Tax is one of the very few aspects of life which are certain alongside death according to the well known saying. Taxation is the system states use to raise money to finance government spending. Governments use tax revenues to pay the army and police, to build dams and roads, to operate schools and hospitals, to provide food to the poor and medical care to the elderly, and for hundreds of other purposes. Without taxes to fund its activities, government could not exist.
Throughout history, people have debated the amount and kinds of taxes that a government should impose, as well as how it should distribute the burden of those taxes across society. Unpopular taxes have caused public protests, riots, and even revolutions. In political campaigns, candidates’ views on taxation often determine their popularity with voters. From an economic aspect taxation transfers wealth from households and businesses to the government of a nation. The side-effects of taxation and theories about how best to tax are an important subject in microeconomics. Taxation is almost never a simple transfer of wealth. Economic theories of taxation approach the question of how to minimise the loss of economic welfare through taxation and also discuss how a nation can perform redistribution of wealth in the most efficient manner.
Taxation and the Economy
Fiscal policy is used by governments around the world to influence the level of aggregate spending in the economy, although this method has lost influence as a lever by most governments until the 1980’s this was the main method to ensure an economy never overheated and curtail inflation, during the era of Margaret Thatcher and Ronald Reagan using taxes to control an economy gave way to monetarism i.e. the use of interest rates and money supply.
Taxation is the most important source of revenues for modern governments, typically accounting for 90% or more of their income. The remainder of government revenue comes from borrowing Countries differ considerably in the amount of taxes they collect. In the United States, about 30 percent of the gross domestic product (GDP), a measure of economic output, went for tax payments in 2000. The 30 percent figure is relatively low from a historical standpoint. As a result of a new round of tax cuts in 2003, the tax percentage share of GDP was expected to be lower than at any time since 1959 when many major government programs, such as Medicare and Medicaid, did not exist. In Canada about 35 percent of the country’s gross domestic product goes for taxes. In France the figure is 45 percent, and in Sweden it is 51 percent.
Types of Taxes
Governments impose many types of taxes. In most developed countries, individuals pay income taxes when they earn money, consumption taxes when they spend it, property taxes when they own a home or land, and in some cases estate taxes when they die. In the United States, federal, state, and local governments all collect taxes. Taxes on people’s incomes play critical roles in the revenue systems of all developed countries. In the United States, personal income taxation is the single largest source of revenue for the government. In 2006 it accounted for nearly 50% of all federal revenues.
Consumption taxes symbolise the West, such tax is levied on sales of goods or services. The most important kinds of consumption taxes are general sales taxes, excise taxes, value-added taxes, and tariffs. A general sales tax imposes the same tax rate on a wide variety of goods and, in some cases, services.
When the British government implemented a system of local poll taxes in 1990, citizens considered the tax so unfair that they held demonstrations-some violent-around the country. The extreme unpopularity of the tax contributed to the downfall of Prime Minister Margaret Thatcher. Her successor, John Major, repealed the tax in 1991. In the United States, the 24th Amendment, ratified in 1964, prohibited the payment of poll taxes as a requirement for voting in federal elections.
Issues in Fiscal policy
The level of taxation in any nation will affect people’s behaviour, including their choices in working, saving, and investing. Taxation in the West has created a number of problems in wealth distribution where the burden falls heavily upon the poor with the rich utilising tax loopholes and tax havens.
A simple example to understand this is in the UK one would be liable for Income tax and national insurance contributions which brings the tax burden to 34%. Add to this consumption taxes, local government taxes, road taxes and other indirect taxes then the tax burden falls close to the 50% mark. Whichever tax regime is used progressive or regressive the tax burden remains very high in the West and drastically affects consumer spending. The level of spending in any economy is affected by the level of taxation. A high tax burden can have a drastic effect on the overall economy especially in the West where spending plays a key role.
Investment decisions by companies are also affected by taxation, investment includes such items as machines, factories, computers, trucks, and office furniture. The return on a physical investment is the amount by which the investment increases the business’s revenues. How do taxes affect physical investment? In effect, a tax on business income is a tax on the physical investment’s return-the tax reduces the firm’s income and thus the benefit from making the investment. Most economists believe that business taxes decrease the amount of physical investment by businesses.
Taxes also influence the types of physical investments that businesses make. This is because the government taxes returns on some types of investments at higher rates than others. These differences cause businesses to make investment decisions based on tax consequences, rather than whether they are sound from a business point of view. By distorting physical investment decisions, the tax system leads to an inefficient pattern of investment.
The amount of taxes represents a recurring debate in the West as an example in the UK Companies are liable for an excise duty when they drill oil from the ground, once it leaves the factory after being refined it is liable for tax and then motorists are liable for either a duty or a consumption tax when they fuel their vehicles. Here the same oil was taxed three times. Fundamentally the problem or debate remains should income be taxed or wealth, governments in the developing world continue to argue that the level of taxation is necessary for them to carry out the functions of the government. More then 40% of government expenditure every year is spent on social security and national health systems.
Islam has a completely different perspective on the economy and tax as the Islamic basis is different to that of capitalism. Fundamentally taxation in Islam and under the khilafah puts the emphasis of taxation on wealth rather than income. The Islamic taxation system does not tax income, but taxes wealth. This means that the average person will be left with more disposable income and will be liable for tax on whatever wealth is left at the end of the year. This will have a significant effect on the economy. If we take figures from the British economy, and incorporate them in an Islamic model we can demonstrate the effect of this. In 2007 the average UK salary is £23,244, and the tax burden on this salary is 34% (income tax and National insurance together), which is just under £8000. This alongside indirect taxation (that is taxation on spending rather than income) as well as council tax, road tax, sales tax and so forth mean that the real tax burden falls at closer to the 40-50% mark. This means that the average person in this country is losing between £10,000-12,000 to taxation.
In Islam although simplified, the wealth tax falls at 2.5%. This means that the within one year, the average person can save at is at least £10,000. This means that the average person will have an extra £700 to spend each month as he will not be taxed on his income. Taking into account that the total UK workforce is approx 31 million this means that the extra money flowing around the economy would be £240 billion, if the income was not taxed. Therefore two or three people could easily enter into a business contract to supply some of the demand in the economy for consumer or manufactured goods thereby creating more employment in the economy. The net effect of this is that it will increase demand for goods and services right across the economy which will generate an increase in trade and in turn an increase in wealth for businesses.
The main revenues of the khilafah are:
1. The different types of public property revenues
2. The properties of Zakat
3. Booties (Fai’),
4. Land Tax (Kharaj)
5. Head Tax (Jizya)
The different types of public property revenues
Islam funds the basic needs of its entire population by designating any utility regarded as indispensable for the community, such that its absence would require people to search far and wide for it, i.e. the asset is difficult to find and make use of as it requires refining, as a public property. This means the utilities would be publicly owned and the revenue generated would be administered for the benefit of all citizens. This is derived from the hadith of the Prophet صلى الله عليه وسلم “Muslims are partners in three things: in water, pastures and fire”. Although the hadith mentioned just three things we can utilize qiyas (analogy) and extend the evidence to cover all instances of indispensable community utilities. Thus water sources, forests of firewood, pastures for livestock and the like are all public utilities as well as oil fields, electricity plants, seas, lakes, public canals, gulfs, straits, dams etc. The Khilafah will impose an admin charge on the people which will be revenue for the state. It will also export oil to nations abroad which will bring in huge amounts of wealth to the states treasury. In 2006 81 million barrels of oil were produced a day 45% of this was from the Muslim world that’s nearly 38 million barrels a day, at current oil prices $80 a barrel (12th Oct 2007) that’s income of $3 billion a day!
The properties of Zakat
Zakat, the alms is a wealth tax liable on 2.5% of people wealth held for a year. The Zakat properties are kept in a special place in the Bait ul-Mal (state Treasury) and they are not spent except for the eight categories mentioned in the Qur’an. But the Khalifah is allowed to spend them, according to his opinion and Ijtihad, for whom he sees fit of the eight categories. This tax is a wealth distribution tax which is re-distributed to the poor, the needy, those with debts and for the dawah amongst other categories.
This is the wealth that will come under the jurisdiction of the khilafah via the integration of the Muslim world. Islam obliges the Muslims to live under the khilafah which is the political structure of the Islam. The net result of this is the khilafah’s economy will continually be integrating other economies as they come under its jurisdiction.
Land Tax (Kharaj)
The Kharaj is a levy imposed on land; it’s a type of land tax. The tax is calculated according to the quality of the land and the possible production worth. This will change the landscape of the Muslim world as much of the productive land remains unused today or in the hands of land owners who inherited vast amounts of land by the departing colonialists. This tax will be coupled with a number of other policies; the khilafah will initiate an agricultural revolution by providing grants, cheap rental of land to all its citizens to ensure its agricultural policy is met. Those landowners whose land remains unused for 3 years will have their land confiscated.
Head Tax (Jizya)
The jizya tax is applied to all mature, male dhimmi (non-Muslim citizens) who have the means to pay it. Women and children are exempt as are the poor who have no livelihood.
The jizya is applied according to the prosperity of the dhimmi. In the time of ‘Umar ibn al-Khattab رضي الله عنه he established three different bands of jizya depending on the prosperity of the person. (Adnan Khan)