OK, let’s go back to the drawing board and try and agree a few principles for the best, or at least the least-bad, kind of tax. Such a tax would encourage – or at least not discourage – effort and enterprise and investment in income producing assets, and it would prevent both poverty and privilege from becoming entrenched. If the tax fails these tests, it can be discarded.
a) Income tax and corporation tax, obviously;
b) National Insurance, which is a super-tax on employment income at worst and a compulsory savings scheme at best;
c) Value Added Tax, which is a tax on production, and not a tax on ‘consumption’ in any meaningful sense.
So we have to look for something which has value to people, but which is not actually ‘produced’ by any identifiable individual private enterprise.
2. We can also rule out ‘transaction taxes’ like capital gains tax or stamp duty, as these discourage efficient allocation of resources and you can avoid these by simply hanging on to something you would otherwise sell. Import duties are a barrier to free trade and make us all poorer, and again, VAT is just like a colossal import duty that treats every place of business as a foreign territory.
3. We can rule out taxes on ‘wealth’ generally (such as Inheritance Tax) because they are usually disguised income tax, as they are a small percent charge on a value that is directly proportional to the income generated (like shares or bank deposits); they discourage saving; and there is an enormous amount of hassle with valuations, possibility for evasion or taking assets abroad.
4. We have to bear in mind ‘ability to pay’ so it has to be something from which e.g. pensioners can be exempted; and it would relate to something that is reasonably well correlated with income (a ‘normal’ good) and/or it must relate to a ‘luxury’ rather than a ‘necessity’, which can be achieved by introducing a ‘personal allowance’ or individual credits to offset against the liability so that no household is taxed on ‘necessities’. The tax would be broad based and nigh universal, so that everybody (unless exempted for political reasons) pays at least something.
5. Remember that there is an advantage to taxing scarce resources or those whose quantity is fixed, because price rationing is the best form of rationing (so increasing the cost to the user encourages efficient allocation of resources). Although as a general rule ‘if you tax something you get less of it’, if something is in fixed supply, that is not a worry.
6. User charges are better than taxes, i.e. where the payment is in return for specific benefits received, and even better, if the payment compensates other people on whom the state places restrictions on the taxpayer’s behalf. Where our economic system demands that the state protect certain quasi-monopolies or local monopolies (or even infinitely small shares in a larger monopoly), it is fair game to levy taxes on it.
7. The tax would be simple to assess and collect with clear penalties for non-payment; and would be impossible to evade so that the dishonest cannot steal a march on the honest, so it must relate to something that does not need to be separately declared each year and something, which cannot be taken abroad or hidden from the taxman.
8. Assuming we want to replace most existing ‘bad’ taxes (see 1, 2 and 3 above, I’ll exclude fuel, tobacco and alcohol duties from this debate) it must be possible for this single tax to raise similar amounts in revenue, but there would have to be as few winners and losers as possible from the transition, and it would have to be simple for the ‘losers’ to rearrange their affairs to bring their liability down to something they can afford.
9. The tax would be collected with monthly payments and not deducted from wages or embedded in the price of goods, so that people know exactly how much they are paying. Politicians find it harder to increase in-your-face taxes than stealth taxes, so people would also have reasonable certainty as to how much they will pay in future. By the same token, future revenues would be stable and predictable and ‘recession proof’. It would be even better if the tax itself helped to iron out or dampen booms and busts in the economic cycle, which are largely caused by credit bubbles.
10. The tax would have no dead weight costs (i.e. would not have a Laffer Curve or discourage effort and enterprise) and would not discourage investment in the UK economy. It would also ‘go with the grain of the markets’ and prevent privatised tax collection.
11. The tax would not force people to contribute to the cost of government activities that add no value; it would encourage the government to focus spending on things that add value; and there would be automatic compensation for people who lose out as the result of those government decisions that benefit the majority but harm a minority.
12. The tax would have been tried and tested and shown to work – not just in the UK throughout its long history but also in other countries, now and in the past. Finally, just to go on the safe side, let’s check what the small government free market libertarians from Adam Smith and David Ricardo – not to mention Edmund Burke, JS Mill, Tom Paine, Winston Churchill in his younger days – all the way up to Milton Friedman said.
I have worked as tax advisor for twenty years and have been thinking about this long and hard for five years. I think that there is a tax which ‘ticks all these boxes’, but before we argue about what that tax might or might not be, I’d like to know – are these the right principles? Have I missed something important?