Flat Tax in the UK - Essay Example

Flat Tax in UK Introduction The perception of a "flat tax", a simple tax system that charges a single rate of tax on all income, is rising in fame. It difference apparently by the current systems operated in mainly countries, by dissimilar tax rates depending on the level and type of income or on the individual circumstances of the personage taxpayer. Taxation in the United Kingdom can involve payments to two or more different government offices, i.e. local government and central government. Local government supported by central government in the shape of grants and also generate funds from business rates, council tax and increasingly from fees and charges such as those from on-street parking and fines. Central government, however, generates its revenues mainly from income tax, national insurance contributions, value added tax, corporation tax and fuel duty. Definition: "A flat tax, also called a proportional tax, is a system that taxes all entities in a class (typically either citizens or corporations) at the same rate (as a proportion of income), as opposed to a graduated, or progressive, scheme. The term flat tax is most often discussed in the context of income taxes."(Expert Report 2005) At first confined to academic conversation and a few small islands, the flat tax has lately been introduced in numerous of the ex-communist countries of middle Europe, counting latest members of the European Union. Additionally, Poland has announced its intention to adopt a flat tax system. As a result far none of the 'old' EU nations has taken this step, though Ireland is introducing a flat tax for companies (Feldstein). Introduction of flat tax Country Year Rate Jersey 1940 20% Hong Kong 1947 16% Guernsey 1960 20% Estonia 1994 26% Lithuania 1994 33% Latvia 1995 25% Russia 2001 13% Serbia 2003 14% Ukraine 2003 13% Slovakia 2003 19% What is a flat tax The notion of a flat tax can be made to cover a broad range of dissimilar tax systems, but the basic principle is that income ought to be taxed at a single rate of tax for all taxpayers. In practice there are extra aspects that are ordinary to mainly flat tax proposals, and flow from this essential principle: low rate of tax Hypothetically we could calculate an average rate of tax under the current multi-rate system, and charge everyone this rate under the flat tax. Though this would consequence in taxpayers (mainly the lower earners) paying more tax. In practice so most flat tax systems propose a single rate approximately the similar as, or lower than, the existing standard rate. This means that no-one will pay additional tax on the transition to a flat tax. Remove most tax allowances and deductions One of the advantages of the flat rate is its minimalism, in that taxpayers and collectors only have to use one rate of tax in their calculations. This straightforwardness is usually extended by removing mainly of the exact tax deductions surrounded by the accessible system that try to give stipend for exact circumstances or incentives for exacting activities. In part this removal of allowances is sensible since once a single low flat rate is introduced they turn out to be less important (HM Treasury, 2003). Greatly increased personal allowance The individual allowance is the basic amount that every taxpayer is allowed to earn free of tax. The majority flat tax proposals engage an important augment in this amount, first and foremost to make sure that all low earners are better off under the flat tax system (in lots of cases by being taken out of the tax net in total), even subsequent abolishing a lot of the precise allowances (Richard Teather). Apparently a flat tax will decrease the largely tax take, at least originally, unless it is set at the present average rate (in which case a lot of taxpayers would pay additional under the reforms than they do at present). Certainly raising the individual allowance considerably will also result in a substantial loss of tax revenue. But how much The majority people assume that the cost would be high-priced, sometimes because they have not look at the issue but frequently because the figures quoted by the Treasury or Inland Revenue for the cost of tax improvement only work inside very narrow bands. For instance the 'cost' to the Treasury of increasing the personal payment by 100 is given as 630 million p.a.,12 but each 100 increase takes a number of people out of the tax net in total, and takes others out of the higher rate band, so the next 100 increase will cost less. Moreover, we have premeditated the cost of the flat tax, from Inland Revenue figures, and the cost of a 10,000 add to in the individual allowance is considerably less than 100 times the cost of a 100 increase. The cost of put an end to higher rate tax is also much lower than many would wait for. Our figures are maximums; with additional detailed breakdowns in the data the true costs would absolutely be less than this. Depending on the level of individual allowance chosen, the total tax loss for a variety of options is as follows: Advantages If we analyzed then we come to know that there are a number of flat tax proposals but the most commonly discussed proposal was developed by Robert E. Hall and Alvin Rabushka (1996). Their suggestion limits any influence of tax credits, deductions, or exemptions apart from for the personal, spousal and child based exemptions. The system eliminates the complications present in the tax credits and deductions system for the current situation in the UK which is made complex by multiple layers of appropriate and non-applicable taxation rules. Along with ease, the flat tax proposals made by Hall and Rabushka (1996) also remove the complex and time consuming paperwork to make simpler the fortitude of income. Furthermore, a flat tax would decrease tax evasion simply due to the ease of the process. Business Income/ Personal Income Generally speaking, the Flat Tax System taxes business income and personal income only once. This type of included approach enables the system to attain horizontal fairness that people with the same levels of personal income ought to bear similar tax weight. At the similar time the individual exemptions for child hold up and spousal support can be geared towards achieving vertical equity, i.e. the people who earn further, pay more taxes after their legal responsibility have been discounted. In addition to achieving simplicity of tax system (as described above), a flat tax system could also focus on efficiency if it move the nature of taxation from taxing the income to the taxation of consumption. In such cases, a tax would be levied on income that is consumed rather than income that is saved. Economists such as Slemrod (2006), Emes et. al. (2001) and Forbes (2006) believe that the taxation of consumption is one of the most efficient of taxation systems that can be implemented by government in order to raise their tax revenue. Such a system would also help in avoiding double taxation - where two or more taxes are paid for the same spending. In an economy like the UK, the tax system which is implemented by the government has a significant effect on economic growth. High and rising marginal tax rates contribute to lower rates of economic enlargement as personal income growth is reduced creating a deterrent to work hard and this reduces the accessibility of labour (Emes et. al., 2001). Capital formation, a key ingredient in long term economic growth, is also reduced as the savings, which are proportional to investment, are exaggerated due to high tax rates. In the existing system these problems are present but they could be abridged or eliminated altogether with a flat tax system (Slemrod, 2006). Disadvantages Of course the picture is not all roses since there are some disadvantages of having a flat tax system as well. For example, the lower income groups could be hurt by a flat tax system since it could lead to regressive taxation as those with lower income would have to pay a higher proportion of their earnings as taxes. This would effectively allow a shift in the tax burden from the economically better off class to the lower and middle classes. There are also arguments that the simplicity cannot be maintained, especially due to political influence which is a part of economics in the real world (Forbes, 2006). Additionally, with the present taxation system and through different tax deductions and credits, the government is able to stimulate investments in specific fields such as technology research and renewable energy (Slemrod, 2006). Not having these benefits could encourage the wealthy to move their production facilities to countries with lower taxes making them even richer while increasing the burden on the welfare state (Forbes, 2006). Most importantly perhaps, flat tax systems may find it difficult to redistribute the wealth of the nation within the public, which would progressively increase the gap between wealthy and the poor (Emes et. al., 2001). Conclusions According to the latest analysis a flat rate tax of 22%, by means of a tax-free personal allowance of 12,000, is possible. The first loss of government revenue would be approximately 50 billion per year, below 5% of GDP. When you take into account the latent 12 billion of savings from abolishing minor tax reliefs, this comes to around the 35 billion of administrative waste recognized by the James Review. Still the 20,000 personal allowance is affordable if the 81 billion of savings recognized by the Taxpayers' Alliance could be realized. These reforms are attainable. All taxpayers would be better off under the restructuring. Those on low incomes would advantage mainly; approximately 10 million taxpayers would be taken out of the tax net, ending the ludicrous state of affairs of those on the smallest amount wage paying tax. This is not a tax break for the rich; those on below-average earnings would observe their after-tax income add to by over 12%, as the average advantage for the top third of earners is scarcely 0.5%. The result on the financial system would be huge; studies show that the aspects of the tax system that the flat tax would remove, explicitly high rates and exemptions, are exactly those that cause the majority economic damage. The resulting augment in financial activity, and decrease in distortions, would make jobs and so benefit existing non-taxpayers as well. Though not covered by this report, a flat tax ought to preferably tax companies at the equal rate, and should surely remove the present possible double taxation of dividends. This would remove the present scope for tax evasion caused by the dissimilar tax treatments of companies and individuals, and make sure that all income was taxed once and once merely. Reference Feldstein, Tax Avoidance and the Deadweight Loss of the Income Tax, National Bureau of Economic Research Working Papers 5055. HM Treasury, "Tax Ready Reckoner and Tax Reliefs", London, December 2003, quoted in The IFS Green Budget January 2004, Institute for Fiscal Studies, London, 2004. Richard Teather BA(Oxon) ACA is Associate Senior Lecturer in Tax Law at Bournemouth. University, and is also a freelance consultant and writer on tax issues. Prior to this he worked in the City as a tax adviser. He can be contacted through the university or via his website (www.teather.me.uk) Emes, J. et. al. 2001, 'Flat Tax: Principles and Issues' Critical Issues Bulletin The Frasier Institute [Online] Available At: http://www.fraserinstitute.org/shared/readmore.aspsNav=pb&id=151 Slemrod, J. 2006, 'The role of misconceptions in support for regressive tax reform'. National Tax Journal, Vol. 59 Issue 1, p57-75 Read More