TAKING STOCK: Flatten the income tax Countries across the globe are recognising that the current system of taxation is unfair, complicated, hindering growth, promoting corruption and allowing the politically-connected to manipulate the tax code for their own benefit. Not that the world is sitting quietly by. In a growing number of countries, economists and others are increasingly moving to an alternate – a low flat tax which corrects the flaws in today’s system. Amazingly, the trend towards flat taxation come from the countries of the former Soviet communist bloc. It is ironic that the people who believed that profits have no role to play in an economy, and were happy to confiscate 100 per cent of it, are today in the vanguard of a huge tax reform and reduction movement. A flat tax is simple, with a single low rate usually of less than 20 per cent though personally I would favour it to be 10 per cent or less. The best flat rate is zero per cent, but, since that is unlikely to happen anytime soon, we will not discuss it. A low flat rate reduces the penalties against work, entrepreneurship and risk taking. Productive behaviour is rewarded, not punished. A flat tax ends complications which waste taxpayer’s time. Unfortunately, no study has been commissioned in Nepal to estimate the man-hours spent in complying with its tax code, fighting the taxmen in the courts, and in trying to avoid and evade. The US’s Internal Revenue Service (IRS) which collects taxes on income has itself admitted that taxpayers devote 6.6 billion hours each year in filing their tax returns. By all accounts this understates the time and money spent in compliance. Complexity is a hidden tax which costs the American taxpayer upwards of $100 billion every year. The tax code is so complex that even tax lawyers and IRS officials make mistakes. A study had revealed that enquiries with the IRS result in erroneous answers over 50 per cent of the time. A flat tax would end deductions, credits, depreciation, exemptions, loopholes and everything else which gives discretion to the tax officers and a headache to the taxpayer. Income would be taxed on the cash which is earned. Period. If assets are purchased by a business, they would be exempt from tax, there would be no fiction of income created by allowing only a part of the assets to be written off as depreciation. Immediate and full deduction as when costs are incurred would be allowed. Thus bias against capital formation would end. Double taxing of saving and investment too would end. This means: no taxes on death, capital gains, or on dividends. Tax under a flat tax regime means a tax on net cash income only. This makes for fairness, simplicity, and results in a growing economy. How simple does simple become? In Nepal, instead of complications which result in assessments being delayed for years on end, tax returns would be the size of a postcard and assessments immediate. Has this happened anywhere? Yes, typically in countries which have a simple flat tax, returns are postcard-sized forms which can be filled in by anyone – even by a street vendor with no education. The flat tax is an idea whose time has come. It began with Estonia – a small former Soviet bloc country – introducing it for the first time in 1994. From there it spread to other Baltic republics. In the mid 1990s Latvia and Lithuania both enacted a flat income tax in addition to other free market reforms. As this significantly boosted growth in these countries, Russia, in 2001, stunned the world by moving to a 13 per cent flat income tax. Putin, its president, had learned fast from his neighbours and had taken the bold step – it paid off handsomely. Not only did Russia’s economy grow – tax collections too went up by over 50 per cent in just two years. Serbia, Slovakia and Ukraine immediately followed suit while earlier this year Romania too joined the bandwagon and so did Georgia with a 12 per cent flat tax – the lowest in the world. The number of countries moving to a flat tax grows by the month. Will Nepal wake up to its potential and enact a flat income tax of 10 per cent? (The writer can be contacted at: everest@mos.com.np)