By Albert Khachatryan

The other day the Armenian Government submitted to Parliament a package of bills introducing new local taxes: incompleted construction tax, uncultivated farmland tax, tax on misuse of building land, etc.. Without going into details, we would like to note that the reason for the initiative is, no doubt, a critical state of both the state and municipal budgets.

The global economic crisis had disastrous effects on Armenia’s state budget. Last year the state budget revenues decreased by 82.8bn AMD or by 10.9%.

Tax revenues, which normally constitute ¾ or more of the total budget revenues decreased by 95.5bn AMD or by 15.9%.

Summing up the losses on the tax revenues that showed a decrease will make 104.4bn AMD, a tremendous amount for such a country as Armenia, with the major share of the “blame” falling on the value-added tax (VAT). VAT revenues decreased by 64.2bn AMD or by 20.2% in 2009 as compared with 2008.

To everyone’s surprise, under the deplorable circumstances the income tax revenues increased by 6.5bn AMD or by 12%. Over the recent years, the rate of increase in income tax revenues has been a little higher than the nominal average monthly wages, which, in turn, have showed two-digit rates of increase. Improved tax administration, a larger number of taxable economic entities and other factors must have had their beneficial impact. Despite this increase, however, the share of income tax revenues in the scanty income tax revenues reached 12%. Not a bad figure, but…

Let us compare the income taxation policy in Armenia with that implemented in other states.

A flat tax rate of 13% is in effect for all the citizens in Russia regardless of their personal incomes.

Liberal Russian economists, who are supportive of the flat tax, believe that progressive taxation provokes high-income citizens into evading taxes. Statistical data confirm their conclusions – the number of taxable economic entities increased after the flat tax was introduced. On the other hand, following this logic means abolishing income tax for the purpose of eradicating shadow economy.

Russia can afford this policy of personal income taxation. Besides VAT, customs revenues and mining operations tax constitute considerable shares of the federal budget revenues – 31.9% and 14.5% respective in 2006. Unfortunately, Armenia is not so rich in mineral resources: even in the “good” year of 2008, mineral operations taxes, including environmental protection payments, constituted less than 1.7% of tax revenues and 1.3% of the total budget revenues. So Armenia has to look for other major sources of budget revenues. In this respect, income tax is of interest.

Progressive taxation is in effect in Armenia, but it can only be considered “progressive” to an extent: its highest rate is relatively low. With a monthly income of 80,000 AMD, the sum exceeding the 30,000 AMD exemption limit is liable to a 10% tax. However, the tax rate goes up to 20% for a monthly income exceeding 80,000 AMD. Is this tax rate high or low? In Switzerland, the maximum income tax threshold is much higher than 50%, and it ranges from 30% to 40% in other developed countries, reaching 50% in some cases. On the other hand, the exemption limit is high there as well. In Germany, the monthly exemption limit rate is €468 for singles, and €936 for married couples. This scale relieves the tax burn on the low-income families (by Western standards), whereas it tightens the screw on the rich.

In Armenia, however, any amount exceeding the monthly exemption limit of U.S. $80 (!) is liable to taxation. It should be noted that income statements are in effect for “limited population groups.” As regards ordinary employees, their employers normally pay incomes taxes. As a result, such an important indicator as an average monthly income per member of the taxpayer’s family is disregarded.

In other words, the person’s wages are miraculously “transformed” into family income. But what’s the difference?! With current wages in Armenia considered, the real family income be even less than the exemption limit. For example, if one of the parents works to support his four-member family (two parents and two children) and gets an average monthly salary (100,000 AMD or about U.S. $270), the real monthly income per family member is 25,000 AMD (less than U.S. $67). The family’s income turns out to be 5,000 AMD or U.S. $13 lower than the exemption limit. But an income tax of 7,000 AMD is levied on this salary.

The progressive taxation philosophy is extremely clear: equalizing incomes helps any government achieve one of its main aims, namely, ensuring social justice in the country. Steady economic progress in Switzerland, traditionally high living standards and absence of any social conflicts are evidence of an effective national tax policy. So the classical Swedish model overturns liberal economists’ opinion on the inadvisability of progressive taxation and its “unfavorable consequences” for the economy.

The following question arises: is there a rich class that can pay high taxes in Armenia? The results of surveys conducted by the RA Statistical Service seem to indicate the opposite. By way of illustration, we would like to cite the data for 2008.

With decile groups considered, the average monthly income per capita ranges from U.S. $17.1 for the poorest families to U.S. $249.7 for the “richest” ones. The term “rich” put in quotes means that a family could hardly be regarded as rich with its real incomes and consumer prices at that moment. For example, in 2008 a Mercedes car cost a total of U.S. $86,000 in Armenia, 344 times as much as the average monthly income of a “rich” family. Therefore, such a family does not have the ghost of a chance to buy such a car. On the other hand, numerous luxury cars in Armenian cities suggest that quite a number of nabobs are living in the country.

Over the past decade the imports of cars to Armenia have been “snowballing”, reaching 20,000 and more. Although a 1.6-time decrease in the imports of cars was registered in Armenia last year, the number of cars, about 15,000, clearly showed the market size. The customs value of the imported cars decreased as well because of the crisis, but reached as much as U.S. $10,000 per car. The price of cleared cars rose 1.2-1.5-fold in Armenia.

Even with sharp income differentiation within a decile group, the theoretical limit for, say, 1% of the Armenian population ranges within U.S. $1,000 a month. It is not too high an income. Moreover, one more factor should be taken into account: it is only possible provided the incomes of the richest members of the decile group are equal to the average monthly income of the previous group – U.S. $140 per family member. It is possible in theory, but not in practice. Incomes within the previous decile group vary, and U.S. $140 is an average monthly income. Therefore, the statistical data show that not too many rich people reside in Armenia.

The explanation is a simple one, however. Statisticians do not even think of visiting rich families. So “their” incomes are not included in surveys or in the final data. Let us prove it by means of calculations. The total annual income of the decile groups is 1,049.8bn AMD. On the other hand, retail trade turnover, along with paid services, less state purchases of goods and services, totaled 1,893.8bn AMD The difference between the two figures is enormous, almost 844bn AMD or U.S. $2,758.6m.

With the goods and services purchased by commercial companies, a slight unfavorable balance between foreign tourists in Armenia and Armenian tourists going on holiday abroad considered, the aforementioned figure allows one to form an idea of the rich families’ incomes. We should not, however, jump to conclusions about tax evasion.

On “perfectly legal” grounds incomes running into millions are not taxable, as, according to the RA Law “On income tax”, taxes are deducted from individuals’ total income. Most of Armenia’s joint stock companies are, as a rule, closed joint stock companies (CJSC). It is common knowledge that only one of the stockholders really owns the lion’s share, if not all the 100%, of the stock. The idea of “people’s capitalism” that was propagated before the public property was privatized “successfully” failed. Therefore it is the owners that actually receive dividends on the shares of their businesses.

Those objecting to the taxation of individual dividends put forward the following argument: taxation of stockholders’ dividends means double taxation of corporations’ incomes.

However, the income tax applies to legal entities, while the tax on dividends to personal incomes. They are not to be “mixed.” In some countries, where stockholders’ dividends are not taxable, the tax rate for corporations’ income is 30% instead of 20%.

A situation similar to that in Armenia has developed in almost all the countries with sharply polarized societies and intensive lobbying on behalf of big business. In those countries indirect taxes (mainly VAT) normally constitute a lion’s share of tax revenues, with ordinary citizens mostly carrying the tax burden. In developed countries, with their active social policy, it is the income tax that is essential for the formation of budget revenues.

A global crisis clearly showed the weak points of our economy, low-level diversification and high-level concentration — an impediment to healthy competition — dependence on private transfers, serious foreign trade disproportions, and so on and so forth. The current taxation policy has not been “an honorable” exception.

The present attempts to fill some of the gaps in the state and municipal budgets by introducing new taxes can only produce a short-term effect. The grave tax situation requires radical changes, particularly reforms of the income taxation system.

T.P.