Regional tax competition keeps Spain from being the tax hell of Europe
To shed light on the Spanish tax system, the Fiscal Foundation and the Foundation for the Advancement of Freedom produced the Regional tax competitiveness index (RTCI). The Index compares the 19 Spanish regions on five main areas of taxation: personal income tax, wealth tax, inheritance tax, transfer and stamp duties, and other regional taxes, combining the results to generate a final ranking. Staying informed about the variety of regional taxes and rates helps keep the Spanish economy competitive.
Spain has a complex tax system where taxes are collected by central, regional and local governments. Stamp duties, transfer duties, wealth taxes and inheritance taxes are administered and regulated by 19 regional governments. Regional governments can also approve additional taxes and set regional income tax brackets and rates, representing 50 percent of overall income tax, while the remaining 50 percent is set by central government . In addition, Navarre, the Basque Country and the Canary Islands have a special tax regime which allows these three regions to collect reduced rates as part of a tax regime that is more favorable to businesses and taxpayers. However, since 2015 Navarre has used its fiscal sovereignty to raise taxes. Nowadays, Navarre levies a corporate tax rate of 28%, 3 percentage points above the general corporate tax rate in Spain and increases all other taxes levied in the region.
The fifth edition of RTCI report was presented at a public event in Madrid, a region that Index since 2020. Madrid’s Finance Minister Javier Fernandez-Lasquetty, who received an award recognizing Madrid’s trajectory, attributed this success to the fact that “in the past 17 years, Madrid has not increased a single tax rate “while approving tax cuts. Recently, the government in Madrid announced the repeal of three additional regional taxes that collect little revenue and are onerous for small businesses. The finance minister considers that this will send a message to potential investors that Madrid will not create new arbitrary regional taxes. Madrid also plans to reduce income tax rates by 0.5 percentage points for each tax bracket.
When the central government increased the top tax rate by 2 percentage points for 2021, the Valencian Community also increased the top regional marginal tax rate by 4 percentage points. Valence’s highest marginal tax rate (central and regional) is 54%, the fourth highest in Europe after Denmark (55.9%), France (55.2%) and ‘Austria (55%). However, Valencia’s highest statutory rate applies to income above € 475,000 (US $ 549,980) while Austria’s 55% only applies to income above € 1 million ( $ 1.16 million). In addition, Denmark’s high tax rate can be explained by the fact that Denmark does not rely on social security contributions as part of its taxation, as Spain and other countries do.
However, tax competition has proven to be essential to contain tax increases in certain regions. Spain does not lead the highest statutory tax rate in Europe due to regions like Madrid which have maintained the highest overall tax rate at 45.5%. Additionally, in response to central government tax increases, regions like Murcia and Andalusia have decided to lower their regional income tax rates.
Tax competition between the regions of Spain is not limited to tax rates. In 2008, when the central government repealed the wealth tax and reintroduced it three years later, Madrid retained 100% relief from that tax, which made politics meaningless in this region. Now, all regions of Spain, with the exception of Madrid, levy a progressive wealth tax ranging from 0.16% to 3.75%.
Spain’s central government is seeking to harmonize wealth taxes between regions, particularly in response to the wealth tax relief in Madrid, but most European countries have repealed their wealth taxes. Today, only two other European countries levy a net worth tax, namely Norway and Switzerland, and at a rate much lower than that of the Spanish regions. Norway levies a net wealth tax of just 0.85%, just over a fifth of the highest wealth tax rate in Extremadura.
When a region sets a higher wealth tax, evidence shows that in subsequent years, taxpayers will leave that region. In 2012, when Navarre lowered the wealth tax threshold and increased marginal tax rates, wealth tax collection increased by 11.47 million euros (13.28 million dollars) over the next three years, while income tax revenue declined by 48.08 million euros ($ 55.67 million). These trends suggest that the highest incomes may have flown in the region as a result of the wealth tax hike. In addition, wealth tax receipts represent less than 4% of what Navarre collects from personal income tax.
Policymakers should be aware that increasing taxes in one area could have negative spillover effects in another. Each tax law will in one way or another change the competitive position of a region vis-à-vis its immediate neighbors.
While wealth taxes collect little revenue, an OECD report argues that these taxes can discourage entrepreneurship, hinder innovation and have an impact on long-term growth. With so many countries ditching wealth tax, perhaps Spain’s regions should repeal the tax instead of asking Madrid to harmonize its wealth tax with the rest of the regions.
The same is true for inheritance and gift taxes. They generate only 0.58% of Spain’s total income while they are detrimental to entrepreneurial activity, savings and employment. In addition, in some cases, they turned out to be confiscatory taxes. Regional statutory tax rates can reach as high as 81.6 percent, depending not only on the level of the amount inherited but also on the heir’s level of pre-heir wealth and family proximity to the heir. heir. A recent study found that inheritances can actually reduce wealth inequalities, as transfers are proportionately larger (relative to their pre-inheritance wealth) to households lower in the wealth distribution.
Tax competition has also proven to be effective as some regions in Spain are eager to copy Madrid’s tax reforms. This is the case of Castille-et-León, which gained seven places in the general standings, dropping from 13e to 6,e in the 2021 Index, after the reform of inheritance tax. Following a meeting that the Minister of Finance of Castile and León had with our representatives of the Fiscal Foundation and Fundalib, the president of the region, Alfonso Fernández Mañueco, announced that he plans to continue to reduce taxes in order to attract workers and investment to the region’s rural areas. In addition, the Andalusian finance minister announced that additional tax cuts will be approved this month to support jobs and economic growth, and these reforms could lift the region to fifth place in 2022. Index. Over the past four years, Andalusia has reformed wealth, income and inheritance taxes. This improved the region’s overall ranking to 16e to 7e in the 2021 Index.
Harmonization of major regional taxes has been demanded by high tax jurisdictions, but this would not only jeopardize those living in more taxpayer-friendly tax jurisdictions like Madrid or the Basque Country, but also Spain as a whole. , which would probably lower its ranking on our International tax competitiveness index and make it less attractive to foreign investment and international workers.
While wealth, inheritance and gift taxes generate little revenue, personal income taxes are the main source of revenue for regional governments, accounting for 22.7% of overall public revenue in Spain. Policymakers should consider repealing wealth and inheritance taxes that have a negative impact on entrepreneurial activity, savings and work and focus their tax policy on the establishment of a tax system. personal income which stimulates wages, employment and worker mobility.
As tempting as increasing taxes on the wealthy may seem, whether through wealth, inheritance and income taxes, especially when regional governments struggle to raise their incomes, policymakers should be careful not to raise taxes. focus on tax reforms that do not jeopardize economic growth. Regions should focus on stimulating economic recovery by supporting private investment and employment and attracting highly skilled workers while increasing their internal and international tax competitiveness.