KDI FOCUS Improving Tax Expenditure: From the Perspective of an Integrated Fiscal System 2017.03.22
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- Tax expenditure refers to the financial support provided through the tax code, including tax reduction or exemption, non-taxation, income deduction, tax credit, application of favored-tax rates or deferral of tax. And, aimed at providing assistance to specific groups and fields, tax expenditures with the same policy goals as direct expenditures are being expanded as separate policies. However, concerns have been raised over the effectiveness of such programs as each program is managed by different ministries under different regulations. Accordingly, this study interconnects and examines Korea’s rapidly expanding tax and direct expenditures for low income support. Based on a four-member, single-earner household, a comparative analysis was conducted on households with annual earned incomes of between 9 million and 12 million won and 12 million and 15.5 million won. Both groups receive basic living security, through direct expenditures for livelihood and housing benefits. And, in line with increases in the earned income, they are also provided with earned income tax credits, which are a form of tax expenditure aimed at encouraging the labor supply and support incomes for the working poor. It should be noted here that, the livelihood benefit and EITC are reduced as earned income rises, which in turn, creates an income reversal, which refers to a loss in the total post-tax income. In addition, if the earned income exceeds the income threshold for the livelihood benefit, the benefit is replaced with the child tax credit. However, it was found that, in some regions, the total post-tax income is below the level for households on an annual earned income of 9 million won. This implies that for every 100 won increase in earned income, there will be a 125 won decrease in benefits or increase in tax, which means that for some regions, total income could be reduced by 25 won per 100 won. Ultimately, this shows there are structural flaws in the current system that could diminish beneficiaries’ incentive to increase their labor supply and become self-reliant. [Interview] There currently lacks a monitoring system that integrates and reviews tax and direct expenditures with the same policy goals. Accordingly, this oversight is weakening the common policy goals. As a countermeasure, a database that encompasses information on tax and direct expenditures that provide support for the same groups and fields must be built and used to strengthen the comprehensive review.
□ Designed to support specific groups and fields, tax expenditures are rapidly expanding, independently from direct expenditures with identical policy goals. However, without an integrated monitoring process, the interconnection between the two can sometimes weaken the goals they both seek. As such, a database that covers all tax and direct expenditures should be built and used to comprehensively review the effectiveness of the programs.
- Policies supporting diverse groups and fields are expanding in the form of tax expenditures at a considerable scale, particularly in social welfare, industry, SME, and the agriculture and fisheries sectors.
- The EITC was expanded without being reviewed for its effectiveness, and the CTC was adopted in 2015.
- The EITC, a tax expenditure and the NBLS, a direct expenditure, are both designed to support the income and self-reliance of low-income households, but the interconnection between the two creates an income reversal wherein more work leads to less total income.
- A 100 won increase in earned income reduces benefits by 125 won in benefits, leading to a 25 won decrease in the total post-tax income.
- Accordingly, these expenditures may be ineffective in inducing work and self-reliance of low-income households, contrary to the intended policy goals.
- Respective tax programs that are fragmentarily evaluated and revised in line with their respective goals could distort the whole tax structure.
- The tax reform in 2013 was intended to improve tax equity, but failed to reflect a comprehensive perspective within the overall tax system. As a result, the proportion of exempt individuals soared to 48% and went against the basic direction of governmental efforts to counter the low birth rate.
- To properly evaluate tax expenditure programs, relevant information needs to be provided in a timely manner.
- A database on tax and direct expenditures that seek identical policy goals should be built and the information must be interconnected.
- A structure that comprehensively examines both tax and direct expenditures should be strengthened along with an effectiveness check on respective tax expenditures.
Ⅱ. Current Status of Tax Expenditures
Ⅲ. Problems in Pursuing Policy Goals via Tax Expenditure
Ⅳ. Policy Suggestions
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