Laissez-faire! – Allow us to do!
This phrase ideally describes economic freedom, where all participants make all decisions on their own.
Including decisions about how to use the results of their work or profits from their business.
The principle of economic freedom was formulated in France by scientists-physiocrats 250 years ago.
However, all subsequent economic history shows, rather, a retreat from economic freedom than a movement towards it.
And the main reason for this is taxes.
Taxes appeared in ancient times with the emergence of states. Once they were collected only during the war. However, they already were compulsory three hundred years ago, in the times of Jonathan Swift who considered taxes as inevitable as death.
Over time, more and more of the income of entrepreneurs and households was taken by governments in the form of taxes.
And in the 1930s, tax increases were justified in the works of John Maynard Keynes and his followers.
They understood the role of the state in the economy as a kind of stabilizer and guarantor of economic growth.
As long as an uncontrolled private initiative led to a deep economic crisis in the United States and Europe, the governments, presenting a demand for goods and services, should turn up as a power that helps to get out of this crisis.
Replenishment of the governments’ ability to maintain aggregate demand was to be ensured through the mechanism of taxation, according to economists.
Raising taxes means that a bigger part of profits is being taken from those who earned them. And the decision on how to dispose of this profit is made by other people.
From this point of view, the higher the taxes, the lower the degree of independence of economic entities and, accordingly, the lower the degree of economic freedom in the country.
In the 1990s, when economic development was under the banner of globalization, it seemed to entrepreneurs that a remedy for the inevitability of taxes had finally been found.
As such a means, it was proposed to create companies in tax-free zones and keep money in the accounts of these companies.
Very soon the phenomenon took on the character of a fiscal disaster, and governments launched a counterattack.
First, the United States passed a law called FATCA (short for “Foreign Accounts Tax Compliance Act”).
Under this law, all US taxpayers must report their foreign bank accounts and report income received in those accounts on their annual tax returns.
In addition, all foreign banks that serve US tax residents must compile lists of such accounts and send them to the Central Bank of their country; and that, in turn, must forward the information to the United States Internal Revenue Service.
There are fines for FATCA violations - not only for US taxpayers but also for foreign banks.
As a result, foreign banks began to massively refuse US citizens and green card holders to open bank accounts.
It is not known whether the United States began to collect more taxes as a result of the introduction of FATCA, but with a high degree of probability we dare to assume that:
- Thanks to FATCA, some of the money of American taxpayers returned to banks in the United States.
- Some more money remained in the USA; FATCA has created a barrier to their withdrawal to foreign banks.
- Since money must work, it could be directed to the stock market. In this way, FATCA contributed to the unprecedented bull market observed in the US in 2009-2022.
The European Union responded symmetrically, starting in 2014 to develop standards for the exchange of tax information (Common Reporting Standard, CRS). The standard began to operate in 2017, and today more than 100 countries and territories participate in the international exchange of information.
Eventually, we have a paradox with taxation:
- in developed countries, the tax burden is exceptionally high;
- at the same time, there is a huge budget deficit, when budget expenditures from year to year exceed revenues;
- politicians are demanding further tax increases in order to somehow make ends meet;
- high taxes reduce the competitiveness of the economy and undermine the motivation to develop small businesses.
At the same time, big businesses have grown to a global scale and are actively using opportunities to generate profits in those countries where taxes are minimal.
Initially, the concept of public spending appeared as a solution for supporting economic development during periods of extremely low demand.
In practice, by today, governments have become the most important consumer of goods and services. They have huge resources at their disposal: the average share of taxes in GDP in OECD countries exceeds 30%, and in some countries of the first world it approaches the 50% mark.
In addition, the governments severely punish those who refuse to pay high taxes. One can call taxes extortionate, but the law in many countries considers tax evasion a criminal offence.
This is what taxation looks like today in “free market” countries.
One might get the impression that high taxes are inevitable for countries with a high standard of living.
However, there is a country in which the living standards are high and taxes are moderate.
And this is Singapore.
Singapore's tax system can be described in just a couple of words:
- territorial; and
- one-tier.
The territorial principle refers to the taxation of profits.
Singapore companies and individuals - tax residents of Singapore - include in the tax base income received from sources in Singapore, as well as income from foreign sources transferred to Singapore banks.
It means that foreign-sourced income earned outside of Singapore can legally be excluded from the tax base.
The territorial principle has an economic justification:
- Singapore's domestic market is relatively small;
- the territorial principle of taxation encourages Singapore companies to intensify sales outside the country and develop new markets.
The one-tier approach to taxation is as follows:
- There are no additional taxes in Singapore when distributing after-tax income.
For example, in most countries, dividends are considered income of their recipients. Thus, dividends are taxable when sent (withholding tax) or when received. When a Singapore company pays dividends to its shareholders, there is no withholding tax on either the source of the payment or the recipient in Singapore. And recipients in other countries pay taxes in accordance with local laws.
Consider the main taxes that companies registered in Singapore must pay.
1. Corporate income tax (CIT).
Singapore's basic corporate income tax rate is 17%.
At the same time, according to the territorial principle of taxation, only income received from local sources and foreign income received in Singapore are subject to taxation.
Also, in 2005, Singapore introduced tax deductions for new companies.
In accordance with the rules for calculating the deduction, which have been in force since 2018, newly created Singaporean companies in each of the first three years of their activity are allowed to deduct from the tax base:
- 75% of the first SGD 100,000 of their profits; and
- 50% of the next SGD 100,000 of their profits.
Thus, new companies are eligible to deduct up to SGD 125,000 annually from the tax base, resulting in SGD 21,250 per year in tax savings.
The purpose of these deductions is to stimulate the development of small businesses in the country, so the deductions apply only to companies with less than 20 shareholders (with at least 10% of the shares owned by individuals).
In addition, real estate developers and companies created for personal investment cannot apply the deduction.
That is, virtually all new small businesses in Singapore can apply the New Business Deduction.
And since the shares of a Singapore company can be owned by foreign citizens, foreign entrepreneurs can also use this deduction by creating a Singapore company for their international business.
Starting from the fourth year of operation, the allowed deduction from the tax base is calculated according to the formula:
- 75% of the first SGD 10,000 of their profits; and
- 50% of the next SGD 190,000 of their profits.
Under this formula, the maximum deduction is S$102,500 per year; annual tax savings of S$17,425.
Also, income from the sale of assets that the company owned for a long period of time is excluded from the tax base of Singapore companies. In accounting language, such income is called “income of capital nature” (or “capital gains”).
Thus, there is no capital gains tax in Singapore.
2. Tax on goods and services (Goods and Services Tax, GST).
As the name implies, this tax is paid by sellers of goods and services in Singapore.
This tax is applicable only to those entities whose revenue exceeds 1 million Singapore dollars during the financial year.
Exempting low-revenue businesses from goods and services tax allows them to compete on price initially. In other words, the Singapore authorities are willing to wait until the business is on its feet before starting to charge GST.
It should also be noted that GST is an internal tax. That is, they are subject to sales of goods within the country.
When a Singapore entity sells goods and/or services outside of Singapore, there is no GST.
3. Tax at the source of payment (Withholding tax).
Withholding taxes are usually withheld on the payment of income in the form of dividends, interest and royalties.
The one-tier principle allows the entire amount of dividends distributed by the company to be exempt from withholding tax - after all, it is formed after paying income tax.
Interest and royalties payments to recipients who are located in Singapore are also exempt from withholding tax.
Since these payments are Singapore tax residents’ income, the recipients will declare them along with their other income. In this case, the tax will be paid once - by the final recipient of income.
However, in cases where interest or royalties are paid abroad, the final recipients are located outside Singapore and pay taxes according to the laws of their countries. The Singapore authorities restore justice by withholding tax at the source of payment - a Singapore company.
Actually, this is the complete list of taxes paid by a Singapore company.
In addition to taxes, there are fees and charges.
The most popular fees and charges are:
- Fee for the transfer of shares in a private company - 0.2% of the value of shares transferred;
- Customs duties – payable by importers when importing certain goods into Singapore;
- Contributions to the Central Provident Fund charged to the payroll of employees - citizens and permanent residents of Singapore; these payments are credited to the personal pension accounts of employees.
Now let's look at this situation through the eyes of a foreign entrepreneur selling goods and services outside of Singapore on behalf of a Singapore company he owns and manages.
The company is definitely not subject to the requirement to pay GST, since GST is an internal tax.
Withholding tax only arises when a company takes out loans from abroad or pays foreign intellectual property rights holders for the use of their intellectual property.
Finally, the profits of such a company will be taxed only to the extent that it is transferred to Singapore.
Thus, by creating a company in Singapore for the needs of their operating business, entrepreneurs from other countries receive the support of Singapore law in exchange for very modest taxes.
The following chart illustrates Singapore's moderate taxation:
The above speculations lead us to the unconditional conclusion:
- The Singapore economy is developing not due to government spendings, which are financed from tax revenues, but due to the growth in the welfare of citizens and enterprises.
And it is up to the citizens and enterprises themselves to decide how to spend the remaining profit at their disposal.
That is why Singapore is considered the freest economy in the world.
And the higher the taxes in other countries become, the more entrepreneurs open a business in Singapore every year.
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