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Policymakers Should Learn from Tax Complexity in Brazil and the United States

3 min readBy: Garrett Watson

As we approach the end of taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. filing season, Americans are facing the complexity the tax code imposes on them and their businesses. In 2017, the Office of Information and Regulatory Affairs (OIRA) estimated that Americans spend collectively over 8.1 billion hours to comply with tax requirements. The challenges imposed on taxpayers in America and abroad by tax complexity show that simplifying the tax code is a worthy goal for policymakers, as the costs of tax complexity keep entrepreneurs and businesses from investing and contributing to economic growth.

Comparisons of tax codes internationally reveal a large variation in tax complexity. For example, a recent review of the complexity within Brazil’s tax code highlights the importance of simplifying how businesses and individuals comply with the tax code. It takes about 2,000 hours per year for medium-sized firms to file and remit taxes in Brazil, the highest of all countries according to the World Bank. This has contributed to the country’s anemic economic growth, as Brazil’s tax complexity dissuades entrepreneurs and business owners from starting or investing in their businesses.

The United States has a more efficient system for processing tax returns than Brazil, as it takes about 175 hours for medium-sized firms to file their taxes. Despite this relative efficiency, the National Taxpayers Union Foundation (NTUF) found that the burden of tax code complexity in 2017 was about $303.7 billion when including the opportunity cost of taxpayers’ time and out-of-pocket costs for navigating tax forms.

Internationally, tax complexity varies by country and tax type. For example, in Sweden, it takes a business about 36 hours to comply with labor taxes, placing them at fourth in Western Europe for labor tax complexity. By contrast, Swedish businesses take 50 hours on average to comply with corporate income taxes. Sweden has one of the more complicated corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. systems, ranking twenty first in Western Europe.

A common source of tax complexity in the U.S. and other countries is the frequency of rule changes in the tax code. In the United States, there are 417 changes to the Internal Revenue Code (IRC) on average every year. In a review of the drivers of complexity for multinational corporations, a study in 2017 found that changes to tax regulations are one of the most influential factors making taxes complex for those firms.

Changes in the Federal tax code have grown the IRC from 409,000 words in 1955 to 2.4 million words today. A study by economist Rick Weber found that an increase in state tax codes by 250,000 words is associated with a 5 percent decline in business entry rates, suggesting that entrepreneurs are sensitive to tax complexity when making investment decisions. Business exits rates also decline as tax complexity rises. As Weber argues, “complex codes also create opportunities for rent-seeking that might protect incumbent firms against competition.”

Tax complexity harms entrepreneurs and business owners by raising their fixed cost of doing business. Entrepreneurs may have to contract with accountants or tax lawyers to prepare their taxes, which diverts resources from other uses, such as hiring workers or expanding their business. If the complexity is bad enough, some entrepreneurs may forego the opportunity altogether, resulting in lower economic growth and lost tax revenue.

Thankfully, countries like Brazil and America have examples to follow abroad. Estonia, for example, is known for having a competitive tax system with a broad tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. , few tax expenditures, and a simplified system for businesses and individuals to report and file taxes. Tax complexity can be reduced without reducing overall tax revenue: Finland has the least complex corporate taxes in the Organisation for Economic Co-operation and Development (OECD), despite collecting 43.3 percent of gross domestic product (GDP) in revenue in 2017, above the OECD average of 34.2 percent. Similarly, Norway ranks first in personal income tax simplicity in Tax Foundation’s 2018 International Tax Competitiveness Index while collecting 38.2 percent of GDP in revenue.

Policymakers interested in simplifying their tax codes can also make taxes more efficient and neutral by broadening their tax bases, lowering tax rates, and eliminating unnecessary tax expenditureTax expenditures are a departure from the “normal” tax code that lower the tax burden of individuals or businesses, through an exemption, deduction, credit, or preferential rate. Expenditures can result in significant revenue losses to the government and include provisions such as the earned income tax credit (EITC), child tax credit (CTC), deduction for employer health-care contributions, and tax-advantaged savings plans. s. This would improve their tax codes overall, giving taxpayers relief from complicated provisions in the process.

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