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Wednesday, 12 September 2012

Reducing income tax

I BELIEVE that the path to economic recovery in Europe and for the rest of the world will be a very long journey this time.

It needs all sorts of new ideas to test and try, as old ideas used previously to boost the economy may not work this time, as you still hear some countries considering another round of quantitative easing and financial bailouts.

Perhaps certain administrative policies of these countries may have to be tweaked but they have not done so.

One aspect that I wish to discuss here is the taxation policy, which Malaysia can reap benefits from and put itself on a level playing field with Singapore and Hong Kong.

The taxation policy of a government can impact the level of disposable income of households (i.e. after-tax income).

A tax increase will reduce household income, as it takes more money out of household.

A tax decrease, on the contrary, will increase disposable income, because it leaves households with more money.

Disposable income is the main factor driving consumer demand and thereafter, pull a sluggish economy out of recession.

Despite this knowledge, some countries in Europe had begun raising tax rates, especially on value added tax/sales tax on products and services.

Recently, I read that France is planning to increase the top tax rate for individual income tax to 75%. That is to say, the more you earn there, the less money you can take home after paying your taxes.

Individuals are also consumers. As consumers have less money to spend (since most of the money is used to pay tax), they are likely to cut down on spending.

As a result of “careful” consumer spending, businesses (which are also paying taxes) will derive lesser income and thereafter, pay lesser tax.

This is because the income that is subject to tax is less, therefore, the tax amount will also be less.

So, instead of the intended effect of higher tax revenue from tax hikes, the tax revenue will go down instead.

So, what is the solution?

The answer – major reduction of individual income tax rates.

Let people pay less tax and have higher take-home pay (after tax) and encourage them to spend more.

In the case of Malaysia, a major reduction in individual income tax rates should slow down the effect of brain-drain of our talented individuals to overseas countries and help the country to retain the “tax base” or “tax-paying individuals”.

KEVIN TEO Singapore

Related post:

Time to reform Malaysia's tax system?

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