Lecture 1. Taxation-the Concept and the Science 1. Origins and historical development of taxes 2. Economic content of taxes 3.

Functions of taxation 4. The role of taxation in modern states 5. Theories about state regulation of the taxation system Part 1. Origins and Historical Development of Taxes Taxes form an element of the social existence. Human society is heterogeneous for natural and physiological reasons. Already in antiquity this made people unite their efforts and wealth for the purpose of responding to natural disasters and external enemies, as well as in order to build common towns, to support the people not able to work and to provide for many other social needs. Taxes constitute an integral attribute of the state. Taxes became a necessary element of the socio-economic relations at the formation of the state. The development and transformation of the states organisational forms were always associated with a modification of the taxation system. In the periods of slavery, states used taxes in the form of natural charges and duties (i.e. by collecting food, harvest items, etc., of personal obligations), but with the development of commodity-monetary relations, taxes took a monetary form. Primary taxes were initially applied directly on wealth through land and individual taxes. Secondary taxes appeared later, initially in the form of internal customs charges, and with the development of commodity-monetary relations, in the form of excises, which were paid by all the free individuals. In Ancient Rome, during peace times there were no taxes, but in times of war, citizens were subjected to taxes applied in accordance to their wealth. The tax rate (or the census) was determined once in 5 years. In the IV-III centuries B.C. the Roman state was expanding, new towns-colonies were being conquered and the taxation system was changing as well. Community (local) taxes and duties were being introduced in the colonies. Rome was becoming an empire. The main source of income for the Roman provinces was the land tax; on average its rate constituted 1/10 of the revenue from the land area. Other taxation forms were also used, for example, the tax on fruit trees or vine plants. In addition, chargeable to taxation were real estate, live assets (horned cattle and slaves), and other valuables. In addition to direct taxes, there were indirect ones, the most important of which were: -Transactions taxes, usually at the rate of 1% -Special taxes on slave transactions of 4%, and -Taxes on the release of slaves at the rate of 5% of their market price. Already in the Roman Empire taxes played not only a fiscal role, but also had the function of stimulating economic development. At that time taxes already had a monetary form, which forced the population to generate surplus production for sale. This promoted the expansion of commodity-monetary relations, an intensification of the division of labour and of the urbanisation process. Many economic traditions of the Ancient Rome were adopted in the Byzantine Empire. In the early Byzantine period of up to the end of the VII century, the empire had 21 types of direct taxes, including: Land taxes Individual duties Army maintenance taxes Taxes on the purchase of horses 1

Recruit taxes, which released the person paying the tax from military obligations Charges on the sale of merchandise (usually around 10-12.5%) Charges for issued state documents The Russian financial system started to develop a little later. The unification of the Ancient Russian State began only at the end of the IX century. The main sources of income in the sovereigns treasury were the tributes. In essence these constituted initially a sporadic, but later a more systematic direct tax. Indirect taxation existed in the form of sales and court charges. Transit dues called mit were collected for the transfer of goods through mountain gaps, shipment dues were charged for transporting goods over rivers, hotel dues were charged for the right to own warehouses and the retail tax was required for the right to organise market events. The taxation system changed its form and improved under the influence of class conflicts. Its regressive character, conditioned by the preponderance of indirect taxes started to change in the 20th century in direct conformity with the transition to progressive income taxation. The taxation system of the 20th century, as a result of the efforts made in the finance science and practice is distributing the taxation burden more uniformly than ever in the history of taxation. In general, the taxation system is a complex and effective mechanism for the regulation of economic conditions; it is a flexible instrument, which influences the profitability of various ownership forms, and the effectiveness of national economies in the conditions of the current science development and of economic globalisation. However, the taxation policy of the state (which is defined as the manoeuvring of the rates and types of taxes) is subject to the lag effect, in contrast to the banking-monetary policy, which is caused by the fact that any change of the tax rate must take the form of a legal document.

Part 2. The Economic Content of Taxation Taxes are a defined as mandatory payments of the contributors to the budget and to the extra-budgetary funds in the amount determined by law and within the stipulated deadlines. Taxes represent the monetary relations of the state with corporations and individuals regards to the redistribution of the national income and the mobilisation of financial resources to the budgetary and non-budgetary funds of the state. Taxes became a necessary element of the socio-economic relations at the moment of the state formation. The development and transformation of the organisational forms of the state were always associated with a modification of the taxation system, which depends on the development level of the states democratic forms. The economic essence of the state was addressed for the first time in the work of D. Ricardo, who wrote Taxes form the share of the produce and work of the country, which is transferred to the government, and ultimately they are always paid from the capital or income of the country. Russian economists also made a certain contribution to the development of the taxation theory. Among them, N. I. Turguenev mentioned the following: Taxes are the essence and the means for the achievement of the goal of society or the state, i.e. of the goal that people assume for society. Sokolov wrote: Taxes should be understood as the compulsory collection of funds charged by the state from corporations and individuals in order to provide for its costs, without offering the tax-payer a corresponding equivalent. Which means that the state collects with the help of taxes means for the formation of a centralised state fund necessary for the fulfilment of the state functions. Taxation theory constitutes a part of the finance science. Taxation plays a role in the process of redistribution of the new value, is involved in the process of reproduction, and constitutes a specific form of production relations. The source of taxation is the newly created value, i.e. the national income. The source of tax payments is the value added of the product and a fraction of the value of the necessary product. Taxation, as a particular type of production relation, constitutes a specific economic category with stable internal features, development patterns and forms of manifestation. 2

However, taxation is not just an economic but also a financial category. Taxation has general traits pertaining to all the financial relations, but at the same time, it has its own defining features and functions, which differentiate taxation from the entirety of financial relations. Part 3. The Functions of Taxation The functions of taxes are a manifestation of their essence; they are a means to represent the characteristics of taxes. The functions of taxation illustrate its social purpose of the valuebased distribution and redistribution of income. Each of the functions fulfilled by the taxation instrument is a manifestation of an internal feature, an indicator or trait or this economic category. There are five main functions of taxes: fiscal, redistributory, regulating, controlling, and promoting. 1) The main function of taxation is the fiscal one. It is through fiscality that taxes play their role in the formation of the state budget necessary for the realisation of national and holistic state programmes. The fiscal function provides for the achievement of the main social goal of taxationthe formation of the states financial resources necessary for executing the role of the latter (defence, social, environmental protection, etc.) 2) The allocation function of taxation expresses their essence as a special centralised instrument of allocation relations and consists of the social income redistribution among various groups of citizens: from wealthy to deprived ones, which ultimately provides for the assurance of the social stability of the population. 3) The regulatory function of taxation was initiated as soon as the state started to take active part in the economic set-up of the society. This function is aimed at achieving specific goals of the taxation policy through the taxation mechanism. Taxation regulation entails three sub-functions: a. The stimulating sub-function is aimed at the development of special socioeconomic processes, and is implemented through a system of allowances, exemptions and preference arrangements. The legislation in force stipulates the stimulation of a number of taxpayer categories such as the owners of small enterprises, the agricultural producers, capital investors, or charities. b. The destimulating sub-function inhibits some socio-economic processes through the conscious exaggeration of the taxation burden. As a rule, the effect of this sub-function is related to the introduction of excessive tax rates. These are, for example, the protectionist measures of the state, aimed at supporting local producers through prohibitive import custom duties. It is important to keep in mind, nevertheless, that taxation relations, as any other relations, must replicate continuously. Taxes must be collected today, tomorrow and always. This is why the utilization of the destimulating sub-function should not lead to the weakening of the taxation basis, to suppression, or even to liquidation of the tax source. Such an exaggeration may result in a situation where there will be no income/processes to be taxed. c. The replication (regeneration) function is explained as follows: by taxing the utilisation of natural resources, roads, mineral and primary resources, the state uses these proceeds in order to regenerate the exploited resources. 4) The controlling function of taxationthrough taxation, the state controls the financial-economic activity of juridical and natural persons. This also contributes to controlling the sources of income and the directions of spending. 5) The incentive function stipulates special taxation arrangements for a certain group of citizens, who are social achievers (participants in wars, etc.). This function of taxation has a social facet. Part 4. The Role of Taxes in Modern States The state, or, to be more exact, the government cannot do anything for its citizens if the citizens are not doing anything for the state, mentioned the originator of the Russian finance science, N. I. Turguenev in his book The Experience of the Taxation Theory. Taxes have a central role in the system of state revenues. In all countries, taxes constitute 80-90% of the 3

state budget. In conditions of market relations, taxation is the main instrument for the regulation of economic development. This imposes great constraints on the taxation mechanism, on the taxation system, which must also provide for the formation of the budget revenues needed for the achievement of the stipulated objectives. Taxes are an objective necessity since they are conditioned by the development needs of society. The need for taxation results from the functions and objectives of the state. The state does not have other acceptable methods to insure its revenue in market conditions. The participants in the social production processes include economic agents, hired employees and the state. Their initial revenues are formed in the production sphere of goods and services and these constitute the value of the resulting GDP of the country. The GDP includes wages and salaries, social contributions, gross profits, consumption taxes, and other production taxes. Wages and salaries constitute the primary income of hired employees, gross profits make up the primary income of the economic agents and the remains form the revenue of the state. These are accumulated in the budget system and in extra-budgetary funds. As a result of further redistribution, through the taxation of primary revenues, the secondary revenue of economic agents is formed; this includes the net income of enterprises, the net wages earned by hired employees, the budget of the state. As a result, the state collects from 29% (in the USA) up to 55% (in Sweden) of the GDP. Such a large divergence among countries depends on the number and volume of state functions. For example, in the USA the state does not finance health care and education, while Sweden has a wide-ranging social policy. Usually, the optimal level of taxation is established at the stage of budget planning by taking into consideration the financial needs of the state and the requirement to maintain an effective, functioning system of the economy. Taxation can be applied up to a limit. This ceiling is defined as a maximum taxation level, where a further increase in the taxation rate would lead to a drastic aggravation of economic and social contradictions. Such effects can take the form of open political conflicts caused by fiscal reform, insubordination to the fiscal authorities, tax evasion, capital outflows from the national economy across the border, or the relocation of the population to other regions for tax reasons. However, in extraordinary conditions the taxation ceiling can be raised significantly. The role of taxation consists of the following:

Due to the taxation instrument, the state has the opportunity to influence economic development in accordance with its programmes

Taxes must stimulate the development of entrepreneurship and small business

Each state should have a taxation climate favourable for foreign investments

Taxation affects changes in the structure and magnitude of the populations purchasing power. The influence of various technological progress stimulation methods through the taxation system is variable and undefined. Fast-track depreciation reduces the taxation basis on the one hand but leads to technological progress on the other hand; deductions from the costs of scientific research and experimental construction works promote the development of progressive, scientific fields. Part 5. Theories about the State Regulation of the Taxation System Attempts to provide a theoretical grounding to the practice of taxation are reflected in taxation theories, the evolution of which took place together with the development of various directions in economic thought. The conceptual models of taxation systems changed in accordance with the political economy of the state. 4

For a long time, the classical taxation theory was of most importance. As a result, taxation was only granted the fiscal role of providing state revenues. A. Smith is considered to be the father of the scientific taxation theory. In his monograph An Inquiry into the Nature and Causes of the Wealth of Nations A. Smith gave a definition of the taxation system, indicating the main conditions for its formation and putting forward four main taxation principles: equity, determination, convenience and thrift of taxation administration. Smiths work was developed later on by D. Ricardo, J. Mills, and W. Petty. All the theoretical deliberation and scientific debates of those years were focused on one singular aspect: that the execution of the taxations functionthe provision of state revenuesis achieved on basis of the principles of equity and justice. Naturally, this theoretical approach to the nature and role of taxation changed in the course of many decades and centuries, when economic relations became more complex and the need for the intensification of the states regulatory role became more stringent. As a result, new taxation theories emerged; among them there were two directions of economic thought, which had the most significant influence on the taxation policy of the countries with a developed market economy: the Keynesian and the neo-classical ones. The initiator of the Keynesian taxation theory was John Keynes, who exposed its main principles in his book The General Theory of Employment, Interest and Money, in which he advocated state interventions in the processes of market economy regulation. According to Keynes, fast economic development must be based on a market expansion and an associated increase in consumption. As a result, state intervention is achieved at the level of effective demand. One of the main assumptions in Keyness theory is that economic growth is related to monetary savings only in conditions of full-employment. In the contrary case, large amounts of savings hinder economic development as they represent a passive form of income and are not invested in production; as a result the author suggested that surplus savings must be subtracted with the help of taxation. This is why the state must intervene with the purpose of subtracting income savings with the help of taxation in order to finance investments and cover state expenditures. Keynes argued that high level progressive taxation is necessary and that low tax rates lead to reduced state revenues and as a result contribute to economic instability. That is, according to Keynes taxes must play the most important role in the system of state regulation. High taxes stimulate economic activity; influence the stability of the economy and in the context of the economic system act as integrated flexibility mechanisms. The neo-classical theory developed by J. Mutt, A. Laffere, and others is based on the assumption that the state is obligated to remove obstacles to free market competition because the market can and must regulate itself without external intervention; in addition, it can achieve economic equilibrium. Hence, this theory differs from the Keynesian one and assigns a rather passive role to state regulation of economic processes. According to this theory, taxation policy should be developed under the same assumptions: taxes must be as small as possible and corporations should be granted significant tax exemptions. Otherwise, a high tax burden would hinder economic activity and restraint the investment policies of corporations, which would lead to a downfall in the production funds renewal and in an economic recession. A restricted taxation policy would allow the market to provide independently for fast development and would lead to a significant expansion of the taxation basis. Arthur Laffer contributed considerably to the neoclassical taxation theory. He established a quantitative relationship between progressive taxation and budget revenues, and developed the so-called Laffer curve. According to Laffer, an increase in the tax burden leads to an increase in state revenues only up to a level, where they start to decrease. The higher the tax rate, the higher the motivation for tax evasion. When the tax rate reaches a certain limit, entrepreneurship incentives are suppressed, the motivations for production expansion are reduced, taxable income decreases, and as a result, a part of the taxpayers will transfer from the legal to the shadow sector of the economy. Laffer considered that 30% of income is the maximum taxation rate that can be deducted for state budget purposes. 5

Taxation problems also constitute an important element of the neo-Keynesian theory. I. Fisher and N. Caldor considered necessary the division of taxation objects in accordance with consumption, by taxing the final cost of the consumed product and by taxing savings only as a % of the deposit. This led to the idea of a consumption tax, which is simultaneously a method for promoting savings and a tool for fighting inflation. The money assigned earlier for the purchase of consumer goods could now be used either for investments or for savings, which are transformed in capital investments with the help of the same budget policythe subtraction of the surplus savings. Long-term savings in themselves serve as a factor for future economic growth. Caldor considered that the consumption tax introduced through progressive rates with the use of exemptions and tax allowances for separate types of goods (for example, for objects of everyday use), is more just for people with low incomes than a fixed sales tax. In addition, in comparison to the income tax, the consumption tax does not cover savings that are necessary for future investments, thus stimulating their growth. Scientific taxation theories played a positive role in the economic development and growth of many countries. With the help of the taxation policy based on some aspects of the neo-classical theory, the USA government managed in the 80s to overcome economic crisis situations. Nevertheless, one should not adopt taxation theory blindly, without relating it to the socio-economic situation of the specific state. Hence, tax reform has to be performed in conformity with the economic development goals at the given stage, by relating certain aspects of the taxation theory with the applications of economic and financial policy implementation. Otherwise, the taxation system will unavoidably have negative effects on the development of the economy. Questions: 1. What are the oorigins and historical development of taxes? 2. Define the notion taxes? What is the economic essence of taxation? 3. What are the main functions of taxes? Shortly describe the essence of each function. 4. What is the role of taxation in modern states? 5. What are the main Ttheories about the State Regulation of the Taxation System? Tests: 1. a) b) c) d) 2. a) b) c) d) e) 3. a) b) c) d) The father of the scientific taxation theory is considered: J. Mills, W. Petty, A. Smith, D. Ricardo Which of the following is not considered the main function of taxation? Fiscal Allocation Regulatory Stimulating Incentive Choose the correct variant: In all countries, taxes constitute 80-90% of the state budget. In all countries, taxes constitute 40-50% of the state budget. In all countries, taxes constitute 70-80% of the state budget. In all countries, taxes constitute 20-30% of the state budget. 6

4. Who is the author of the following definition: Taxes are the essence and the means for the achievement of the goal of society or the state, i.e. of the goal that people assume for society? a) Sokolov, b) D. Ricardo, c) Turguenev, d) A. Smith 5. a) b) c) d) Who were the representatives of the neo-classical school? J. Mutt, A. Laffere, I. Fisher, N. Caldor, D. Ricardo, J. Mills, John Keynes

Lecture 2. Taxation Elements 1. The Subject and Object of Taxation 2. Taxation Allowances 3. Tax Rates and Other Tax Elements. Part 1. The Subject and Object of Taxation The unifying basis of all taxes in the RM and other countries are the taxation elements. One of the main elements, typical for the taxation instrument as a whole, is the notion of payer, i.e., the notion of the taxation subject. The taxation subject is the individual or company, fulfilling taxation obligations in accordance to the ownership of the taxation object. Every citizen of a state is a taxation subject. If the state has the right to deduct a part of the income, this relates to the obligation of each citizen to offer a part of his/her wealth to the state. In this context, one should not forget about the distinction between the taxpayer and the tax carrier. The former is the entity that initially pays the tax; the latter is the entity carrying the tax as a result of economic processes and transfers. This takes place primarily at the deduction of secondary taxes. For example in RM, taxation subjects are responsible for paying the VAT, yet the real carriers of the tax are the consumers. The taxation object is the object or phenomenon, which, according to the law, is being taxed. Taxation objects can be classified in the following way: income (income tax), wealth (real estate, land), wealth transfers (inheritance and gift tax), consumption (excises and VAT), or the import and export of goods (customs duties). Income taxation is divided into the taxation of earned and unearned income. Earned income tax relates to salaries, fees of people engaged in freelance occupations, the income of individual juridical persons. Taxation of unearned but legal income refers to dividends, interest revenue, capital expansion, land and real estate rents. The taxation object materializes as a result of legal events (actions, events, conditions), which affect the obligation of the subject to pay the tax: the sale of goods, works and services; the transit of goods though a customs territory, ownership of wealth, the receipt of inheritance rights, the receipt of revenue in one or another form. Part 2. Tax Allowances A tax allowance is a full or partial reduction of the taxation burden in correspondence with the legislation in force. In the international practice, the system of allowances and reliefs has been formed a long time ago. Individual income is taxed only after it reaches a certain level (which is the non-taxable income). Additional sums for the maintenance of each dependant, expenditures for the support of infants and elderly, for medical services that cost over a certain amount, for charitable donations and for education expenses are subtracted from the taxed income. It is possible to develop a certain systematisation of tax allowances. These can be classified into permanent and temporary allowances. Temporary allowances are granted to adolescents, refugees, foreigners, and people without a permanent residence in the given state but who are there only temporarily. Permanent tax allowances are granted to people, who are fulfilling other obligations or who have earned special merits with the state. Tax allowances provide for the financial-economic stimulation of the economic activity of the taxpayer through the reduction of the taxation burden obligations. Tax allowances form an important element of the taxation policy and entail social and economic goals. For example, in the sphere of international economic relations, tax allowances are widely used as an incentive for exporters and foreign investors. Tax allowances are usually implemented through the taxation obligation of the payer, but sometimes this is done through the extension of the payment deadline, which is also a reduction in the taxation obligation. Tax allowances include the following types: 1) The untaxed minimum 2) Exempting from taxation certain elements of the object 8

3) Exempting from the payment of taxes certain natural persons or categories of payers 4) The reduction of the tax rate 5) Full tax relief, and others. The tax amount can be reduced either partially or entirely, for a limited or unlimited period of time. The exemption from tax for a certain period of time is called a tax break. The process of appropriation removes certain objects from being covered by taxation. Appropriation can be relevant permanently or temporarily, for all taxpayers and for certain categories. Tax discounts are aimed at the reduction of the taxation basis. Depending on the influence on the results of taxation, discounts can be divided into limited discounts (the size of the discount is limited directly or indirectly) and unlimited discounts (the taxation basis can be reduced up to the full amount of the payers expenditure). Tax credits are allowances aimed at the reduction of the tax amount and of the taxed sum. The tax credit takes the form of accounting for previously paid taxes and is used in order to avoid double taxation (a credit for foreign tax). In this case the size of the sum accounted for should not exceed the taxation sum payable in the Republic of Moldova. Tax amnesty is the return of the paid tax sum, a part of it, or the exemption of the taxpayer from financial sanctions for a certain period of time. Preferences are a special (preferential) type of allowance offered by one state to another on basis of reciprocity or unilaterally without impact on a third party. Most often this happens in the form of discounts or relief from customs duties. Preferential regimes are established by developed countries towards developing countries in the framework of the Global System of Preferences. Part 3. Tax Rates and Other Elements of Taxation The tax rate is the size of the tax set per unity levied. There are fixed and percentage rates. Percentage rates are classified can be proportional, progressive or regressive. It is important to emphasize the notion of base (main) rate, i.e. the rate that does not take into account the specific characteristics of the subject or the type of activity levied (ex. VAT 20%). There is also the reduced rate, which takes account of the specific traits of the payer and applies a reduced taxation burden, and the increased rate, which again takes into consideration the specific activity type that leads to income creation and applies an increased rate. Tax rates can also be classified as follows:

Value added ratesexpressed in percentages (income tax)

Specific ratesexpressed in a monetary form in conformity with the physical features of the objects levied (ex. the land tax). In terms of content, there are marginal, factual and economic rates. A marginal rate is indicated directly in the taxation legislation (ex. income tax for a company of 28%). The factual rate is defined as the relation between the paid tax amount and the total amount of income received. The comparison of economic rates most adequately represents the consequences of taxation. The taxation basis is the part of the taxation object expressed in levied units, to which a tax rate is applied in correspondence with the law. For example, when income is taxed, not all of it will serve as the taxation basis, but only a part of itthe taxable income. In a number of cases the taxation basis is factually a part of the object levied, to which the tax rate is applied. But this is relevant only in the cases where the taxation object is directly conducive to and allows for a calculation measure. Thus, the taxable profit can be expressed directly in monetary units. In contrast, the majority of the taxation objects cannot be expressed directly in taxation units. In order to measure the object, it is necessary to first select some physical feature, i.e. to determine the measuring unit of taxation. For example, the taxation object for car owners is the car itself. Different countries have various parameters of levying: in France it is the power of the engine, in Hollandthe weight of the car, in Germanythe volume of 9

the operating cylinders of the engine. In these cases, the taxation basis cannot be determined as the part of the taxation object. Tax payment deadlines are dates indicated in the law, when payments have to be made to the state or local budgets, as well as to extra-budgetary funds. Missing the deadline automatically leads to penalties, irrespective of the identity of the taxpayer who missed the deadline. The source of tax payment is a resource used for paying the tax. The source is different from the object and does not always correspond to the latter. Irrespective of the taxation object, the source of the tax payment can only be the net income (profit) or the capital of the taxpayer. Thus, the object of the land tax is land ownership and the taxed item is the specific piece of land. Questions: 1. 2. 3. 4. 5. 6. What are the main taxation elements? Define the notions taxation subject and taxation objects. Give the definition of the notion tax allowances. How are the tax allowances classified? What are the main types of tax allowances? Define the notion tax rate. How are the tax rates classified? Define the notion taxation basis, payment deadlines and source of tax payment

Tests: 1. Which of the following is not considered the taxation element? a) Taxation subject, b) Tax allowances, c) Taxation object, d) Fiscal policy 2 Tax allowances include the following types: a) The untaxed minimum b) Exempting from taxation certain elements of the object c) d) e) 3. Missing the payment deadlines automatically leads to: a) bonuses, b) recompenses, c) penalties, d) rewards. 4. The taxation object for car owners is: a) the driver, b) the car itself, c) the cars color 5. The taxation subject is: a) income, b) the individual or company, c) wealth, d) events.

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