The system of consumption taxation showcases a country’s public finance system. It does not only show how much functional compromise is found in the country between “free-to-choose” economic freedom of the individual, and seeking resources to eliminate negative externalities resulting from the consumption of taxable substances. Taxing consumption also allows lowering the taxation of labor and capital.
The tax wedge in the Czech Republic in 2018 was 43.7. A tax wedge measures the difference between the cost of labor and the take-home pay of the worker, expressed as a percentage of the cost of labor. Put in simpler terms, it is the difference between wages before and after taxes.
The formula for calculating a tax wedge is ((PIT + social security contributions of the employee and employer)- family benefits) ÷ total labor cost). A tax wedge of 43.7 means that the average single Czech worker takes home just 56.3% of what their employer paid.
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As the tax wedge increases, workers tend to have less incentive to seek legitimate, tax-paying work as they receive a decrease in the take-home pay.
If PIT were to increase in the Czech Republic, in this case (as a result of the elimination of excise taxes) we can expect to see the tax wedge grow larger, which could lead to an increase in people seeking illegitimate (non-tax paying) work.
Currently, the Czech Republic does not have a separate capital gains tax for individuals or for corporations; capital gains are included in PIT and CIT. There are also a few cases in which capital gains are exempt, mainly pertaining to property.
These exemptions for individuals are: three years of direct ownership of a joint stock company or of a fund (five years of ownership for other companies), two years of ownership for an individual’s primary residence (five years of ownership for other real estate), and one year of ownership for cars, boats, and planes.
It is likely that without a consumption tax some, if not all, of the capital gains in these currently exempt cases would become included with the other, non-exempt, capital gains in the 15% PIT rate in order to make up for the loss.
This phenomenon also shows how the tax administrator of a comprehensive system of set excise tax rates dealt with specific factors, such as the formal form of the tax system and its efficiency. Including (but not limited to) the structure of the economy, purchase power, location and size of the state, setting up the taxation system in neighboring countries, the size of the black market, among other aspects.
The efficiency of the consumption taxation system can be defined as a vector of several parameters: 1) stability, 2) simplicity and comprehensibility, and 3) flexibility or shock absorption capacity caused by social changes.