Tax adjustment with income distribution

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By Róber Iturriet Avila and João Batista Santos Conceição*

The Household Budget Survey (POF) recently released by the Brazilian Institute of Geography and Statistics (IBGE) shows that 36,3% of household budgets are spent on housing, 18,1% on transport and 17,5% on food. The POF also shows that almost 25% of the income of the poorest comes from pensions and social programs. A factor that portrays the Brazilian scenario, in which the reduction of income inequality is more linked to social security benefits and spending on health and education than direct taxes.

Brazilians who are among the poorest 10% spend 32% of their income on taxes, with 28 percentage points of these taxes paid being indirect taxes. On the other hand, income transfer not only impacts income distribution, but also economic activity, given that the propensity to consume is greater among the poorest. For every R$1.000,00 transferred from the richest to the poorest, the variable “household consumption” would increase by R$730,00.

The regressive tax system, therefore, is not only harmful for the lower and middle classes, but also for economic activity itself. By taxing production and trade, to the detriment of income and equity, the cost of goods and services increases, harming the production system as a whole.

The Brazilian collection of direct taxes is lower than the average of the eighteen countries in Latin America. The share of taxes from income, profit and capital gains in 2016 was higher only than Paraguay and Costa Rica. We lag behind some countries in Africa and Asia. The maximum Brazilian Individual Income Tax (IRPF) rates explain this picture: 27,5%, since 1997, one of the lowest even among developing countries. In comparison with Latin America, the maximum rate of this tax is lower than that of Chile, Argentina, Ecuador, Mexico, Venezuela, Colombia, El Salvador, Nicaragua, Peru and Uruguay.

The second factor that reduces the IRPF rate is the exemption of dividends, a true Brazilian tax jabuticaba. It is always worth repeating that, among the 34 countries that make up the OECD, only Estonia and the Slovak Republic exempted individual dividends. The 1996 exemption in Brazil was intended to mitigate the effects of double taxation of profits and dividends on individuals, which would supposedly attract capital flows and encourage investments in the country (trickle-down), an idea already outdated even among the hosts of frontier liberalism. From a legal point of view, it was not a question of double taxation, the subjects subject to the collection of Corporate Income Tax (IRPJ) and Social Contribution on Net Income (CSLL) charged on dividends are different. In the first case, legal entities and, in the second, individuals.

The exemption of dividends ends up reducing the rate even further, which is based on the greater contribution of the richest people, which also serves to redistribute income through public services. The exemption allows self-employed professionals who form micro-enterprises to receive less onerous tax treatment than that which would be given if their income were accounted for as coming from work (as shown in the graph below). The data show that micro-entrepreneurs, self-employed and self-employed professionals totaled 7,2 million declarants, while private sector employees reached 8,2 million.

The third factor that contributes to the reduction of the rate is the rebates for private expenses. Medical expenses were BRL 70,2 billion and education expenses reached BRL 21,2 billion. There are some occupations of public servants of the Brazilian State, which, in addition to being among the highest averages of income and net worth, were also the occupations that most reduced expenses in the IRPF. The amount of deductions made by attorneys and prosecutors of the Public Ministry and by members of the Judiciary Power and the Court of Auditors reached R$ 760 million. The foundation of the IRPF is to redistribute income through public services and not to subsidize private and individual services.

Regarding the set of taxes levied on property, the tax on inheritances and donations is totally misaligned internationally. The low rate of 8%, fixed during Fernando Collor's government, contributes only 0,4% of the total tax collection. There are other taxes that also contribute to the low share of property taxes in revenue. Brazil is an extensive country in terms of territory and made up of vast rural areas, but data from the Federal Revenue Service of Brazil indicate a participation of the Rural Territorial Tax (ITR) of 0,1% in tax collection.

Another issue is the lack of regulation by the National Congress of the Tax on Large Fortunes (IGF) provided for in the Constitution of the Country since 1988. The study by Antônio Freitas indicates that about a third of the legislators themselves would suffer the incidence of the tax, if there were IGF from of BRL 3 million.

According to IRPF declarations for the year 2016, 1.549 beneficiaries received an average of R$11,7 million in inheritance or donation in the form of equity transfer. These paid a maximum rate of 8%, and only ten states in Brazil reach this level of charge. These same beneficiaries declared having paid an effective average rate of 0,4% on IRPF, having an average annual income of R$21,5 million and an average net worth of R$67,2 million.

The main beneficiaries of inheritances and donations in Brazil are producers in agricultural exploration, presidents and directors of industrial companies. In addition to paying a low rate when receiving the inheritance and donation, the first are the same ones that contribute only 0,1% in the ITR, while the second are the biggest beneficiaries with the exemption of dividends.

Inheritances and donations reveal two implications for inequality. The first is to pay low rates when receiving goods and rights. The second is that they have a high percentage exempt from taxation, contributing proportionally less to the IRPF. The combination of these factors consolidates the high concentration of assets in Brazil, given the influence that inheritances and donations have on future generations and on incomes throughout life.

Antônio Freitas estimated that if the average effective rate of tax on inheritance and gift in Brazil (3,7%) was equal to that of the United States (29%), for example, the additional collection could reach R$ 31,9 billion annually , surpassing much of the R$7,3 billion raised in 2016. Freitas also estimated effective IGF rates of 0,3% to 2% for Brazil. The collection would be R$ 40,7 billion.

The estimates by Sérgio Gobetti and Rodrigo Orair of taxation of dividends along the same lines in force until 1995 – with a linear rate of 15% – would bring R$ 53 billion to the public coffers. If taxation were progressive, with the same IRPF rates, the collection would reach R$ 70 billion. Gobetti and Orair estimated revenue with a maximum IRPF rate of 35%, as it was in countries like Argentina, Ecuador, Mexico and Turkey in 2016. The change in the rate would bring an increase in revenue of at least R$ 90 billion.

All the cases listed above denote that there is indeed vast space to adjust accounts for revenue without increasing the tax burden. Greater progressivity in the tax on inheritance and donations, increase in the maximum rate of the IRPF, institution of the tax on large fortunes, return of taxation on dividends, the review of deductions in education and health in the IRPF would bring approximately R$ 324 billion in collection. With distributive, social and also economic effects, given that the redistribution of income would have an effect on consumption and, therefore, on economic growth.

The thesis of less taxation on capital in favor of more investments does not find consistent empirical support. These models and the theorems that became popular from 1980 onwards have been questioned, even by those who supported the propositions of lower tax progressivity, as is the case of Anthony Atkinson, Joseph Stiglitz and James Mirrlees. The behavior of private investment in Brazil has been more one of complementarity with public investment. The series of measures adopted from the 1990s onwards did not increase private investment, however, they seem to contribute to income and equity inequality.

*Rober Iturriet Avila is a professor at the Department of Economics and International Relations at the Federal University of Rio Grande do Sul (URGS).

*Joao Batista Santos Conceicao He is studying economics at Unisinos.

This article was originally published on the Brasil Debate website.

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