ECONOMIC PERSPECTIVES -38

What would be the characteristics of a better tax system?

A tax based on corporate added value would meet most of the

objections I have outlined in earlier posts. You can think of a

business's added value as its product; and its rate of production

(expressed in terms of per hour, per employee etc) as its productivity.

A valid alternative term for added value, often used, is output, as

when expressing a rate of output.

A business's added value, or product, is its gross revenue minus the

cost of goods and services it has "bought in" (ie minus the output of

other enterprises). It is easy to calculate and cannot be fudged. It

represents the contribution that each business makes toward the

nation's Gross Domestic Product (GDP), which is a nation's total

wealth created in a year.

What happens to a business's added value?

A business's added value is distributed to the factors of production

that combined to create it. Thus: wages are paid to its employees

(including management); rent for its use of land; and interest for the

use of capital borrowed by the business. What is left after all that is

profit, available to reward the entrepreneurs and investors who

assembled the enterprise with a view to profit. [The owners may

have a host of other aims, including charitable aims, but without

profit, none of these may be realised.]

In arriving at an enterprise's taxable capacity (the maximum amount

that can be taken in taxes without damaging the enterprise)

allowance must be made for the full role of profit. It is far more than

just the entrepreneur's reward. It includes "ploughback" - the fund

required for reinvestment of savings in the business, research,

development and renewal of capital. Consequently a low rate "flat"

tax [see footnotes] levied on the remaining added value will

automatically allow for all genuine ploughback requirements

A final thought: it is ironical that, right now, all taxes are taken from

added value anyway - for one simple reason: there's nowhere else

that they can come from! But by following the precepts outlined here

taxes can be directly assessed, avoiding all the convoluted witchcraft

that our present systems are subject to, In a nutshell the added value remaining after paying wages and

interest on borrowings represents the taxable capacity of the

business, and should form the basis business tax assessments

Consequently the simplest method would be to levy a flat rate

percentage on the added value remaining after wages and interest

have been paid.

Obviously the tax raised must meet the government's requirements

but remember the lesson of the Laffer Curve: the proportion taken in

taxes should be both constant and low (preferably no more than the

20% to 25% used in so many of the 30 successful economies in which

this system is applied today.)

[Footnote reminders:

(i) Taxable capacity must be recognised as a corporate, not an

individual, concept: employed individuals have no taxable capacity

they simply work for an amount that they are free to spend.

(i) A flat tax is one that applies a single marginal rate. No matter how

high or low the base to be assessed, a constant rate is applied. Higher

earnings are not penalized.

(ii) There are bound to be arguments over the minutiae of calculating

added value. For example, how would you treat depreciation?

Personally, I would treat it as a deduction from turnover representing

that part of bought-in costs consumed in the year.

(iv) Note that anti-avoidance measures would be necessary to ensure

that the residual tax base is not diminished (or even eliminated

entirely) by distributing it to the directors, partners or proprietors as

"earnings". A "standard" of maximum earnings (including benefits and

bonuses) for tax purposes will need to be laid down, anything over the

standard being disallowed as a deduction from added value, and

treated instead as a distribution.

(v) "Rent of land" can be problematic when a single rent is agreed

covering both land and buildings. Strictly, rent for the use of buildings

is no different conceptually from the rent of machinery or any other

asset and should be treated as the cost of a bought-in item in arriving

at added value. Only rent ofland, ifit is separately ascertainable, is not

a "bought in" item. It is therefore a distribution of added value.(i) Presentational niggles shouldn't detract from the grand simplicity

ofthe underlying economic equation at the level of the individual

business.]