It is the world’s wealthiest individuals who are seen as the most attractive — and lucrative — target for tax rises.
Summary: We examine how different jurisdictions are changing the way in which they engage with HNWIs and assess the implications of these trends for the world’s wealthiest individuals.
The global financial crisis had a devastating impact on the assets of high-net-worth individuals (HNWIs). According to the Global Wealth Report, which is published annually by the Boston Consulting Group, global wealth fell by 11.7% in 2008 from $109.5 trillion to $92.4 trillion.
A year later, the situation had much improved. The number of HNWIs may have returned to pre-crisis levels, but government finances remain in a perilous state.
Regardless of the speed and force with which governments exit the stimulus period, one factor is universal:
- Countries around the world recognize that they need to increase their revenues and address the effectiveness with which they administer, collect and enforce taxation among both corporates and individuals.
By focusing their attention on the wealthy, tax administrations recognize that they can make more efficient use of scarce resources and increase overall revenues at a time when public finances are under severe strain.
Tax administrations strive for “co-operative compliance” with wealthiest tax payers
A growing number of tax administrations are setting up dedicated high net worth units which aim to gain a more comprehensive understanding of the affairs and behavior of HNWIs.
Tax administrations hope that this will lead to significant improvements in compliance and a better understanding of the risks posed by the HNWI segment.
Doing the right thing pays off
By showing a commitment to tax administrations that they are willing to engage on compliance issues and build a more constructive, open relationship, HNWIs could benefit from:
- Reduced risk of tax controversy
- Lower compliance costs
- A better understanding of the fast-changing legislative environment
- Saving time — a most precious commodity
Raising taxes is both politically unpalatable and possibly detrimental to investment
Significant tax increases for businesses have the dual problem of being both politically unpalatable and, most economists would argue, detrimental to investment. This leaves 1) consumption and 2) income taxes as the main levers for addressing fiscal deficits from a taxation perspective.
Targeted: Consumption based taxes such as VAT
Indeed, there seems to be an emerging consensus among economists that VAT rises represent a more growth-friendly approach than raising other types of taxes.
Targeted: Personal income tax
The other main area of focus for governments is personal income tax. And increasingly, it is the world’s wealthiest individuals who are seen as the most attractive — and lucrative — target for tax rises.
HNWIs pose significant challenges to tax administrations because of
- the complexity of their affairs
- the scale of their revenue contribution
- the opportunity for aggressive tax planning
- the impact of their compliance behavior on the integrity of the tax system
At time of significant uncertainty and unpredictability in both the global economy and the taxation environment, it is essential for HNWIs to remain up to date with the latest developments. Anything less than 100% compliance raises the prospect of penalties and, in some cases, criminal prosecutions. HNWIs fall under the spotlight.
High Net-Worth Individuals targeted as a source of increased revenues
Wealthy individuals may comprise only a small proportion of society, but there are several important reasons why governments around the world are targeting them as a source of increased revenues.
- The wealthy already pay a large portion of income tax
The wealthiest members of society already pay a relatively large proportion of the income tax that governments collect. In the United States, for example, the top 1% of taxpayers account for about 40% of total federal income tax, while in Germany, the top 0.1% of taxpayers pay 8% of total income tax1.
- Politically expedient way to increase revenue from taxes
Clamping down on the wealthy is often a politically expedient way of increasing the overall revenues from income taxes. With unemployment still stubbornly high in many developed economies, governments can apply the argument that increasing taxes for the wealthy is a fair way of dealing with wealth inequality and supporting the poorest members of society.
“We have seen in recent months that HNWIs can sometimes be used politically as scapegoats by governments seeking to increase their tax revenues. It’s therefore very important for wealthy individuals to build good relationships with the tax authorities provided that the tax authorities are willing to build good relationships with them.”
– Marnix van Rij, Global Personal Tax Services Cross Border Leader and Tax Policy Leader for Ernst & Young in the Netherlands
- Complex affairs on HNWIs require extra attention
HNWIs generally have more complex financial affairs than other sections of society and so require more attention. The wealthy are often internationally mobile, have multiple business interests, and spread their assets across a range of trusts, partnerships or foundations. This presents a real challenge to tax administrations, which have typically looked at individual components of the HNWI’s wealth in “silos” across different departments, with little or no interconnectivity between them.
- Engaging in aggressive tax planning
HNWIs may be more likely than other groups in society to engage in aggressive tax planning, simply because they have more complex financial affairs and are more likely to be able to access these services. In its Study into the Role of Tax Intermediaries, the OECD noted that “high-net-worth individuals are the second principal market for aggressive tax planning.” This is not to say aggressive tax planning is a common characteristic of HNWIs, but simply that they have greater opportunity to use these techniques should they choose to do so.
A number of governments have already announced additional investment aimed at strengthening tax compliance and enforcement.
“Engaging with high-net-worth individuals on tax compliance
,” OECD September 2009.