Austria Needs a Tax Reform, not “Fair Taxation”

by Scott A. Hodge

On 17 May, the European Commission is sponsoring a seminar in Vienna on “fair taxation” to encourage a dialog on what commissioners believe is a problem with tax abuse and tax avoidance. This is the second of a series of five Commission events on “fair taxation.” The first was held last month in Latvia and the remaining events are scheduled throughout the summer in France, Ireland, and Italy.

The timing and purpose of this event seems at odds with the mandate Austrian citizens gave Chancellor Sebastian Kurz to reform the tax code and streamline the budget. The Commission’s “fair taxation” agenda entails higher taxes on businesses and successful individuals, policies that discourage investment and lead to lower economic growth. This stands in stark contrast to the mission of Kurz, who said recently, “The goal is a lean state so we can reduce the tax burden on working people.”

Austria’s best defense against tax avoidance is to create a tax system that makes the country more competitive globally, while encouraging businesses to invest more domestically and create better jobs.

If there is one number you need to know about the Austrian tax climate it is 40.6 percent. According to a recent studyby the Organisation for Economic Co-operation and Development (OECD), 40.6 percent is the amount of the nation’s taxes paid by Austrian businesses. This figure includes the amount that corporations pay in income taxes, taxes on workers’ wages, and taxes on property and purchases. This is the fifth-highest tax liability on business in the OECD and the second-highest among Austria’s neighbors. Only Czech businesses have a higher tax liability.

Based on these findings, Austria should fix three areas of its tax code in order to become more competitive while encouraging more domestic hiring and investment. The first step is to reduce the corporate income tax rate. Austria’s 25 percent corporate income tax rate is slightly above the OECD average of 24 percent, but it is high regionally. Moreover, the United States just cut its corporate tax rate from 35 percent to 21 percent, setting a new competitive standard for other countries.

Economic research shows that lower corporate tax rates can lead to higher wages for workers. For example, German economists studied changes in municipal corporate taxes and found that at least 40 percent of the savings from lower corporate taxes accrued to workers in higher wages. Other studies have found even larger wage benefits to workers from lower corporate taxes.

Next, Austria would do well improve its capital allowance system, which is the ability of businesses to write off the cost of capital investments from their taxes. When the tax cost of capital investments is lower, businesses will invest more in plant and equipment, which leads to higher economic growth. Also, economists have long understood that when workers work with better tools and equipment they are more productive and, thus, earn higher wages. More capital investment will benefit Austrian workers.

The Austrian capital allowance system is much less generous than its neighbors, such as the Slovak Republic, Switzerland, and the Czech Republic. Matching the way these countries treat capital investment would be a good start, but the recent tax reform enacted in the United States now allows companies to write off 100 percent of the cost of machinery and equipment. Austria should aim to match U.S. policy.

Estonia and, now, Latvia go even further. They tax corporate profits only when those profits are distributed to shareholders as dividends. What this means is that companies are not taxed on their retained earnings, which is the money they invest back into growing the business. This policy lowers the tax cost of capital investment to zero, giving companies a powerful incentive to invest in equipment and factories. If Austria were to follow such a policy, it would instantly become one of the most competitive countries in the OECD.

Lastly, Austria must reduce the tax costs of hiring and retaining workers. These costs include income taxes and social insurance taxes paid by employers. Economists call this the “tax wedge” on labor, and Austria has the sixth-highest total tax wedge on labor among OECD countries. Indeed, the social security taxes paid by Austrian employers are 64 percent higher than the OECD average.

Economists agree that high social insurance and payroll taxes mean lower wages for workers. An OECD survey of economic research found that wages are often reduced by more than the amount of the tax. For example, studies found that a 1 percent increase in the tax reduced wages by 1.1 percent to as much as 3.4 percent. Lowering these taxes could lead to higher wages in Austria and, perhaps, encourage employers to hire more workers.

The European Commission’s “tax fairness” traveling roadshow is arriving in Vienna selling a message that is contrary to the direction the Kurz government wants to take the country. Whereas the Commission is pushing an agenda of higher taxes and redistribution, Austria’s path to prosperity lies with tax reform and a leaner government. Austrians would do well to ignore the Commission and follow its own economic course.

Scott A. Hodge is President of the Tax Foundation, an independent tax research organization in Washington, D.C.