Economic Policy Review ISSN 1313 - 0544

Let's See Who Supports Low Just Taxes For All

Author: Svetla Kostadinova / 29.08.2007
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The 10% flat income tax that was announced in principle by the ruling coalition in the end of July 2007 is one of the best decisions so far made. The mixed reactions in regard to flat tax idea are a consequence of several constellations.

The vagueness about the details and design of the flat income tax can be a double-edged sword. It can make room for discussion in which the best solution is chosen. On the other side, interest groups, depending on the future design, can try to hinder the implementation that would not benefit the society. There is a chance also for delay or even reconsideration of the idea, or certain concessions to be made so the idea is changed substantially. Therefore, it is important to know the details as soon as possible.

Current tax deductions and government plans to abolish them provoke angry reactions from affected groups which is normal. However, this should not distract us from the overall positive effect on economy from low flat income tax introduction.

Government’ plans to compensate the most affected low-income workers are still not clear and this is important for the ruling coalition because of the forthcoming local elections in the autumn and its capacity to defend its ideas.

Opposition parties’ reactions should not be underestimated, at least because they are unique. For the first time we see how a reasonable idea that so far has been proposed by the opposition, now is questioned by itself. Whatever the reasons for such behavior, it is clear that there are few economic ideas that would lead to overall prosperity, and altogether be supported by all political parties.

Below we will try to describe the reactions and our solutions regarding 10% flat income tax as proposed at the moment – no tax deductions, no minimum non-taxable income and abolishing of all preferences.

 

The affected groups are the following:

1) Employees working under labour contract with monthly salary up to 400 leva (205 euro) – the official statistics shows that in the first three months of 2007 workers in agriculture, refining industry, construction, tourism, real estate, trade and repair, and education have average salary less than 400 leva.(the data is average but is the only one available). It is obvious that despite the “education” and at some extent “agriculture”, all other sectors have high growth rates of investments in recent years, the labor demand is constant and shadow production still significant. It is widely known that people in the above mentioned industries receive at least 50% more than the official salary. On the other hand, education sector is under the control and management of the state and municipalities and they will be compensated by the measures planned when introducing the flat tax. If we extract employed in these five sectors there are 872 410 workers with less than 400 leva monthly salary or 37.8% of total employed in the country.

The solution for this group so it wouldn’t be negative affected is higher decrease of the social security contributions – by 10% instead of 3% as planned. This way, the increased income taxation of 400 leva and below earners will be not only compensated, but there will be an increase of the their disposable income.

2) Employees working under labour contract with monthly salary higher than 400 leva – it is hard to say how many workers fall in this category. The official numbers are that people working in refinery, electricity, transport, telecommunications, financial intermediation, state administration, healthcare and social activities receive more than 400 leva per month. If we add employees in construction, real estate and half of workers in trade we end up with 1 111 834 people or 53.9% of total.

This group clearly benefits from 10% flat income tax.

3) Liberal professions working under civic contracts and people receiving copyright and license royalties – there is no official statistics for this group. Nevertheless, the National Social Security Institute data shows that exactly 4% of total social security contributions come from self-employed people. This means that tax revenues are proportionately the same, or 4% that is 52 mln. leva tax revenues out of total. We see how small is this group out of total employed population in Bulgaria.

We should not forget that liberal professions in Bulgaria still enjoy many restrictions to competitions that increase their prices. Lawyers still have preferential VAT rate despite National Revenue Office instructions. They enjoy minimum prices determined by the Supreme Bar Office.

Notaries also enjoy fixed prices, as well as “guaranteed” work because of the geographical location restriction for notaries’ number per population. Pharmacists also have fixed prices, restrictions for profession (length of service requirement, limitation for number of pharmacies owned by one pharmacist). The auditors and accountants enjoy fixed prices also.

The solution is greater decrease by 10% of social security contributions that will compensate the abolishment of tax deductions available at the moment for this group. This should be the only demand for all liberal professions and not keeping the present situation and rejection of flat tax idea.

4) State budget – not surprisingly, despite lack of official estimations and analysis about flat tax reform effects, the result will be at least keeping the budget revenues at current state, and more realistically – increase of income tax revenues.

 

The overall conclusion is that there are people already paying effectively 10% income tax and they should support that this becomes reality for all workers in Bulgaria that should be combined with further 10% decrease of social security contributions.

We, from the Institute for Market Economics, always have said that:

-          tax reform should include tax and social security contributions in order to have real effect

-          the basic argument is that people have higher disposable income that they decide by themselves how to spend

-          only such comprehensive reform is just and fair, and reduces tremendously the competition for privileges and living on someone else account.

 

This is how it should be done.

 

An example

Below we present the effective labor tax burden of three people:

1)      employee working under labour contract

2)      employee working under civic contract

3)      employee receiving copyright and license royalties income

The three workers receive 1 400 leva monthly salary (716 euro)

 

2007

Labour contract

Civic contract

Copyright and license royalties income

Salary

1 400

1 400

1 400

Social Security Contributions

412

294

73

Income tax

180

107

62

Total tax burden

592

401

135

As % of salary

42.3%

29%

9.68%