13% – Russia’s tax on income

America is a haven for capitalists while Russia is a workers paradise. US glorifies profits, Russia vilifies it. This was the conventional wisdom. It has been turned on its head. Bush fought a bruising battle in the US Congress to marginally reduce taxes. Vladimir Putin, the Russian President, did it with ease.

Jan 1, 2001 was the beginning of a new era in Russia. Russians woke up to a flat 13 percent income tax. It was a watershed event. That’s right; it is Russia that we are talking about, not Hong Kong or Singapore. The USSR was founded on the principle that all businessmen were evil and profits were passe – a bourgeois concept.

Now, businessmen can retain 87 percent of what they earn in the land of Lenin! This is something which I would not have dreamed of 10 years ago. Truth is stranger than fiction.

What is surprising is that Russia had just three tax rates of 12, 20 and 30 percent prior to this reduction. The rates were high but comparable with what most countries charge, and, yet, Putin chopped them.

What has been the result of this relatively low tax rate? It has been an unprecedented success for Russia. It has contributed to Russia’s stability which was so lacking in the aftermath of the collapse of communism. The benefits to the Russian economy grow by the day.

Capital flight has stopped and foreign investors have started returning to Russia. This, inspite of the huge losses incurred by the dollar investors resulting from a complete collapse of the ruble in the 1990’s.

Hoover Institution scholar Alvin Rabushka observed in a February 21, 2002 analysis for www.russiaeconomy.org, “the 13 percent flat tax has exceeded the expectations of the government in terms of revenue. For the vast majority of taxpayers, its implementation is simple, and no forms need to be filed.” Adjusting for currency fluctuations, Rabushka adds, “real ruble revenues increased about 28 percent.”

This novel experiment is paying huge dividends for the Russian government by inculcating the habit of paying taxes in people who were used to a culture of evasion. This changed attitude was to be expected; after all, evasion too comes at a cost – black money is difficult to reinvest in business and peace of mind is lost. People, therefore, do pay up when rates are not extortionate.

Russian tax revenue which barely equaled nine percent of its Gross Domestic Product (GDP) has grown to 16 percent. Russia also grew by 5% in 2001. A win-win situation for all concerned. Taxpayers are smiling, Putin has become a hero of the ‘Union of World’s Taxpayers’, and Russia’s government is busy collecting a windfall.

The US meanwhile has six tax rates from 10 to a high of 38.6 percent. Its 46,900-page Tax Code provides elephant size loopholes to the wealthy while the middle classes pay up. Russians file a simple one page form.

It is estimated that tax accountants will gobble up over 150 billion dollars for the paperwork which accompanies the tax payment in the US. This burden is one of the reasons why the US economy will not average even half the growth rate accomplished by Putin’s Russia.

It is ironic that Russia has a 13 percent flat tax while the bastion of world’s capitalism cannot even bring in a flat 17 percent tax. This is what Steve Forbes, a republican contender for the US presidency, had wanted but could not achieve.

Clearly, Russia has more to do if it wants to prosper. Rule of law, freedom of speech and, especially, far stronger property rights are surely needed. The 13 percent income tax is however a very powerful step in the right direction.

Nepal, to make an impact, must abolish the income tax. To do so would signal to the world’s business community, ‘invest here; Russia may have larger markets but in Nepal you need no tax experts and pay no income tax.’

With the abolition of the income tax, foreign and domestic investment would boom and trade would virtually explode. Any loss in revenue would be more than made up by higher VAT realizations by the government.

The Boss