CALCULATE HOW MUCH YOU PAY IN INCOME TAX
I have lived in emerging markets most of my adult life - my only stint in the developed world was a couple of years in London. The tax you pay in emerging markets is difficult to accept in the face of endemic corruption and the state of infrastructure and public services.
Paying taxes is an obligation and corruption is no reason to abdicate your fiscal responsibilities. If you live in a functioning democracy, you try to bring about change, even if it means voting for the least corrupt candidate.
Another option is to understand the tax code. Boning up on tax may sound as exciting as root canal and a fully invasive colonoscopy. However, if you are earning 100 in income, you are probably paying close to 40 in taxes. That alone should pique your interest.
Taxes are more slippery than a snake in a barrel of motor oil. Many cannot differentiate between tax avoidance and tax evasion. Tax avoidance is the use of legal allowances and deductions to reduce your taxable income. Tax evasion is the unlawful understatement of your income and or overstatement of your expenses to reduce your taxable income.
In understanding the tax code of any country, you must understand the behavior it is promoting. When something exists, I like to know why. Sometimes there is no reason or at least no logical reason. When it comes to tax, the intentions are clear.
The backbone of every economy is the entities that employ people. As of 2019, 99 percent of the 30 million firms in the United States were small businesses. These small businesses employed the majority of the workforce. A key indication of the strength of an economy is the level of unemployment. Unemployment in the United States has hit 10 percent on two occasions since World War II, in the 1980s and after the financial crisis of 2008. Not all countries employ the same methodology in counting unemployment. In Mexico in 2020, unemployment was around 3.5 percent which was in line with the United States. That sounds a little odd. In Mexico, any person that has worked at least 1 hour per week (slightly more than the French) are counted as employed. Regardless of how you count it, job creation is a priority of any government.
There are two ways for the government to stimulate the job market. One is to hire more people in the government and the other is to promote entrepreneurs to hire more people. Governments want to promote private sector growth and job creation. Taxes are the most powerful arrows in the government’s quiver to achieve this.
In 2017, Amazon announced plans to build new headquarters for 50,000 people. They would spend $5 billion on the new construction. More than 200 cities in Canada, Mexico, and the United States offered tax breaks, expedited construction approvals, and other incentives. The most creative incentive came from Tucson, Arizona. They sent a 21-foot saguaro cactus to Amazon. Notwithstanding the oversized gesture of a giant prickly desert plant, Amazon opted for Crystal City, Arlington, Virginia. They offered performance-based incentives worth $573 million, and a bonsai tree. Tax codes offer a plethora of tax deductions to corporations. This motivates entrepreneurs to channel money back into their businesses instead of handing it over to the government. These incentives range from research and development expenses to stock compensation schemes, salaries, depreciation, and loan interest.
Employed individuals, on the other hand, are faced with a shorter list of deductions. They are on the wrong side of the tax code. If the government is providing all of these incentives to companies, they need to fill the gap somewhere. Who better than Joe Schmuck who is punching in at 9 am and out at 5 pm?
You need to understand that if you work for a paycheck, you are bearing the brunt of the tax burden. The message is simple: if you believe that you can make it as an entrepreneur and you are paying 40% in tax, a good place to start if you want to save money is the formation of your own company and using the tax code and its allowable deductions to reduce your taxable income. For many people, tax is by far their single biggest “expense”. If you want to make a quantum leap in your savings goal, the simplest way is to get onto the right side of the tax code and start a business.
Consider the Extreme Example of Sweden
The virtues of Sweden are manifold. It has the archipelago, free education, beautiful blonde women, relaxed swearing, meatballs, Sil, Lördagsgodis and Snaps, and 24-hour sunshine in summer. On the flip side, it has 24-hour sunshine in summer, a huge Eurovision following, endemic alcoholism, and individual tax rates that can reach 60 percent.
Swedish income tax can be as little as 29 percent. However, anyone earning over £32,000 will pay between 49 and 60 percent through a combination of local, government, and state income taxes.
There may be numerous social benefits to paying a 60 percent tax rate, but no person should be made to work seven months of the year for the taxman, regardless of how good she might look in blue and yellow body paint.
Some Fuzzy Logic
If you ask anyone to list their three largest expenses, the majority of people would mention three of the following: mortgage payments or rent, social security/pension, healthcare, car payments/transportation, utilities, and groceries. This most surprising part of their answer is that they are ignoring the big fat purple elephant in the room – namely tax.
If you factor in income taxes, property taxes, capital gains taxes, and consumption taxes (like VAT), you will find that you are paying close to 50 percent of your gross income to the government. The government is then finding creative ways to piss this money away. Of this 50 percent, the lions share is income tax. Let us assume you are a Swede and paying 50 percent in income tax. Assume that on average there are 20 working days in a month. For 10 of those days, you are working for the taxman. In theory, therefore, you could start your own business, work half as much, and earn the same!