about Ken Livingstone, a Labour party politician, who is being called a tax dodger because he unapologetically channels "his earnings through a company – paying 20 per cent corporation tax instead of up to 59 per cent income tax and National Insurance" on some $750,000 over the past several years.  Livingstone responds that this is "something that 'everybody else who has a small business' did, and to suggest otherwise was a 'smear campaign.'"  But he's in a bit of a difficult spot because:

"These rich bastards just don't get it," Livingstone wrote in 2009. "No one should be allowed to vote in a British election, let alone sit in our parliament, unless they are paying their full share of tax."

No representation without taxation!

Tax activist Richard Murphy posts some financials and has a go at articulating the structural features of the tax system that cerate this scenario and some fixes.