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Tax Policy

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Practice Advice on Public Financial Management

Tax Policy (IMF)

Summary Advice: The IMF offers an account of the nature and scope of technical assistance on tax policy.

Main Points:

Overall tax revenue - This represents the main of funding for the public sector, and the size of the public sector tends to be positively related to the per-capita income of the country. Therefore, the share of tax revenue in GDP tends to increase with per capita income.

Domestic consumption taxes - The largest proportion of consumption tax revenues come from broad-based sales, turnover, or value added taxes (VAT). The VAT is recommended by the IMF, which should be between 10-20% depending on revenue needs, should have a minimum of two different rates, should limit exemptions to goods that are difficult to administer.

International trade taxes - These taxes tend to be used more by developing than developed countries, and the IMF advises against relying on import and export taxes. However, in the case of temporary import taxes, the structure of import taxes should be simple, rational and flat, with no ad hoc exemptions and imports should be valued based on market exchange rates. Export taxes and subsidies should be eliminated due to their limited effectiveness and distortionary outcomes.

Income taxes - This type of tax is a valuable component of a balanced tax system, but require great tax administrative capacity. For personal income taxes, the IMF recommends a graduated marginal tax structure with a maximum of three brackets, a top marginal rate of no more than 40%, a high threshold for incurring a tax liability to accommodate low-earners, a simple administration, limited exceptional income, and neutral to inflation. Concerning corporate income taxes, the rate should be standard and between 30-40%, and should be no higher than the top personal marginal tax rate. In addition, there should be no sector-specific tax incentives (such as tax deferrals or tax exclusions), all domestic and foreign enterprises should be treated the same, income should be based on accruals bias, deductible costs should be limited to direct business costs, deductions on borrowed capital should be limited to short and long term interest, depreciation rules should be simple, inventory valuation should be rationalized, and indexed to inflation.

Other taxes - Payroll taxes should have a broad base, a simple rate schedule, and rates should be internationally comparable. Wealth related taxes (such as those on land and property) should be regularly re-evaluated so as to maintain their yield. Small taxes that yield little revenue and require substantial resources to administer, like enterprise income taxes, should be eliminated, but the IMF encourages environmental taxes.

Source: Stotsky, Janet. IMF. Summary of IMF Tax Policy Advice (1995) at http://rbidocs.rbi.org.in/rdocs/content/pdfs/73226.pdf (accessed 14 March 2013).

Page Created By: Matthew Seddon on 14 March 2013. The content presented on this page is drawn directly from the source(s) cited above, and consists of direct quotations or close paraphrases. This material does not necessarily reflect the official view of the publishing organization.


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School of Public Policy and Governance