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Principles of Taxation Summary
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- Principles of Taxation
- Établissement
- Katholieke Universiteit Leuven (KU Leuven)
Excellent summary . Includes everything mentioned in class.
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Part one:The fundamental principles of taxationWhat is a tax?
Definition: a tax is a payment in cash or in kind to a public authority. It is important to note:
1. Payments on the basis of contractual obligations are NOT taxes. This includes contractual payments
between private parties, and contractual obligations between private parties and public authorities.
2. Payments on the basis of a non-contractual liability of tort vis a vis private parties or public
authorities are not taxes.
3. Gifts, donations, or voluntary payments to public authorities are not taxes.
Therefore: a tax is a mandatory, non-contractual and non-tort payment to public authorities. BUT, a tax
must have a legal basis.
Remark: This is to say that financial sanctions for crimes or misdemeanours are not taxes. (Non-tort)
Conditions for a tax
1. A tax is a payment without consideration/compensation, in other words, tax does not offer or come
with a quid pro quo.
2. A tax is a unilateral contribution to the budget of the public authority which is entitled to spend it for any
public purpose. The taxpayer neither has the right to claim some form of personal compensation for the
amount of the tax paid, nor any right to decide how the payment of his tax is spent by public authorities.
3. The public authority is sovereign in spending the taxes collected from the taxpayer. Control on spending
by the public authority is exercised by parliament elected by citizens.
To conclude on the definition of a tax:
1. A mandatory contribution:the taxpayer has no choice but to pay the tax, even when the taxpayer
disagrees with the way the government spends the money. From the moment a taxpayer falls within the
legal scope of application of the tax, the tax can be imposed by force. The only way to avoid the tax from
being due is to place oneself in a factual or legal situation in which the tax is not due. (Deductions for
example)
2. In accordance with the rule of law:a tax can only be levied in accordance with the rule of law, so the
tax needs a legitimate legal basis, which we call with the principle of legality.The essential elements of a
tax must be laid down in the tax statue voted by parliament ( who and what to tax), tax base, tax rate,
administration & procedure. On all these matters, all citizens must give their collective consent through
the election of a parliament, which is the basic principle of democracy. Giving collective consent. ( Only
individuals vote, not legal persons!)
3. Imposed by the public authority on its subjects:the ultimate foundation of imposing a tax is the
authority which a government exercises over its subjects.In order to be a taxpayer, one must be subject to
a government ( central, regional or local) and taxable subjects are individuals and legal
persons(including NGOs).
4. For the purpose of public spending: taxes cannot be reserved for particular expenses in the private
interest. This means that these are subject to parliamentary control on expenses, the government is free to
determine for which public purposes taxes are to be spent. The spending in taxes is a discretionary
decision, subject to political arbitrage in parliament.
5. Without any personal compensation:the government does not owe the taxpayer anything on the basis
of the tax. In change, it does provide law and order, administration and other public services. But that is
not in function of the amount of taxes paid, it is because it has authority on all citizens and persons on its
territory.
6. Dissuasive taxes: climate or health taxes are often motivated by specific goals, but a direct link between
a tax and the amount spent on a specific goal is very rare.
Two main nexuses of taxation: how can governments exercise authority
1. Over persons
2. Over territory
Taxes vs social security contributions
Social contributions are generally mandatory payments imposed by law on the working population.
Social protection is provided by semi-public institutions based on mandatory social contributions in EU.
BUT, unlike taxes, social contributions entitle the contribution to specific social benefits so there is some
form of compensation, and only contributors have access to benefits.
, However, there is no direct proportional link between contributions and benefits: benefits are distributed
on the basis of need(principle of solidarity and insurance).
Toll charges and fees vs taxes
User fees and toll charges are payments for services or goods provided by public authorities.
They are not taxes, because there is a clear and specific compensation for the payment.
You can avoid them by not making use of the service.
The price is not a market price, but it is unilaterally determined by public authority.
Why do we tax: the benefit principle
The Benefit Principle: the benefit principle justifies taxation on the basis of the use made or the benefit
derived by the taxpayer from government goods and services.Those who use and benefit from government
services should pay taxes, and those who make more use should pay more taxes. Taxes are the price we
pay for a civilised society”.
However: the prima facie conflict: The citizen is entitled to government services not because he pays
taxes to that government, but because he is a citizen to that government. As the payment of taxes do not
entitle to personal compensation, based on the presumed benefit, it seems as it is in function of amount of
earnings and wealth.
Why do we tax: the principle of sovereignty
Sovereignty:the right for a statute regulate its affairs through its governmental institutions in the most
suitable way and allows a state to impose/enforce rules against persons who have a connection with that
state.
This principles justifies taxation on the basis of the relationship of subordination between the taxpayer and
the government of a state.
The sovereignty principle is a solid basis for taxation in connection with the legality principle.
No taxation without representation.
How do we tax: ability to pay & equality
The ability to pay principle should be considered together with the equality principle: Equals are taxed as
equals and unequals are taxed unequally
1. Horizontal equity:persons who are in a comparable situation(like income/wealth) should pay the
same tax.
2. Vertical equity: persons who are not in a comparable situation should not pay the same tax.
Implementing vertical equity: how differently should incomparable taxpayer be treated?
Law of diminishing marginal utility: the loss in utility of a tax payment on extra income or wealth
diminishes with the increase in income or wealth: this is the idea behind a progressive tax: the higher the
income/wealth , the higher the tax should be.
• But in practice, only personal income taxes levied on individuals are progressive: income taxes on
companies are seldom progressive but use one flat rate.
• Consumption taxes(especially VAT): essential goods have lower rates than non-essential(even luxury).
Recently, there is a political debate on whether gas and electricity should be considered essential goods
and be taxed at lower VAT rates.
How do we tax: the principle of legality
The principle of legality means that a tax is only due when the essential elements of the tax are
determined by statute.
It is essential that this statute is approved by the elected representatives of the people who are subject to
the tax so by the parliament vote.
• However, it is impossible to provide all details necessary for taxation in the statute. Therefore it is
important that a tax system contains all executive decrees, administrative regulations and rulings
supplementing the statue. This is usually done by Ministry of Finance.
• In case of disputes between the Min of Fin and a taxpayer on the application and interpretation of tax
statutes, implementing regulations etc. the judiciary decides in the end on the dispute
The essential elements of a tax:
In general, taxes are considered to be very different from one country to another
In modern society, the major taxes always have the same basic structure.
,Essential elements: Personal scope of the tax
These are the rules which determine who the taxpayer is
• Individuals or family units(can be residents or non residents): personal income tax(PIT), inheritance
tax, gift tax
• Legal entities(residents or non residents): corporate income tax(CIT),tax on non-profit entities, bank
taxes, insurance taxes, mining taxes
• Individuals or entities acting like economic agents in the market: VAT/GST
• Consumption taxes: VAT/GST, excise duties on fuel, tobacco and alcohol
• Environmental taxes: the polluter pays principle
Essential elements: Material scope of the tax
Determines the taxable event
• Earning income in a taxable period(or accounting year): PIT,CIT, tax on NGOs
• Private consumption: VAT/GST
• The transfer of real property: land tax
• Transfer of financial assets:financial transaction tax
• Excise duties: sales of alcohol, tobacco, petrol
• Donations of goods: gift taxes
• Transfer of assets upon death: inheritance tax
• Providing digital services: digital service tax
Essential elements:
Tax base: Rules determining the object of the tax, so the calculation basis
Tax rate: different types of tax rates, depending on the object of taxation in the tax base
• Lump sum taxation and specific amount: XXX$ per thousand cigarettes
• Proportional and progressive rates on the amount of income, or on the value of asset, inheritance or
sales price
• Taxes may be graduated in function of other parameters like excise on alcohol, formulas that take
account of CO2 and emission of cars
Essential elements: compliance, procedural rules and sanctions
Rules on determine the taxable period(calendar year, accounting period for PIT or CIT), quarter or
month(VAT/GST), reporting, assessment, payment and collection
Rules on evidence and specific or general anti-avoidance rules
There are rules on sanctions for non-compliance and tax crimes
1. Administrative fines: breaches of tax law without fraudulent intent
2. Criminal sanctions(emprisonement): breaches with fraudulent intent
3. Often factually driven(evaded taxes, international dimension, tax havens, regularity, used of
forged documents, use of advisors) - fraudulent intent.
Essential elements: structure of a tax system
The legal structure of the tax statutes varies.
• Some countries have one single general tax code: France for example: code general des imports,
including most important taxes
• Other countries have a general tax law containing general tax principles and procedural rules that
apply to all major taxes and then specific statues per tax: Germany
• Most countries have different statutes per tax: one general income tax law including all income taxes
Direct vs indirect taxes
1. Direct taxes: tax is due on an enduring situation during which the taxpayer generates income or
wealth and is assessed on income earned/wealth accumulated during a reference period:
PIT(calendar year) & CIT(account year)
2. Indirect taxes: tax is due on separate transactions(even if taking place very regularly) and is
assessed on every single transaction: VAT, Gift Tax, Inheritance tax, Real property tax.
Transferable and non transferable taxes: does the taxpayer actually bear the burden of the tax?
1. Non-transferable taxes: inheritance tax is due by the heirs on the value of the inherited property so
it is difficult to see how they can transfer the payment of the tax to somebody else. Also tax. On
, wages earned by salaried persons(PIT), the tax is due by the wage earner so it is difficult to see how
they can transfer that?
2. Transferable taxes: excise duties are due by the producer of fuel for cars, tobacco and alcoholic
beverages but added to the price at which they sell their products and ultimately its borne by end
consumers.
3. Difficult cases: CIT: founder of IKEA: we have always viewed tax as a cost, equal to any cost of
doing business.
Functions of taxation
1. Financial function: generating revenues for the budget of a state’s government in view of public
spending
2. Redistributing function: highest income/highest taxes. Progressive taxes and inheritance taxes.
3. Behavioural control function: tax incentives to steer behaviour positively like dissuasive taxes or
tax benefits for green investments.
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