Bernd Genser University of Konstanz Department of Economics 1 Dual Income Taxation: Implementation and Experience in European Countries Bernd Genser (University of Konstanz) Abstract Although the Nordic Dual Income Tax (DIT) has not been adopted by other European states, subsequent tax reforms (e.g., in Austria, Belgium, Italy, Greece, and the Netherlands) indicate a move towards schedular income taxation. Revealed preference to leave the traditional Schanz/Haig/Simons standard makes DIT a promising blueprint for the EU and a stepping stone for efficiency enhancing business tax reforms in Europe.

Dual Income Taxation: Implementation and Experience in European Countries Bernd Genser (University of Konstanz) EPRU, 2005

Bernd Genser University of Konstanz Department of Economics 3 Dual Income Taxation 1.The pros and cons of the comprehensive income tax 2.The case for a dual income tax (DIT) 3.The implementation of DIT in European countries 4.Problems of DIT 5.Concluding remarks

Bernd Genser University of Konstanz Department of Economics 4 The pros and cons of the comprehensive income tax Comprehensive income (Schanz/Haig/Simons standard) is acknowledged as the best economic indicator of ability-to-pay comprehensive income can be transformed into consumption and consumer welfare all forms of income are treated alike horizontal equity vertical equity

Bernd Genser University of Konstanz Department of Economics 5 Problems of comprehensive income taxation Violation of horizontal equity tax burden on the same present value of lifetime income depends on consumption pattern CIT favours human capital accumulation and discriminates against real capital accumulation

Bernd Genser University of Konstanz Department of Economics 6 Problems of comprehensive income taxation Proper calculation of comprehensive income assessment of capital gains (taxation upon realization rather than accrual) separation of nominal and real returns (taxation of nominal returns instead of proper inflation adjustment)

Bernd Genser University of Konstanz Department of Economics 7 Problems of comprehensive income taxation Tax preferences (tax base erosion) retained corporate profits (deferred) expenditure taxation of state pensions exemption of pension funds exemption of life insurance savings exemption of returns on owner-occupied housing

Bernd Genser University of Konstanz Department of Economics 8 The case for a dual income tax (DIT) Basic features of a dual income tax separation of income into - capital income - earned income (labour income) flat tax rate on capital income progressive tax schedule for earned income schedular income tax (rather than comprehensive income tax)

Bernd Genser University of Konstanz Department of Economics 9 Why is the DIT attractive? neutrality (level playing field) low proportional income tax on all capital income eliminates incentives towards investment in low taxed assets mitigation of inflation real capital losses due to taxation of nominal returns become less likely protection against capital flight low capital tax rates reduce incentive for international tax arbitrage

Bernd Genser University of Konstanz Department of Economics 10 Why is the DIT attractive? stimulation of savings low tax on interest reduces present value of future consumer prices and incentive for debt financing of current consumption collection costs proportional capital income tax can be raised as a final withholding tax tax equity closing tax loopholes reduces after-tax income disparity

Bernd Genser University of Konstanz Department of Economics 11 NorwayFinlandSwedenDenmark DIT reform PIT rate on capital income on earned income – – – / Basic allowance for CIYesNo Yes Offset of negative CIFirst bracketTax credit yes Integration of CIT and PITFull CIT imputation Reduced PIT rate (1994) Reduced PIT rate CIT rate Additional PIT - dividends - capital gains 0 28 (net of ret.earnings) /43 Withholding tax - dividends - interest Net wealth tax0.9 – No Table 1 The Nordic DIT (2004 tax rates in %) Source: BMF (2003), BMF (2005)

Bernd Genser University of Konstanz Department of Economics 12 Table 2Final Withholding Taxes on Capital Income (2004 rates in %) AustriaBelgiumItaly Tax reform PIT rates - Final withholding tax - Earned income / ,5/ – Basic allowance for capital incomeFiling option No Offset of negative capital incomeNo Integration of CIT and PITReduced PIT rate CIT rate34/2534 (35.02)33 (37.25)/19 Additional PIT - dividends - capital gains ,5 27 Withholding tax - dividends - interest ,5 12.5/27 Net wealth tax %No Source: BMF (2003), BMF (2005)

Bernd Genser University of Konstanz Department of Economics 13 Table 3Special Tax Regimes on Capital Income (2004 rates in %) Source: BMF (2003), BMF (2005) NetherlandsGreece Tax reform PIT rates on dividends PIT rates on interests PIT rates on earned income 30 (Box 3)/25 (Box 2) 30 (Box 3)/25 (Box 2) / Basic allowance for CIfor Box 3No Offset of negative CINo Integration of CIT and PITReduced PIT rate Dividend exemption CIT rate Additional PIT on dividends Additional PIT on capital gains30 (Box 3)/25 (Box 2)No Withholding tax on dividends Withholding tax on interest 25 No No 15 Net wealth tax %1.2 (levied as presumptive PIT) No

Bernd Genser University of Konstanz Department of Economics 14

Bernd Genser University of Konstanz Department of Economics 15

Bernd Genser University of Konstanz Department of Economics 16 Problems of DIT separation of capital and labour income for non-incorporated business separation of capital and labour income for small corporations with active owners political acceptance discrimination of future consumption

Bernd Genser University of Konstanz Department of Economics 17 Concluding remarks DIT is not an optimal income tax! DIT mitigates economic problems of the comprehensive income tax DIT creates efficiency gains

Bernd Genser University of Konstanz Department of Economics 18 Concluding remarks DIT-type schedular income taxation has got political support in EU countries DIT allows for a gradual shift from comprehensive income taxation (uniform tax on capital and earned income) to personal expenditure taxation (zero tax on normal capital returns)

Bernd Genser University of Konstanz Department of Economics 19 References Boadway, R. (2004), „The Dual income Tax System, An Overview“, CESifo DICE Report 2 (3), 3-8. Bundesministerium der Finanzen (2005), Die wichtigsten Steuern im internationalen Vergleich, Monatsberichte des BMF, Cnossen, S. (2004), „Reform and Coordination of Corporation Taxes in the EU: An Alternative Agenda“, Bulletin for International Fiscal Documentation 58, Eggert, W. and Genser, B. (2005), „Dual Income Taxation in EU Member Countries“, CESifo DICE Report 1 (4),

Bernd Genser University of Konstanz Department of Economics 20 References Keuschnigg, C. and Dietz, M. (2004), „A Swiss Dual Income Tax. For More Neutrality in Company Taxation“, University of St. Gallen. Sørensen, P. B. (ed.) (1998), Recent Innovations in Nordic Tax Policy: From Global Income Tax to the Dual Income Tax, in P. B. Sørensen (ed.), Tax Policy in the Nordic Countries, (London: Macmillan). Spengel, C. and Wiegard, W. (2004), “Dual Income Tax: A Pragmatic Reform Alternative for Germany”, CESifo Dice Report 2 (3),