Business Today

A Super-Foolish Idea

Arvind P Datar | Print Edition: Feb 3, 2013

It is becoming increasingly fashionable to tax the super-rich. The new French President, Francois Hollande's main election plank was to levy a 75 per cent tax on the super-rich. This has resulted in a mini-exodus from France to Belgium and even, of all places, to Russia. In the run-up to the US Presidential election, President Barack Obama repeatedly harped on the need to tax the super-rich and how his rival Mitt Romney paid relatively low taxes. The remedy to avoid the fiscal cliff is to squeeze the millionaires dry.

If the West proposes taxing the superrich, can India be far behind? This is yet another case of mindlessly bringing to India whatever is done in the West. If Scotland Yard has a Serious Frauds Office, so must we. If there is a cost audit system for indirect taxes in Canada, it must be copied in India.

POLL:Should you pay as much tax as Mukesh Ambani?

Arvind P Datar
Arvind P Datar
So is the case with numerous Accounting Standards. We never pause to consider whether such steps will work in India. The astonishing truth is that this step has never worked in human history. What is even more astonishing is that millions of people, including policy makers, believe that this super-foolish idea will work - if it is tried one more time.

The theory of bringing in equality and equity to society by taxing the super-rich is similar to Marxist ideology. It sounds delightful on paper but is utterly unworkable in practice. Marxist practices have ruined the Soviet, Chinese and North Korean economies with the attendant slaughter of 60 million of their own people. And yet, this doctrine still has believers, who think it may still work if tried one more time. The current thinking is to impose an additional tax on those earning more than Rs 15 lakh a year. It is sincerely hoped the idea is nipped in the bud for more reasons than one.

Historical failure: The practice of taxing the rich has been tried in India with disastrous consequences . At their zenith, income tax rates soared to 97.75 per cent and this achieved the unintended twin objectives of massive tax evasion with serious erosion of our national character. Large scale cash transactions became the rule, fueling a huge black market economy. Dean Roscoe Pound of Harvard University has said that if a large section of the population violates a law and society does not condemn it, the fault lies with the law. It is absurd to expect any human being to work hard and part with a major portion of his earnings. There is not one instance in history where taxing the super-rich has worked as part of the solution to an economic crisis. The evidence, on the contrary, shows that it has only compounded the problem.

Lower taxes, higher revenues: Another lesson of history is that rates of taxation are inversely proportional to the total collection of taxes. Lower rates of taxes have always resulted in higher revenues and greater compliance with tax laws.

In a war-ravaged economy, Ludwig Erhard, who shaped the German economic revival after World War II, had the courage to adopt a regime of lower taxes and very few controls. Erhard famously said he would let the money and Man loose and they would make Germany great. England did otherwise and suffered the consequences. Instead of following the Erhard route which has worked, we insist on repeatedly following the path of increasing taxes.

In some European countries, a flat tax rate was introduced. When the maximum rate was reduced from 77 per cent to 15 per cent, total tax collections actually went up.

Wrong focus on direct taxes: Taxing the super-rich primarily involves increasing the rates of personal income tax or property taxes. It ignores what actually happens with the incomes of the super-rich. Higher expenditure on goods and services results in more revenue being generated through indirect taxes. And if the taxes are low, there is no incentive to conceal either income or the acquisition of goods and services. Beyond a point, most income is then invested with financial institutions which, in turn, helps fuel industrial and economic growth.

At their zenith tax rates in India soared to 97.5%, leading to massive tax evasion and erosion of the national character

Taxing the super-rich will drive income underground. There is greater incentive to buy goods and services without accounting for it. Indeed, savage rates of indirect taxes, levied again and again on the same transaction, has led to the practice of not reporting sales and purchases of goods and services. The introduction of GST will result in a huge boom in the black market economy.

The dishonest rich: It is axiomatic that a small percentage of the population in any country will always control a major portion of its wealth. The top five per cent will always earn more than 50 per cent of the total income and generate most of a nation's wealth. Heavily taxing this class will result in the creation of a class of the dishonest rich. If a man cannot become rich honestly, he will do so dishonestly. Alternatively, if he has a sense of values and ethics, he has no option but to escape to other countries. The migration of a large number of India's brightest engineers and doctors was in no small measure due to our socialist principles and heavy taxes.

Overtaxing the honest tax-payer:
The tragedy of the Indian tax system is that the honest tax payer is savagely attacked again and again. The dishonest tax payer seldom pays his tax dues. The areas of tax evasion and generation of black money are wellknown. Have we made any attempt to check tax evasion in sectors like liquor, real estate, cinema and private professional colleges? These categories continue to indulge in large-scale tax evasion without any action by the Income Tax Department. By taxing the super-rich, we will only place a further premium on dishonesty and punish the honest tax payer.

If the object is to earn greater revenue, then taxing the super-rich will be counterproductive. The marginal gain in revenue, will be temporary and there will be greater loss of revenue through lower collection of indirect taxes. It will be better if the Central Government re-examines the myriad wasteful welfare schemes. A five per cent reduction in these will not only eliminate the need to tax the super-rich, it may even result in reducing rates of our indirect taxes.

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