Back to Basics: The future of tax regimes

@LawAhead

In the fast-paced economic environment of the 21st century, many taxation regimes have strayed from the underlying principles of effective taxation policy. Now, more than ever, it is essential for governments across the globe to build policy around taxation foundations established to promote economic growth and stability.

Authors: Maité Camilo and Victor Kimang’a, LLM Candidates at IE Law School´s Master in Global Taxation.

The article highlights the key discussion points discussed at LawAhead´s workshop titled “Will Brazil claim a new spot in the global tax arena?” led by Luis Eduardo Schoueri – Professor of tax law and vice president of the Brazilian Institute of Tax Law, who addressed the current political and tax environment in Brazil.

 

The pillars of effective taxation

The argument for the importance of tax revenue in an economy has been well established since the 18th century. Tax revenue emerged as a key pillar in the economic development of countries and as a significant source of wealth for governments. Adam Smith in his masterpiece, The Wealth of Nations, outlines four underlying principles for the effective administration of a tax regime. These principles referred to as the canons of taxation, have been expanded upon since their advent. Two of the key underlying principles worth noting are convenience and simplicity.

According to these principles, the imposition of a tax should be structured to mitigate inconvenience to the taxpayer. A good taxation policy should ensure taxes are collected only after the relevant revenue earning activity has occurred, for example. Furthermore, taxes should be uncomplicated in their design. They should be easily comprehended by taxpayers in order to both protect taxpayers against unfair treatment by tax authorities and to discourage tax evasion.

How the pillars have crumbled

Currently, trade and business practices are evolving at a frenetic pace primarily due to advancements in technology. Globally, these changes have resulted in more complex tax compliance requirements for businesses, a clear deviation from the underlying principles for the effective administration of a tax regime. This complexity in taxation policy has increasingly led to inefficiencies in trade, specifically in developing and emerging economies; it is costly for businesses and is an overall inhibitor to economic development. A fair example of this argument can be seen in Brazil.

According to TMF Group’s Financial Complexity Index for 2017, Brazil ranked number two among the most complex jurisdictions worldwide, and number one in the Americas.[1] And according to the Global Competitive Report 2017-2018, issued by the World Economic Forum, Brazil ranked fourth among the most inefficient tax systems right behind Italy, Argentina and Ecuador, which ranked number one.[2]

Many experts seem to agree that the main reason behind the distortion of Brazil’s tax regime can be found in its system of governance: federalism.[3] The Brazilian Constitution of 1988, which granted autonomy and financial independence to the central government, states and municipalities to levy taxes, created a legal framework that promoted (1) heightened competition between all three levels of the federal system to attract more businesses and increase revenue; and (2) a variety of consumption and property taxes—imports and exports included—at all three levels of government.[4] Other aspects have also played an important role, such as the country’s dispersed and complex legislative system.[5]

Reform around the corner?

Notwithstanding, the future of Brazil’s taxation system looks bright from our perspective. There is current political goodwill towards a tax reform agenda that aims to return to the basic principles of taxation. Some of the most relevant amendment drafts include (1) the unification of various consumption taxes into one valued added tax,[6] (2) the reduction of the corporate income tax rate from 34% to 21% or 22%; and (3) the introduction of a dividend and profit distribution tax.[7] The approval of these reform measures will be in the hands of the new government.

On a global scale, it is evident that there has been a steady increase in trade in the past decade, particularly in developing economies. These economies have experienced significant growth, seeing an increase from less than 1.5 trillion US dollars in 2000 to a little over 4 trillion US dollars in 2014.[8] This increase in trade must be complemented by enabling tax regimes to promote efficient trade practices leading to economic growth.

It is imperative for tax authorities around the world to understand the overarching objective of a tax regime, which is to promote sustainable economic development. Aligning the formulation of tax policies with the underlying principles of taxation will ensure this objective is met.

 

About the Authors

Maité Camilo is a lawyer in the Dominican Republic and is currently an LLM Candidate at IE Law School (Master in Global Taxation) in Madrid. She has prior experience having worked at Ernst & Young’s International Tax Services Department.

Victor Kimang’a is currently an LLM Candidate at IE Law School (Master in Global Taxation) in Madrid. He has prior experience having worked at PwC Kenya’s Indirect Taxes Department.

[1] AWASTHI, Divyansh, Business can be ‘taxing’: The 2017 Financial Complexity Index Rankings, 15 June 2017, https://frontera.net/news/global-macro/business-can-be-taxing-the-2017-financial-complexity-index-rankings/, accessed 18 October 2018. For reference purposes, the TMF Group’s Financial Complexity Index for 2017 examined 94 jurisdictions worldwide, and took into account four main pillars: compliance, reporting, bookkeeping, and tax.
[2] World Economic Forum, The Global Competitive Report 2017-2018, http://www3.weforum.org/docs/GCR2017-2018/05FullReport/TheGlobalCompetitivenessReport2017%E2%80%932018.pdf, accessed 18 October 2018.
[3] AWASTHI, Divyansh, The 3 countries with the most complex tax systems in the world, 15 June 2017, https://frontera.net/news/global-macro/the-3-countries-with-the-most-complex-tax-systems-in-the-world/, accessed 18 October 2018. 
[4] Ídem.
[5] Lecture: “Brazil Tax Treaty and Trade Balance: International Relationships in the Digital Era coupled with a Pre-Election Environment” from LawAhead – IE Law School, 10 October 2018. Participants: Luis Eduardo Schoueri in conversation with Ignacio Longarte, moderated by Giulio Allevato.
[6] Idem.
[7] https://www.taxathand.com/article/10370/Brazil/2018/CIT-rate-may-be-reduced-and-tax-on-profit-distributions-introduced-, accessed 18 October 2018.
[8] https://www.wto.org/english/res_e/statis_e/wts2016_e/wto_chapter_06_e.pdf, accessed 19 October 2018.