Proportional (“flat”) personal income tax rate and competitiveness in Slovenia: Towards understanding the policy issues and policy implications

International Academic Forum on Flat Tax Rate (February 2006)

Gonzalo C. Caprirolo

The views expressed are those of the author and do not necessarily represent those of the Ministry of Finance

2

Outline

The level playing field— Slovenian social model— Labor cost/competitiveness— Productivity— Labor market conditions

The current personal income tax system— Characteristics; rates, revenue; other taxes; comparison— Degree of progressivity of PIT

The “flat tax” proposal on personal income— The objective— The means— Net wage constant— VAT increase

The impact of the flat tax reform

The way forward

3

Four different social policy models in Europe (Boeri 2002)

EU (15 countries)

Belgium

Denmark

Germany

Estonia

Greece

Spain

France

Ireland

Italy

Luxembourg NetherlandsAustria

Portugal

Slovakia

Finland

Sweden

United Kingdom

Slovenia

78

80

82

84

86

88

90

92

55 60 65 70 75 80

Employment rate %

1-

Po

vert

y ra

te a

fte

r tr

an

sfe

rs (

%)

Source. Eurostat data

base

4

Relatively satisfactory participation rate 25-64 year range

Employment rate (% population in each year group)

29,1

82,5

23,5

39,7

77,2

41,7

0

10

20

30

40

50

60

70

80

90

15_24 25_54 55_64

Slov

EU-15

Source. EU commission. Employment in Europe 2004

5

Wage, income in line with productivity level

Income per capita and wage level

SlovakiaHungaryCzech Republic

SloveniaSpain

Greece

Netherlands

LatviaLithuania

EstoniaPoland

PortugalMalta

IrelandUnited Kingdom

FranceBelgium

y = 9,9907x - 268,46

0

200

400

600

800

1000

1200

1400

1600

1800

2000

0 20 40 60 80 100 120 140 160

Income percapita PPS (2003; EU 25 =1 00)

Min

imu

m w

age,

Jan

uar

y 20

04, e

uro

Source. European Commission. Ameco data base

6

Growth potential in line with productivity level

Potential GDP growth (%)

7,7

6,56,1

5,5

4,6 4,64,3 4,2

4,03,7

3,5

3,0 2,9 2,8 2,7 2,72,4 2,4

2,2 2,2 2,2 2,22,0 1,9 1,9

1,7 1,7

3,7

0

1

2

3

4

5

6

7

8

9

LV

LT

EE IE

PL SK

CY

EU10

LU

HU SI

CZ ES

GR UK

FI SE

BE

EU25

FR AT

MT

EU15

DK IT

PT

DE NL

2004-10

2011-30

A key challenge: to increase employment of individuals 55-64

Source: European Comision 2006

7

Relatively tight labor market conditions

Unemployment rate (Novembre 2005)

17,4

16,0

10,1

9,3 9,28,6 8,5 8,4 8,3

7,9 7,7 7,5 7,5 7,3 7,06,6 6,3

5,9 5,65,2

4,8 4,7 4,5 4,3

0,0

2,0

4,0

6,0

8,0

10,0

12,0

14,0

16,0

18,0

20,0

PL SK EL DE FR LV ES BE FI CZ MT IT PT HU LT EE CY SI LU AT UK NL DK IE

Source: Eurostat data base 2006

8

Most unemployed are low-skilled individuals

Registered unemployed persons by educational level, Slovenia, August 2005

Secondary school ; 27

Highly skilled workers ; 23,4

Skilled workers ; 1,1

Semi-skilled workers ; 5,4

Unskilled workers ; 35,6

Non-university degree ; 2,3

University degree ; 5,1

Source: SORS, 2005

9

Flexibilty of labor market is average

Labor market flexibility

NL

PTELPL

ES

DEBEUK ITSE

FIIR FRDK SI

CZ

HU

EESK

EU-15

average

0

10

20

30

40

50

60

70

80

0,0 0,5 1,0 1,5 2,0 2,5 3,0 3,5 4,0

Employment protection legislation index (EPLI)

Fle

xib

le e

mp

loym

ent

tota

l

EPLIi) collective dissmissalsii) negotiation procedduresiii) dissmisal criteriaiv) severance pay amounts

EMPLOYMENT FLEXIBILITYShare of flexible employment forms (self-employment, fixed-term employment and part-time employment) in total employment.Source: Slovenian Economic Mirror No. 3/2005

Source: IMAD, Economic Mirror No 3. 2005

10

Relatively low supply of high skilled workers

Source: SURS

Persons in paid employment in enterprises, companies and organisations by level of professional attainment (Dec 31, 2004)

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Man

ufac

turin

g

Constr

uctio

n

Hotels

and

resta

uran

ts

Mini

ng a

nd q

uarry

ing

Agricu

lture

, hun

ting,

fishin

g an

d fo

restr

y

Who

lesale

, ret

ail; c

erta

in re

pair

Electri

city,

gas a

nd w

ater

supp

ly

Trans

port,

stor

age

and

com

mun

icatio

n

Other

socia

l and

per

sona

l ser

vices

Real e

state

,rent

ing& b

usine

ss a

ctivit

ies

Health

and

socia

l wor

k

Educa

tion

Public

adm

inist.

& def

ence

; com

p.so

c.sec

.

Financ

ial in

term

ediat

ion

Ph. D.

M. Sc./M. A.

other (university)

non-university

secondary

At least primary school with qualification

Non qualified

11

Elasticity of labor supply

Slovenian labor market characteristics and institutions might argue for a relatively inelastic labor supply at least for high skilled workers (short in supply) an a relatively high degree of real wage rigidity, particularly in private sector

Empirical work need to determine labor supply elasticity

E D C

Dl’

Dl

Dh’

Dh

B employment

net wage

minimum wage(net)

A

gross wage

Dh = f (gross wage)

S = f (net wage)

12

Competitivenes has remained stable

Real Unit Labor Cost (1995 =100)

80

85

90

95

100

105

110

115

120

125

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

EU-25

EU-15

Belgium

Czech Republic

Denmark

Germany

Greece

Spain

Sweden

France

Italy

Cyprus

Lithuania

Luxembourg

Malta

Slovakia

Netherlands

Austria

Poland

Portugal

Finland

United Kingdom

Slovenia

Hungary

Latvia

Estonia

Ireland

Source: Ameco web page Jan 2006

13

Not even the elimination of total taxes related to labor will provide a lower labor cost than in most new EU members

Montly labor cost in 2002 (Euro)

0

500

1000

1500

2000

2500

3000

3500

4000

4500

SE UK DE FR FI DK ES EL CY SI PT PL CZ HU EE SK LT LV

Other costs (including socialsecurity contributions)Wages and salaries

480

1338

Source: Eurostat. Statistics in Focus 9/24. Labor Cost in Europe 1996-2002. June 2004

14

Key challenge: to rise level of education, training and R&D

Persons in paid employment in enterprises, companies and organisations by level of professional attainment (Dec 31, 2004)

secondary; 190760; 29%

At least primary school with

qualification; 206526; 32%

Non qualified; 107975; 16%

non-university; 48388; 7%

Ph. D.; 3842; 1% M. Sc./M. A.; 6902; 1%

other (university); 92522; 14%

Source: SURS 2004, own calculation

15

Social model underpinned by relative high share of tax revenue in GDP

Total tax revenue as % GDP (1995-2002)

5149

47 4644 44

42 4240 40 40 39 39

36 36 36 36 35 3533 33

31 3129 29

0

10

20

30

40

50

60

SE DK BE FI AT FR LU IT DE SI NL PL HU PT EL ES UK CZ EE SK CY LV MT LT IE

Source: Structures of the taxation systems in the European Union., Edition 2004. European Commission, Eurostat

16

The bulk of revenues soc. sec. contributions and indirect taxes

Tax revenue structure in 2003 (% of total tax revenue)

35,6

31,0

36,6

31,0

20,1

31,1

0% 20% 40% 60% 80% 100%

United States

Belgium

France

Italy

Sweden

Luxembourg

Spain

Austria

Germany

Czech Republic

Average

Netherlands

Finland

United Kingdom

Denmark

Slovenia

Poland

Greece

Slovak Republic

Portugal

Ireland

Hungary

Goods & Services

Social Security

Income & Profits

Payroll

Property

Other

Source: OECD revenue estatistics 2005.MF. Slovenia

17

VAT tax revenue one of the highest in EU in 2003 amounted to 9 % of GDP only lower than DK and SE

VAT tax rates and tax revenues (% GDP) in 2002

25 25

22 22

2019

25

20

18

2019

15

21

20

21

18

16

22

20

1516

9,7 9,28,6 8,4 8,3 8,2 8,0 7,9 7,9 7,7 7,5 7,4 7,2 7,2 7,1 6,9 6,5 6,4 6,4 6,3 6,1

0

5

10

15

20

25

30

Denm

ark

Sweden

Poland

Finlan

d

Austri

a

Portu

gal

Hunga

ry

Sloven

ia

Greec

e

Slovak

Rep

ublic

Nethe

rland

s

Mex

ico

Belgium

Franc

e

Irelan

d

United

King

dom

Germ

any

Czech

Rep

ublic

Italy

Luxe

mbo

urg

Spain

Standard rate

%GDP

Source: OECD revenue statistics 2005. MF, Slovenia

18

while personal income tax revenue among the lowest in EU

Personal income tax as percentage of GDP (1995-2002)

26,2

17,2

14,413,5

11,110,3 10,3 9,9 9,8

9,28,0 7,8

7,3 7,3 7,2 7,26,7

6,2 6,0 6,0 6,0 5,95,4

4,9 4,9 4,94,0

0

5

10

15

20

25

30

DK SE FI BE IT AT UK EU15

DE IE LU HU ES FR EE LT NL PL LV SI NMS10

PT MT CZ EL CY SK

Source: Structures of the taxation systems in the European Union., Edition 2004. European Commission, Eurostat

19

Relatively low PIT revenue reflects low tax rates

OECD: Taxing wages 2003-2004 and MF, own calculation

Income tax as % of gross earnings (APW)

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

0,67 1 1,33 1,67

Denmark

Iceland

Belgium

Finland

Sweden

Germany

Norway

Hungary

Italy

Ireland

Average EU-15

United States

Average sample

Netherlands

United Kingdom

Luxembourg

France

Austria

Spain

Slovenia *

Switzerland

Czech Republic

Portugal

Slovak Republic

Poland

20

although high top statutory and marginal rates

Top marginal income tax rates per employee in 2000 (single individual)

66%63%

60% 60%

55%54%

51% 51% 50% 49% 48% 48% 48% 47% 47% 46%45%

42% 40% 40%

61% 60% 60%55% 55%

50%54%

40%44%

50%

42%

61%

47% 48% 47%

40%46% 45%

40%

32%

40%

54%

0%

10%

20%

30%

40%

50%

60%

70%

Belgium

Denm

ark

Nethe

rland

s

Finlan

d

Sweden

Sloven

ia (R

efor

m 2

004)

Germ

any

Poland

Irelan

d

Austri

a

Slovak

Rep

ublic

Franc

e

United

Sta

tes

Spain

Luxe

mbo

urg

Portu

gal

Italy

Greec

e

Hunga

ry

Czech

Rep

ublic

United

King

dom

Top marginal rates

Statrutory incometax rate

OECD: Tax data base 2005 and MF, own calculation

21

PIT progresivity slightly above EU average

OECD: Taxing wages 2003-2004 and MF, own calculation

Income tax % gross earnings (APW) standardized by 67% APW in 2003

0

100

200

300

400

500

600

700

800

67% 100% 133% 167%

Netherlands

Portugal

Hungary

Luxembourg

Ireland

Austria

Spain

France

Slovenia *

Denmark

Belgium

Finland

Sweden

Germany

Norway

Italy

Average EU-15

United States

Average sample

United Kingdom

Switzerland

Czech Republic

Slovak Republic

Poland

22

Up to 100 % APW earners, represent 68% of total taxpayers, paying 20% of PIT revenue (2003)

42,2; 6,5

68,7; 19,8

90,1; 47,7

0

20

40

60

80

100

120

0 20 40 60 80 100 120

Percentage of total tax payers

Per

cen

tag

e o

f p

erso

nal

inco

me

tax

pai

d

100% APW

67% APW

167% APW

Source: MF and own calculations

23

Concentration of PIT payments on top quintil not unusual

Share of tax payers in total number of tax payers % Share of income paid %

US Top 1% 33 Slovenia Top 1.2 19,8 US Top 5 54,5 Slovenia Top 10 55,5 US Top quintil 82,5 Slovenia Top quintil 73,8 Source: US Congressional Budget Office 2002. MF data for 2003

Note. US 2002 and Slovenia 2003

24

Important tax reform in 2005

Gradual elimination of the payroll tax until 2008. Payroll tax revenue about 2% of GDP. Total tax revenue to decline by 1% up to 2008. In Slovakia after first year of reform total tax burden drop by about 0.5% of GDP.

Systemic change in PIT system

Personal Income tax system before and after the 2005 reform

Before the 2005 reform After the 2005 reform (split-model) 1. All types of income 1. All labor income

Tax brackets (SIT per year) Tax brackets in 2006 (SIT per year) From To Tax rate From To Tax rate

1.327.300 16 1.327.300 16 1.327.300 2.593.340 33 1.327.300 2.593.340 33 2.593.340 5.247.940 37 2.593.340 5.247.940 37 5.247.940 10.546.930 41 5.247.940 10.546.930 41

10.546.930 50 10.546.930 50

2. Interest, dividends and capital gains 20

25

After payroll tax elimination the tax wedge will be reduced significantly

Structure of the tax wedge before and after elimination of payroll tax (% labor cost before reform)

19 19 18 18 18 18 18 18

14 14 13 13 13 13 13 13

6 6 9 9 12 12 14 143

33

0

10

20

30

40

50

60

0.67before

0.67after

1.0 before

1.0 after

1.33before

1.33after

1.67before

1.67after

Payroll tax

Personal income tax

Employers' social securitycontribution (16.1%)Employees' social securitycontribution (22.1%)

39.2

43.940.8

46.943.8

49.246.0

39.2

Multiple of APW

Source: MF 2003, own calculation

26

Payroll tax elimination to reduce importantly the cost of skilled labor force

Tax wedge for single individual at average earnings (APW) in 2003

54,552

48,346,6 45,7 45,3 45 44,5 43,9 43,8 43 42,9 42,7 42,1 41,4

37,6

34,332,6 31,7 31,1

29,4

24,5

0

10

20

30

40

50

60

Belgium

Germ

any

Franc

e

Sweede

n

Hunga

ryIta

ly

Austri

a

Finlan

d

Sloven

ia (b

efor

e re

form

)

Czech

R.

Nethe

rland

s

Poland

Denm

ark

Sloven

ia (a

fter r

efor

m)

Slovak

R.

Spain

Greec

e

Portu

gal

Luxe

mbo

urg

UKUSA

Irelan

d

Source. OECD Taxing Wages 2002-2003 and MF

27

Flat tax proposal

Purpose: — Unburdening the Slovenian economy and establishing conditions for

increasing its competitiveness.

Means: — the current progressive personal income tax system with five tax brackets

is replaced with a single tax rate system with a rate of 20 percent.

Key assumption: Unchanged net wage flat tax reform— net wages (wages in general) will not increase after the change in the tax

system and

Impact: The flat tax rate on income will:– reduce the gross labor costs in order for businesses to increase

profits that will be spent on enhancing their technological capacity and increase employment and;

– reduce the relative price of high skilled workers with respect to low skilled workers thus enhancing their employability

Revenue neutral reform:— revenue neutrality is achieved by setting a flat tax rate of 20% on income

and raising the existing lower VAT tax rate on necessities from the current level of 8.5% to 20% (single VAT rate)

28

Under assumption of net wage constant flat tax reform, gross wage will change

Gross wage - single individual (SIT)

1.000.000

2.000.000

3.000.000

4.000.000

5.000.000

6.000.000

7.000.000

8.000.000

9.000.000

10.000.000

11.000.000

Minimumwage

0.5 of AAW 1 AAW 2 AAW 3AAW

2004 tax reform

Flat tax reform(unchanged net wage)

labor cost will increase for low skilled workers and decrease for high skilled

workers

Source: MF own calculation. Data for 2003

29

If gross wage remains constant after flat tax reform, net wage will change

Net wage - single individual (SIT)

500.000

1.500.000

2.500.000

3.500.000

4.500.000

5.500.000

6.500.000

Minimumwage

0.5 ofAAW

1 AAW 2 AAW 3AAW

2004 tax reform = Flat tax reform(unchanged net wage)Flat tax reform (changed net wage)

net wage will decrease for low skilled workers and increase for high skilled

workers

Source: MF own calculation. Data for 2003

30

Average tax rate to increase for low skilled workers while decrease for high skilled workers or wage earners

Effective tax rate for single individual (% of gross wage)

0

5

10

15

20

25

30

35

Minimumwage

0,5 APW 1 APW 1,5 APW 2 APW 2,5 APW 3 APW 3,5 APW 4 APW 4,5 APW 5 APW

Current system

After flat tax (net wage constant)

After flat tax (non constant net wage)

Source: MF own calculation. Data for 2003 there will not affect labor supply decisions as net wage will remain constant

31

Effective tax rate to increase for 70% of tax payers

Effective tax rate and number of tax payers

0

20.000

40.000

60.000

80.000

100.000

120.000

to 1

0%

to 2

0%

to 3

0%

to 4

0%

to 5

0%

to 6

0%

to 7

0%

to 8

0%

to 9

0%

to 1

00%

to 1

10%

to 1

20%

to 1

30%

to 1

40%

to 1

50%

to 1

60%

to 1

70%

to 1

80%

to 1

90%

to 2

00%

to 2

50%

to 3

00%

to 3

50%

to 4

00%

to 4

50%

to 5

00%

to 5

50%

to 6

00%

to 6

50%

to 7

00%

abov

e 7

50%

Nu

mb

er o

f ta

x p

aye

rs

0

5

10

15

20

25

30

35

tax

pe

rcen

tag

e o

f P

re-r

efo

rm g

ros

s w

age

number of tax payers Current sysetm (Tax % gross wage) Flat tax system (Tax % gross wage)

%APW

32

The METR after the constant net wage flat reform will remain constant at current level

Marginal effective tax rate for single individual in 2003 (%APW)

30

35

40

45

50

55

60

65

Min

imum

wag

e

0,5

of

AP

W

1 A

PW

1,5

AP

W

2 A

AW

2,5

AP

W

3AP

W

3,5

AP

W

4 A

PW

4,5

AP

W

5 A

PW

current system andafter constant netwage flat tax reform

After flat tax (changednet wage)

Source: MF 2003, own calculation

33

The tax burden will be higher for individuals with one child

Marginal tax rate for individual with one child (%)

20

25

30

35

40

45

50

55

60

65

70M

inim

umw

age

0,5

AP

W

1 A

PW

1,5

AP

W

2 A

PW

2,5

AP

W

3 A

PW

3,5

AP

W

4 A

PW

4,5

AP

W

Current system andunchanged net wageflat tax reform

non constant netwage flat tax reform

Source: MF 2003, own calculation

34

Under assumption of net wage constant overall tax burden increases with adverse impact on labor supply

Composite marginal tax rate for single individual (%)

45

50

55

60

65

700,

5 A

PW

1 A

PW

1,5

AP

W

2 A

PW

2,5

AP

W

3 A

PW

3,5

AP

W

4 A

PW

4,5

AP

W

5 A

PW

After flat tax(constant netwage)

Current system

After flat tax(changed netwage)

Not only participation but effort to be reduced by low skilled workers under a non constant net wage flat tax reform

Source: MF 2003, own calculation

35

Magnitude of adverse impact on low wage earners depending on individual profile

Composite marginal tax rate for individual with one child (%)

45

50

55

60

65

70

0,5APW

1APW

1,5APW

2APW

2,5APW

3APW

3,5APW

4APW

4,5APW

5APW

Constant net wageflat reform (singleVAT rate)

Current system

Change net wageflat tax reform (singleVAT rate)

high skilled workers to be unburdened

Source: MF 2003, own calculation

36

Overall impact on labor supply

Most efficiency gains should come from labor supply changes

Under constant net wage flat tax reform the overall labor supply could decline

— Average and marginal tax rates will remain unchanged — Composite marginal tax rates to increase due to VAT single rate

Under no constant net wage tax reform the labor supply response will be mixed

— The higher average tax on low skilled labor force (above general allowance) will deter labor participation and high marginal rates reduce labor effort

— Low average effective and marginal rates could increase labor supply of high skilled workers (particularly effort)

— Overall response of labor supply will be undermined depending on its elasticity

37

Labor demand response

Under an unchanged net wage flat tax reform the relative price of low to high skilled workers will increase

— Low wage intensive industries to reduce labor demand— High skilled industries to increase labor demand. Although, skill

biased investment to reduce labor demand unskilled labor

Under an unchanged gross wage flat reform the labor demand will remain in equilibrium

The impact of VAT on wages and labor demand in the two scenarios is uncertain depending on outcome of wage negotiations

38

Labor market response and impact on output

Under unchanged net wage flat tax reform, the likely impact is to be as follows:

— Labor demand for low skilled workers to be reduced and labor supply decisions to be affected by VAT increase. Gross wage, employment and output in labor intensive industries could decline

— Interaction of higher labor demand and high skilled labor supply (depending on its elasticity) could increase gross wages, employment and output.

— The overall economy will enter into uncertain adjustment path towards the new Slovenian social economic model

Under an unchanged gross wage reform, the likely impact is to be as follows:

— Participation of low skilled workers could decline as net income will be reduced

— High skilled labor supply effort could increase depending on labor supply elasticity

— Overall effect on output will depend on high skilled labor supply response (relatively scarce) offsetting the adverse impact on low skilled labor

— Transition to the new Slovenian economic model could be less uncertain

39

Labor market adjustment towards the groos wage level prevailing before the constant net wage flat tax reform

Source: SURS own calculation.

Note. Difference in gross wage (before and after flat tax reform) weighted by the share of individuals clasified within a wage bracket in total amount of individuals employed

Difference in gross wage structure after a flat tax reform: Total economy (short-term unchanged net wage)*

-3.500.000

-3.000.000

-2.500.000

-2.000.000

-1.500.000

-1.000.000

-500.000

0

500.000

1.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Equilibrium

SIT

40

Short-term adjustment is to hurt tradable sector and low skilled labor industries (reduce labor participation and competitiveness)

-3.000.000

-2.500.000

-2.000.000

-1.500.000

-1.000.000

-500.000

0

500.000

1.000.000

1.500.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8Multiple APW

Manufacturing

-2.500.000

-2.000.000

-1.500.000

-1.000.000

-500.000

0

500.000

1.000.000

1.500.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Construction

-3.500.000

-3.000.000

-2.500.000

-2.000.000

-1.500.000

-1.000.000

-500.000

0

500.000

1.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Wholesale, retail; certain repair

-2.000.000

-1.500.000

-1.000.000

-500.000

0

500.000

1.000.000

1.500.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8Multiple APW

Hotels and restaurants

-3.500.000

-3.000.000

-2.500.000

-2.000.000

-1.500.000

-1.000.000

-500.000

0

500.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Transport, storage andcommunication

-12.000.000

-10.000.000

-8.000.000

-6.000.000

-4.000.000

-2.000.000

0

2.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Financial intermediation

-7.000.000

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000

2.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Real estate,renting& businessactivities

-9.000.000

-8.000.000

-7.000.000

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Education

-8.000.000

-7.000.000

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Public administ.& defence;comp.soc.sec.

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Health and social work

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Other social and personal services

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000

2.000.000

0,5 0,7 0,8 0,9 1,1 1,2 1,4 1,7 2,4 3,8

Multiple APW

Agriculture, hunting and forestry

Source: SURS own calculation.

Note. Difference in gross wage (before and after flat tax reform) weighted by the share of individuals clasified within a wage bracket in total amount of individuals employed

41

Tax burden to increase for individuals earning up to the average gross wage

Tax burden per individual after unchanged net wage flat tax reform (2003)

-6.000.000

-5.000.000

-4.000.000

-3.000.000

-2.000.000

-1.000.000

0

1.000.000to

10

%

to 2

0%

to 3

0%

to 4

0%

to 5

0%

to 6

0%

to 7

0%

to 8

0%

to 9

0%

to 1

00

%

to 1

10

%

to 1

20

%

to 1

30

%

to 1

40

%

to 1

50

%

to 1

60

%

to 1

70

%

to 1

80

%

to 1

90

%

to 2

00

%

to 2

50

%

to 3

00

%

to 3

50

%

to 4

00

%

to 4

50

%

to 5

00

%

to 5

50

%

to 6

00

%

to 6

50

%

to 7

00

%

ab

ove

75

0%

Percentage of average gross wage

Source: MF own calculation.

- the average tax burden for 525.750 individuals earning up to AW will increase by EUR 117

- the average tax burden for 174.414 individuals earning above AW to 200% AW will decline by EUR 445

- the average tax burden for 40.838 individuals earning above 200% AW will decline by EUR 4187

42

Shift of tax burden to individuals earning up to the average gross wage

- Tax burden to increase for about 70% of total tax payers

- Total net tax burden to decrease by 45 billion SIT

Tax burden after income flat tax reform SIT (2003)

-10.000.000.000

-8.000.000.000

-6.000.000.000

-4.000.000.000

-2.000.000.000

0

2.000.000.000

4.000.000.000

6.000.000.00024

.925

24.7

64

25.2

36

28.0

16

106.

254

93.6

87

78.6

84

66.2

65

55.4

89

47.3

55

37.2

52

31.0

08

25.8

91

20.9

57

16.2

48

13.1

97

10.4

14

8.01

7

6.31

1

5.11

9

17.2

03

9.55

4

5.16

3

3.05

8

1.92

8

1.25

7

704

494

336

261

880

Number of individuals clasified according to their wage level

Source: MF own calculation.

43

Effect on disposable income due to change in VAT

VAT effective tax rate by income quantile (consumption weighted tax rate)

10

11

12

13

14

15

16

17

18

19

20

1 Quintile 2 Quintile 3 Quintile 4 Quintile 5 Quintile

Ta

x r

ate

%

Flat tax rate (20%)

Current system

Source: SURS, MF, own calculation.

44

Consumption will decline for low wage earners

Impact on consumption after flat tax reform and 20% single VAT rate ( 2003)

-300.000

-100.000

100.000

300.000

500.000

700.000

900.000

1.100.000

1.300.000

1.500.000

1.700.000

1.900.000

SIT

Unchanged net wage

Changed net wage

Unchanged net wage -45.588 -52.931 -83.692 -105.526 -114.966 -138.430 -161.364 -184.298 -207.231 -227.889 -247.660

Changed net wage -63.531 -77.268 -44.762 108.529 298.520 500.851 718.395 935.938 1.153.4821.436.2121.744.365

Minimum wage

0,5 APW 1 APW 1,5 APW 2 APW 2,5 APW 3 APW 3,5 APW 4 APW 4,5 APW 5 APW

Source: SURS, MF, own calculation.

45

Impact of reform summary

The cost of labor for the employer is not likely to change in equilibrium, thus there will be no competitive gains in absolute terms

Uncertain response of labor supply as tax reform to discourage labor participation and distimulate additional labor effort of low skilled workers while create incentives for additional work effort of high skilled workers

Output could potentially expand in medium to long run depending on labor supply response (high elasticity of low skilled labor supply while relatively low elasticity of high skilled labor supply). If net wage is enforced administratively severe adjustment to take place in labor intensive industries

The tax burden will shift from high wage income earners (high skilled) to low income earners (low skilled) or about 70% of tax payers

Change in education incentives (with unclear effect on education attainment particularly in short-term)

Reduction (elimination of progressive taxes) to increase inequality in the distribution of income (abandonment of current Slovenian social policy model)

46

The way forward: take into account 12 years of Danish experience (1987-2002)

reforms based on the following principles:— Tax base broadening and marginal tax rate reduction— Introduction of new taxes (e.g. green taxes)

Source: Danish Ministry of Finance. Arne Hauge Jensen orking paper no. 2/2001. Title: Summary of Danish tax policy 1986-2002

47

The way forward: searching for a win-win situation

Ensure financing of elimination of payroll tax (2% GDP)

Assess impact of new personal income tax system (split system) recently adopted (i.e. impact on average and marginal rates on high skilled workers)

Reduction of progressivity of PIT without compromising distributional objectives (i.e. maintaining existing Slovenian social model), avoiding creation of labor market disincentives and ensuring revenue neutrality. Pursue Lisbon strategy oriented tax reform that would not hinder (i.e. does not burden) low skilled workers but would at the same time increase effort of high skilled workers.

– gradual lowering of average and marginal tax rates for low and high skilled workers taking into account:1. partially self-financed tax reduction2. introduction on tax on immovable property3. reduction of general government expenditure