Several reasons constitute the importance of taxation.
Revenue of the government & Redistribution of Wealth
To ensure and maintain the public service provided by the government, for example, public libraries, and street lighting, government revenue is needed. Taxation is the major source of revenue for the government. By collecting taxes from more wealthy people and using the tax to provide public services to less wealthy people, redistribution of wealth is performed and more equality in income and wealth is achieved.
Attract investments
The government may use a low tax rate or tax-free treatment to attract investors. You may learn more from the below on financial or investment decisions.
Financial or investment decisions
A simple example to illustrate this situation is the following:
A Ltd. has a $1 billion surplus money for investment and it is considering whether to invest in Country B and Country Z .
(1) Invest in Country B:
Return: 5%
Tax rate: 10%
After-tax profits = $1 billion*5%*(1-10%) = $45 millions
(2) Invest in Country Z
Return: 6%
Tax rate: 15%
After-tax profits = $1 billion*6%*(1-20%) = $48 millions
In this case, even the Country Z has a higher tax rate, A Ltd. would still consider investing in Country Z, as it has higher after-tax profits.
But if the investment of $1 billion by A Ltd to Country B involved special industry investment and receives tax-free treatment by the government of Country B, while the tax treatment in Country Z remains the same. Then:
(1) Invest in Country B:
Return: 5%
Tax rate: Tax-Free
After-tax profits = $1 billion*5% = $50 millions
(2) Invest in Country Z
Return: 6%
Tax rate: 20%
After-tax profits = $1 billion*6%*(1-20%) = $48 millions
In this case, as the investment in Country B enjoys the tax-free treatment, it has higher after-tax profits than investment in Country Z. Based on the tax perspective, A Ltd would invest in Country B, instead of Country Z.
The share price of the listed company
In the financial reports, there are line items reflecting the impact of the tax. For example, the Income tax paid in the Statement of Cash Flow and Income tax expense in the statement of profits and loss. The tax increase may potentially lower the net profits of the firm and reduced share prices due to the reduction of profitability.
Discourage demerit goods
It placed an economic effect that discouraged people from purchasing those products.
e.g. Tobacco Tax, Plastic Bag Tax
Macro-economic control
For example, the government may impose stamp duty or increase the stamp duty rate to cool down the overheating of the property market or reduce speculation activities.
Political influence
Governments may potentially gain public support by reducing tax rates.
Penalty on tax evasion
Tax evasion may lead to fine charging and imprisonment.
Career opportunities
As taxation is so important for corporations, many companies provide career opportunities related to taxation. For example, the tax consultant position in accounting firms or banks.
Death Tax
Even in death, you may not be able to escape from tax. For this topic, we will have an article to explain more.
