Whose tax bill is it anyway?

A country's tax policies are among its most defining characteristics. They show what kind of country and what kind of people we are, or would like to be: supportive of each other and the common goal, or self-interested and blind to the problems and realities of those around us; generous or mean. It really is as simple as that: two opposites. There are no third ways, particularly in a country like Spain, where five million are registered unemployed as it struggles to deal with a deficit that is close to 100 billion euros. In short, the time has come to take a long, hard look at taxes.

In the United States, where generous tax policies toward the wealthy are virtually enshrined in the Constitution, Warren Buffett, the planet's third-wealthiest man, is calling on Barack Obama to make him pay more. In France and Germany, the respective 16 and 50 richest people are asking their governments to take more of their money. Their gestures are little more than symbolic, but they should make Spaniards sit up and ask why they aren't hearing similar calls here. "This is a country where people who avoid taxes are regarded as heroes," says Miguel Ángel García, an economist who works for the CCOO labor confederation.

In Germany, the "Vermoegende für eine Vermoegensabgabe" (Wealthy people in favor of a wealth tax) movement, launched in 2009, proposes a five-percent tax for two years followed by a reduction to one percent for those who have personal fortunes of more than 500,000 euros (750,000 dollars). Its founder, Dieter Lehmkuhl, estimates the move would generate 100 billion euros. The group says it does not want to see those gains swallowed by the general budget, but earmarked for specific projects in the areas of environmental protection, education and social services such as healthcare and social welfare.

"The gap between the poor and the rich in Germany has widened during the last 15 years," says Lehmkuhl, a retired doctor and one of the group's founding members. One of the reasons for this, he adds, was past governments' tax reduction policies that favored businesses and the rich.

"It is impossible to sustain a model where 10 percent of Germans have 70 percent of the wealth," says Nicholas D. Kristof, a two-times Pulitzer Prize winner, in his New York Times article, 'Our Banana Republic,' pointing out that in 1980 the directors of the United States' biggest companies earned around 42 times the salary of the average employee, while that figure had soared to 531 times by 2001. There is something wrong in a system that creates and tolerates such inequality, and it is widespread in Europe.

But Dieter Lehmkuhl is optimistic, saying that acceptance of this kind of inequality is finally on the wane. "Governments have to do what they were voted in to do: to work for the common good and the general interest, and not for the financial services sector and the interests of a few powerful people," he says. But a look round the governments of the European Union shows that Lehmkuhl's optimism is ill-founded.

The Italian government has performed a U-turn on its proposal to add a five-percent tax on incomes over 90,000 euros, and 10 percent on those above 150,000 euros. In France, the government is sticking to its plans to impose an additional three percent on those with an income of more than 500,000 euros, while Portugal says that it is to impose an extra three percent on companies with profits of more than

1.5 million euros a year, and that it is to tax higher earners harder.

And in Spain? Are we going to hear any of the country's super rich clamoring to be taxed more heavily? "I doubt that very much," says the head of a Madrid law firm that specializes in inheritance law. "Spain's wealthy refuse to accept that they are wealthy, and they would never be capable of acting as a group. In this sense they are different to the French or the Germans, who have always accepted that they have a role to play in society," he adds.

The opinion of a leading board member of one of Spain's top banks (who prefers to remain anonymous) gives a very clear indication of the likelihood of this country's super rich coming forward at its time of need. "Tax reform of this kind may well be nothing more than demagoguery that would do little to solve this country's problems. These kind of debates bother me, because they distract us from the real problems and from finding real solutions to them. There are no magic wands here, and we cannot fool people by putting forward such simplistic proposals when this country faces complex and deep-rooted problems.

"The tax system needs to be overhauled, and taking into account the positive and negative effects of each change," he adds.

The great tax debate does indeed require us to shed our preconceptions. Contrary to general opinion, Spain's wealthy do make a contribution to the country. Some 2.2 percent of taxpayers, that's to say 294,583 people, or those with an income of more than 90,000 euros, contribute some 24.8 percent of personal income tax, which comes out at around 16 billion euros.

Is that enough? Miguel Ángel García of CCOO thinks not. For example, company board members pay the maximum tax rate, up to 50 percent, but a large part of their real income comes not from their salary, but from bonuses, dividends, and stock options, which are taxed at 21 percent.

Incomes above 600,000 euros, say the Tax Office's experts, are taxed at an average of 27.8 percent, lower than the rate of those in the bracket between 60,000 euros and 600,000 euros. These figures suggest that Spain's tax policy is not headed in the progressive direction that all contemporary systems should be going: that of those earning the most paying the most. Increasing the tax burden on high-earning individuals is the logical way forward; the problem is they keep a very low profile.

In Spain in 2009, just 6,829 people declared an income of more than 600,000 euros. That's 0.04 percent of all tax payers. In total, they contribute 2.7 billion eurosa year - just 3.93 percent of all income tax. Given such a limited impact on the economy, raising their tax ceiling seems an exemplary measure. Or does it?

"Given the previous increases, there is no way to establish a new, additional tax on those earning more than 600,000 euros a year. That said, if we were to raise the overall tax level by one percentage point, up to 50 percent, income from this group would be

26.3 billion euros, and if we were to raise it to 51 percent then we would be talking about 52.6 billion euros," says José María Mollinedo of the Tax Office.

But as Javier Díaz-Giménez, who teaches economics at the IESE business school, a few gestures of this kind would go a long way in the short term. "To raise taxes on the super wealthy for a short period of time is a good idea: it is a way of counteracting the legal maneuvers the rich have up their sleeves to avoid paying their share."

At the same time it would be a good way of mitigating the widespread belief that the recent tax reforms have largely benefited the wealthy rather than the middle classes. Alberto Montero, head of the Centro de Estudios Políticos y Sociales think-tank, offers some simple math to explain: "In 1993, those with an annual income of more than 180,000 euroswere subject to an income tax rate of 49.37 percent. Today, anybody who declares an income of more than 290,000 euros, pays 30.8 percent. In other words, a full 37.6 percent less."

Extrapolating that for average incomes comes up with a very different result. If in 1993, the rate for those earning around 18,000 euroswas just under 17 percent, today, those earning 29,200 euros must pay income tax of 15.5 percent. That's a very small reduction in comparison.

As the accompanying graph shows, between 1995 and 2011, tax on the highest earners fell by 10.2 percent in the 27-member European Union

No less than 20 EU states cut taxes on those who could most afford it, and only Portugal, the UK and France have raised taxes at the higher end of the income spectrum. In Spain, those with a long memory will remember that in 1995, the top rate was 56 percent. Today, 17 years later, the top rate is closer to 45.8 percent. Little wonder that so many people believe that the tax burden is borne most by those taxed at source, as opposed to the wealthy, who are able to employ accountants to find legal loopholes to avoid paying their share.

"It is essential that taxes, income and spending are part of the fabric of society," says Elena Cachón, an economist at the UGT labor union. Juan Carlos Martínez Lázaro, who teaches economics at Madrid's IE Business School, blames previous administrations for failing to explain tax policy to the electorate.

So how do Spain's wealthy avoid paying more tax? One tried and trusted means is by putting their money into SICAVs. A SICAV is a public limited company whose object is to invest in financial assets. The advantage of a SICAV is that it pays just one percent to the Treasury in corporate income tax.

Similar to an open-ended mutual fund in the United States, and as with other open-end collective investment schemes (such as contractual funds), investors are in principle entitled at all times to request the redemption of their units, and payment of the redemption amount in cash.

Last year, there were some 3,133 SICAVs worth a total of 26.2 billion euros. They have long been the refuge of the super wealthy, attracting the likes of the Koplowitz sisters, Inditex magnate Amancio Ortega and the investor Ram Bhavnani. Yet the number of SICAVs fell by 3.1 percent in 2009. "Some SICAVs, for example Ram Bhavnani's, have merged with others, while other investors are now looking for even more efficient and effective vehicles to protect their money, such as SIFs, a specialized investment fund based in Luxembourg. Surely it isn't possible to pay less than one percent in tax?"

The experts point out that such a low tax rate is only possible if the profits stay within the SICAV. "These instruments allow tax payments to be avoided in the same way that investment funds or unit-linked funds do," says Paula Ameijeiras of financial services company AFI.

But the reality is that SICAVs and SIFs are black holes from which taxes never emerge. There is intense competition between the world's tax havens to attract the super wealthy's money, and the way to do so is through such vehicles. Jesús Sanmartín, president of REAF, the Spanish registry of tax advisors, points out the nicety: "They are ways to pay less tax; they are not a means to avoid tax."

"The question is whether we want to tax these kind of people," says the head of a Madrid law firm that specializes in tax. If the government wants to raise more money, it would seem it has few alternatives. Avoiding taxes in Spain is very easy: "All they have to do is invest in non-Spanish assets," he adds.

The wealthy have also had it easy when it comes to inheritance tax. The central government passed the buck on this issue to the regions, allowing them to decide. "In Andalusia, Extremadura and Asturias, for example, inheritance tax is still paid, while in Castilla-La Mancha, Castilla y León, the Balearics, the Canaries and Madrid, the amount of tax paid is insignificant," says Javier Ragué, in charge of tax advice at brokerage Cuatrecasas. In tax terms, he says, Spain is "a federal system."

Spain's tax system certainly has its singularities. Take, for example, a family that is part of the minor aristocracy. The children live in Madrid, and their mother provides each of them with their inheritance while she is still alive, say 100 million euroseach. Of that figure, the regional government of Madrid would receive just one percent. And if the child lived solely from the bonds, dividends and shares that the inheritance accrued, then he or she would pay what other savers pay: 21 percent. How fair is it that somebody who inherits

100 million euros pay only 21 percent tax?

"If the very wealthy are using legal chicanery to avoid paying their taxes, then the correct procedure is to change the law and to be more efficient in fighting tax evasion," says José María Mollinedo of the Treasury. Most experts agree, albeit in private, that at times of crisis, applying inheritance tax is valid.

In 2009, the AEAT tax office says that inheritance tax raised 2.5 billion euros. And what of wealth tax? Economy Minister Elena Salgado now admits that the Socialists were wrong to do away with Spain's wealth tax in 2008, and that the government has been considering re-introducing it. In 2007, its last year in operation, wealth tax garnered 2.1 billion euros. But if it is to be revived, it will be under a different guise, given that before it hit middle incomes harder than the very wealthiest. Of the 981,498 to whom wealth tax was applied in 2007, only 47,614, or just under five percent, said they had assets worth more than 1.5 million euros.

This time around, wealth tax would likely only be applied to those with significantly more valuable assets, says the government, without setting a benchmark. Socialist prime-ministerial candidate in November's general elections, Alfredo Pérez Rubalcaba, is set to propose a return to a wealth tax that targets the super rich, and leaves the middle classes unaffected. The Popular Party rejects any such rise.

So where else could the government raise more money? Eduardo Sanfrutos of Ernst & Young says that the logical place to start is VAT. "Spain has the lowest rate of VAT in Europe, after Cyprus and Luxembourg."

Few people understand how the current tax system works. Perhaps the government's first tax should be to introduce one that is simpler, clearer, and fairer. But leaving the technical questions aside, there is the social aspect of taxation. It will only be when avoiding paying one's taxes is seen in the same terms as drunk-driving or domestic violence, awareness of which have increased significantly in recent years, that this country will begin to address the issue of taxation seriously. According to the Treasury, tax evasion in 2009 reached 59.5 billion euros. Imagine what kind of country Spain would be if that figure were zero.