France — Individual Taxes

A country’s taxes on ordinary income are measured according to three variables: the top rate at which ordinary income is taxed, the top income tax threshold, and the economic efficiency of labor taxation.

Top Statutory Personal Income Tax Rate

Most countries’ income tax systems have a progressive tax structure. This means that, as individuals earn more income, they move into tax brackets with higher tax rates. The top statutory personal income tax rate is the top tax rate on all income over a certain level.

Individuals consider the marginal tax rate when deciding whether to work an additional hour. In many cases, the decision will be about taking a second, part-time job or whether households with two adults will have one or two earners. If an individual faces a marginal tax rate of 30 percent on their current earnings, taking additional work or another shift would mean that only 70 percent of those earnings could be brought home.

High top personal tax rates make additional work more expensive, which lowers the relative cost of not working. This makes it more likely that an individual will choose leisure over work, maintaining current hours rather than moving to full-time work or taking an additional shift. High tax rates increase the cost of labor, which can decrease hours worked, and, in turn, can reduce the amount of production in the economy.

Countries with high top statutory personal income tax rates receive a worse score on the ITCI than countries with lower top rates.

Income Level at Which Top Statutory Personal Income Tax Rate Applies

The level at which the top statutory personal income tax rate first applies is also important. If a country has a top rate of 20 percent, but almost everyone pays that rate because it applies to any income over $10,000, that country essentially has a flat income tax. In contrast, a tax system that has a top rate that applies to all income over $1 million requires a much higher top tax rate to raise the same amount of revenue, because it targets a small number of people that earn a high level of income.

Countries with top statutory personal income tax rates that apply at lower levels score better on the ITCI. The ITCI bases its measure on the income level at which the top rate first applies as compared to the country’s average income.

The Economic Cost of Labor Taxation

All taxes create some economic losses; however, tax systems should be designed to minimize those losses while supporting revenue needs.

One way to examine the efficiency of labor taxation in a country is to control for the level of labor taxation using the ratio of the marginal tax wedge to the average tax wedge. The marginal tax wedge influences the choice to earn another dollar of income, while the average tax wedge measures the tax burden at the current income level. A higher ratio means that as one earns more income, the influence of the tax system on those decisions and the related economic losses grows. A lower ratio means that an individual can decide to work more without the tax system changing their decisions.

The ITCI gives countries with high ratios a worse score due to the larger impact that those systems have on workers’ decisions.

A capital gain occurs when an individual purchases an asset (usually corporate stock) in one period and sells it in another for a profit. A dividend is a payment made to an individual from after-tax corporate profits.

Capital gains taxes and personal dividend taxes are a form of double taxation of corporate profits that contribute to the tax burden on capital. When a corporation makes a profit, it pays corporate income tax. It can then generally do one of two things. The corporation can retain the after-tax profits, which boost the value of the business and thus its stock price. Stockholders then sell the stock and realize a capital gain, which requires them to pay tax on that income. Alternatively, the corporation can distribute the after-tax profits to shareholders in the form of dividends. Stockholders who receive dividends then pay dividend tax on that income.

A company that makes a taxable profit of $1 million and pays 20 percent in corporate income taxes would have $800,000 left to either reinvest in the company, which would boost the value of the stock, or pay a dividend. A shareholder might face an additional 20 percent tax on the gains from selling the shares or on a dividend from the company. Effectively, the system taxes the business profits at 36 percent. An individual hoping that an investment provides a 10 percent real rate of return might see only a 6.4 percent after-tax rate of return.

Some tax systems account for this potential double taxation either through credits against capital gains taxes for corporate taxes paid or other deductions. Such a tax system provides integrated taxation of corporate profits, or “corporate integration.”

Apart from double taxation, taxes on dividends and capital gains can change the incentives for businesses when they are looking to finance new projects. If a business can either fund a new project by selling new shares of stock or by reinvesting its profits, the taxes on investors can influence which approach results in higher after-tax returns.

Generally, higher dividends and capital gains taxes create a bias against saving and investment, reduce capital formation, and slow economic growth.

In the ITCI, a country receives a better score for lower capital gains and dividend taxes.

Capital Gains Tax Rates

Countries generally tax capital gains at a lower rate than ordinary income, provided that specific requirements are met. Some countries use additional provisions to help mitigate the double taxation of income due to the capital gains tax. The ITCI gives countries with higher capital gains tax rates a worse score than those with lower rates.

Dividend Tax Rates

Dividend taxes can adversely impact residents’ savings formation in a country. High dividend tax rates also reduce capital formation by increasing the cost of capital for firms with domestic financing, like startups and family-owned businesses, which deters investment and slows economic growth.

Countries’ rates are expressed as the top marginal personal dividend tax rate after any imputation or credit system.

Countries with lower overall dividend tax rates score better on the ITCI due to the dividend tax rate’s effect on the cost of investment (i.e., the cost of capital) and the more neutral treatment between saving and consumption.