Tax Subsidies – Achievement of Accountability Visa Paajanen/NAOF 9.8.2007

Background of the audit effectiveness audit project (autumn 2004) goals for the project: find out how to produce audit information of effectiveness and produce relevant audit information to the Parliament effectiveness audit projects larger project, team-work, expertize outside of the NAOF co-operation with other effectiveness audits three pilot audits: tax susidies, R and D, social exclusion of the youth

(the question of transparency) THE AUDIT QUESTION: How the accountability is achieved in the case of tax subsidies? (the question of transparency) DATA AND METHODS Principles of tax subsidies Finland’s state budget process and the tax subsidies; (… and development since 1990) The general accountability in Finland: budget law, latest principles developed by Ministry of Finance, etc. The international development and bench marks (OECD and IMF) Special cases Deductions of the voluntary pension payments in income taxation, research of allocation and effects made by Government Institute for Economic Research Energy taxation, Audit Office did not make any conclusions Development in legislative process since the 1990’s quality questions the target setting ex post reporting and transparency etc.

Findings + in most cases tax subsidies have better incentive effect than direct income transfers + the preparation of tax subsidy legislative proposals have become better + the efficiency evaluations at preparatory stage have developed + there are tax subsidy law proposals where some optional policy instruments have been researched and there are even cases where two optional (tax subsidy vs. direct support) instruments have been tested at the same time there is no clear connection to government’s annual budget proposal ex post efficiency evaluation is unsystematic and it is made very seldom

Findings… the reporting of the tax subsidy amounts has diminished during last six years  transparency and the fulfilment of accountability has weakened there are attempts to circumvent the spending limits by tax subsidies  the spending limits are losing their meaning (the number of tax subsidy laws is increasing clearly although their amount is increasing only slightly) tax subsidies remain in force although the original problem does not exist anymore the amount of tax subsidy is often difficult to estimate beforehand the allocation of a tax subsidy is often difficult

Special findings tax subsidy has been used in the same role as direct support (refunding of the energy taxes in agriculture) forest taxation: misleading accounting methods the deduction of interest costs of households’ housing loans; impossible to control what kind of loans (purpose of loans) are de facto included in deductions

System wide recommendations and NAOF’s statements tax subsidies have to be taken better into account in presenting performance targets in the Government Budget and in operational and financial plans tax subsidy laws have to be enacted using same rules and principles when enacting budget acts tax subsidies ought to be dealt with the same system than budget grants tax subsidies ought to be allocated to each budget title effectiveness and performance of operations and financing of tax subsidies ought to be evaluated as budget grants

Specific recommendations for improvement tax subsidies have to take into account in Government’s spending limit decisions annual evaluation of cost-effectiveness and operational performance when planning new tax subsidies their targets ought to be expressed clearly when planning tax subsidy its effects ought to be compared with those of other policy instruments (for example: direct support) “Good practice” the restricted deduction of labour costs in household work

Tax Subsidies – success story? + project was larger than average + team work (2 auditors, Hannu Rajamäki and Visa Paajanen) + NAOF bougth analysis from VATT (Government’s Institute for Economic Research) + technically everything went well (timetable and planned workdays. During the audit Finland took part into the international parallel audit of tax subsidies and transparency) - methodological co-operation with other effectiveness audits did not work, projects were too different

Success story? findings and recommendations: + very concrete findings, although the subject was abstract + system-wide findings and recommendations + findings also from single acts + VATT gave significant new information (and hopefully more reliability) + Parliament showed its interrest, there was special hearing in Finance Committee