A Revised Estimation of Japan s Income Tax Base

Transcription

1 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March A Revised Estimation of Japan s Income Tax Base Shigeki Morinobu Professor at the Faculty of Law, Chuo University Atsushi Nakamoto Visiting Researcher, Policy Research Institute, Ministry of Finance Summary Here we conduct a macroeconomic estimation of the trends regarding the income tax base by making use of the 93SNA while overcoming some of the problems detected in estimations in preceding research. If we take a look at the post-1997 trend, Morinobu and Maekawa (2001), although the tax base increased around the middle of the 2000s following the income deduction reforms, it basically showed a declining tendency after that period due to the increase in social security costs associated with the aging of the population. The widening of the tax base will be one of our big policy challenges in future tax system reforms in order to enhance the function of redistribution of income tax. In particular, we should facilitate the shift from income deduction to tax deduction with or without benefits, which is a main trend in tax reforms in other advanced countries, and should revise the spousal deduction system that lacks neutrality regarding, and is in disfavor of, women advancing in society, and also should revise the deductions for public pensions as well as for the medical expenses. Key words: income taxation, income deduction, tax base, tax reforms, spousal deduction, deduction for public pensions and other incomes, tax credit, refundable tax credit JEL Classification codes: E62, H24 I. Introduction The Significance of Tax Base Estimation One of the authors of this article has been conducting comparison research of Japan s tax base by making use of the 68SNA statistics and other tax affairs statistics. That s because, as detailed later, we think that the yardstick for the tax rate is not enough in discussing the whole concept of the tax system, and so we also have to conduct research into the tax base, i.e., what kind of incomes are subject to taxation. If the metaphor cubic for the tax burden is used, the tax base is the area of the base, and the tax rate is the height, and the total tax burden (tax revenues) should be described as the cubic volume calculated by multiplying the area of the base by the height. Overseas tax reforms since the 1990s, epitomized by the tax systems of former

2 434 S Morinobu, A Nakamoto / Public Policy Review UK Prime Minister Margaret Thatcher and US President Ronald Reagan, have been conducted under the principle of lowering the tax rate, while widening the tax base. It is regarded as a very sophisticated principle that balances fairness and efficiency, as it is meant to expand horizontal equity by widening the tax base (area base), while activating economies by lowering the tax rate. Overseas tax reforms will continue to be conducted under this principle in the future, and it is also desirable for Japanese tax reforms to take the same direction. Here we take a look at the historical trends behind Japan s income tax base and their background based upon the results of our estimation, and discuss the challenges regarding the whole concept of Japan s income tax. Figure 1 Visual Concept of Tax Base and Taxation Rate II. Explanation and Contents of Our Estimation Our estimation is based upon our previous work in Morinobu and Maekawa (2001) and Morinobu (2002), and we recalculate those results according to the subsequent revision of the SNA statistics. We also refer to the estimation methods adopted in Mochizuki et al (2004), Nomura (2009). The work of Morinobu and Maekawa (2001) is an estimation based upon the 68SNA, while Mochizuki et al (2004) and Nomura (2009) apply the methods of Morinobu and Maekawa (2001) to the newly compiled 93SNA statistics. In the 93SNA, the income flow in each system category is described separately as allocation of primary income account, secondary distribution of income account, and redistribution of income-in-kind account, respectively, enabling us to see the size of in-kind incomes which should ideally be excluded in calculating the tax base. But Mochizuki et al (2004) and Nomura (2009), possibly intending to make their results comparable with those of Morinobu and Maekawa

3 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March (2001), add in-kind social security benefits which are primarily excluded from the tax base to household receipts, not fully utilizing the merits coming from the estimation based upon the new 93SNA. Here we, while referring to the estimation results of Mochizuki et al (2004) and Nomura (2009) which were based upon the 93SNA, exclude in-kind social security benefits from our calculation, as well as adding some modifications that will be mentioned below, in order to estimate the taxable income ratio. First of all, briefly looking back upon the estimation methods of the above-mentioned preceding research, we identify/distinguish our methods with/from those of others. We used SNA data from the final version of the 2009 report. As described in Figure 2, the tax base is estimated by excluding various kinds of non-taxable income and income deductions from household receipts in national economic accounting. Excluded are the items of receipts not calculated as revenue (a1), tax-exempt items in the system (a2), social securities not included in the tax base (a3) and various deductions from income (b). We estimate them from the national economic accounting (SNA statistics) and other tax affairs statistics. Our estimation method is explained as follows, centering upon the changes in method due to the changes in the SNA statistics as well as the differences in method between the preceding research and ours. Table 1 shows the outline of the changes in the names and categories of the relevant items of SNA. Figure 2 Relation between Household Receipts and Taxable Incomes (Tax Base) in the Macro Base (Data) Morinobu (2002)

4 436 S Morinobu, A Nakamoto / Public Policy Review Table 1. Changes in Definition and Name of Related Items due to the Revision of the SNA 68SNA Items Compensation of employees Operating surplus 93SNA Items Compensation of Employee Wages and salaries Employers' social contributions Employers' actual social contributions Employers' imputed social contributions Operating surplus and mixed income Allocation of Primary Income Account Property income Property income Interest Interest Dividends Dividends Rent Property income attributed to insurance policy holders Rent Casualty insurance claims Social benefits other than social transfers in kind Social security benefits Social security benefits in cash Social assistance grants Pension funded social benefits Unfunded employee welfare benefits Social assistance benefits Unfunded employee social benefits Current transfers not elsewhere classified Other current transfers Non-life insurance claims Miscellaneous current transfers Disposable income, net Social transfers in kind Secondary Distribution of Income Account Redistribution of Income in Kind Account (Note) The arrows coming from each of the items of the 68SNA show that those items are re-named, re-defined, divided or consolidated in the 93SNA. The employer s imputed social contributions in the allocation of primary income account and the unfunded employee social benefits in the secondary distribution of income account are the same in content, and the 93SNA avoids duplicate calculation by placing the same amount of imputed social contributions into the payment item of secondary distribution of income account. Our estimation has to take into account this duplicate calculation as it only deals with the receipt items. II-1. Calculation of Household Receipts Household receipts are the total sum of the operating surplus and mixed income, net, compensations of employees, receivable and property incomes, receivable in allocation of primary income account, and the social benefits other than social transfers in-kind, receivable and other current transfers, receivable in secondary distribution of income account of households (including private unincorporated enterprises) in the 93SNA. But the unfunded employee social benefits in the social benefits other than social transfers in-kind, receivable is also recorded as the employer s imputed social contributions, which are part of the compensation of employees, receivable in the

5 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March allocation of primary income account, and, in order to avoid a duplicate calculation, they are also recorded as the imputed social contributions, one of the household-to-company payment items in the secondary income distribution in the 93SNA. Here we define household receipts as the total of each of the receipt items excluding the employer s imputed social contributions. 1. II-2. Estimation of the Receipts Not Counted as Revenue, (a1) This category takes into account 1) what is excluded from the tax base according to the income tax law, 2) what cannot be evaluated as concrete figures and 3) what individuals do not actually receive as incomes and so on, although categorized as receipts in the household sector according to the SNA statistics, i.e., the imputed rents. As to the imputed rents, the preceding research such as Morinobu and Maekawa (2001) calculated the Imputed service from owner-occupied dwellings in the household sector as the institutionally non-taxable imputed rents, and we follow suit and treat the figure of the operating surplus (imputed service of owner-occupied dwellings), net as the imputed rents. II-3. Estimation of the tax-exempt items in the system, (a2) The preceding research such as Morinobu and Maekawa (2001) and so on takes into account 1) the other transfer (money transfers such as remittances and gifts not accompanied by compensation), 2) the non-taxable interest and 3) the casualty insurance claims in the SNA statistics as the institutionally non-taxable receipts. As to the other transfer, we emulate national economic accounting and adopt its category of the other current transfers. The item of casualty insurance, which is treated independently in the 68SNA statistics, disappears in the 93SNA, and is eventually included in the above-mentioned other current transfers. The item of other non-taxable takes into account 1) the interest on small-lot savings belonging to the elderly and so on, 2) the interest from postal savings belonging to the elderly and so on and 3) the non-taxable interest from savings for formation of employees assets. As to these figures, we refer to the amount of payment of non-taxable interest for elderly taxpayers, etc., and nontaxable interest from savings for formation of employees assets. of National Tax Agency Annual Statistics Report. II-4. Estimation of the Social Securities not included in the tax base, (a3) The Social Securities not included in the tax base, (a3) take into account the 1 Neither Mochizuki et al (2004) nor Nomura (2009) mentions the process to avoid this duplicate calculation.

6 438 S Morinobu, A Nakamoto / Public Policy Review deductions relating to the employers actual social contributions, the social security benefits in cash, the social assistance benefits, the social insurance premiums and the medical expense. We generally follow the estimation method of Morinobu and Maekawa (2001), and for the social insurance benefits and the medical expense we refer to the Statistical Survey of Actual Status for Salary in the Private Sector and the Results of Sample Survey for Self-assessed Income Tax, hereafter referred to as Private Salary and Self-assessed Income, respectively. For the remaining three items, we refer to the 93SNA, and we explain the method in detail later. We renew our calculation method about the deductions from the public pension benefits, which are part of the deductions related to the social security benefits in cash, by taking advantage of the tax statistics. As to the employers actual social contributions and the social assistance benefits ( social assistance grants in 68SNA), there are changes in data according to the changes in the SNA processing method, making it difficult for us to simply compare old and new figures. We explain the situations below. II-4-1. Deductions from the public pension benefits and so on Morinobu and Maekawa (2001) calculates all the pension benefits in the SNA as deducted because the public pension benefits have become in effect exempt from taxation due to the deduction system of the public pension benefits and so on, which was launched in Here we divide pensioners into two types: those who are self-assessed taxpayers and those who aren t, and we sum up the deductions from public pensions and so on in both categories. As to the pension benefits of self-assessed taxpayers, we take advantage of the ranking table of the public pension benefit incomes and so on in the above-mentioned Self-assessed Income, estimating the deduction amount per capita by applying the average pension incomes in each ranking category to the calculation formula for the pension benefit deductions and so on, and finally calculate the total deductions by multiplying that figure by the number of self-assessed taxpayers in each category. This calculation method is the same with that of Mochizuki et al (2004) and Nomura (2009), but these research does not calculate the deductions for those who do not declare their income. There is no official data for the public pension income for pensioners other than the declared-income earners, but most of them are assumed to receive less than the tax threshold ( 1.4 million until 2004, and 1.2 million after 2005). Our assumption is backed up by the fact that if we multiply the number of pensioners other than the declared-income earners, which is derived by subtracting the number of the declared-income earners from the number of all the public pension beneficiaries described each year in the Outline of the operation of the Employees/National pension plans, by the amount of money of the tax exemption threshold on incomes, the figure surpasses the total public pension benefits minus the pension benefits for the declared-income earners (equal the total pension benefits for pensioners other than the declared-income earners).

7 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March We calculate by assuming that the pension benefits of those who are not declared-income earners are all exempt from taxation. II-4-2. Unfunded employee social benefits Morinobu and Maekawa (2001) uses the total sum of the employers actual social contributions and the unfunded employee social benefits in the national economic accounting as the employers actual social contributions. That s because the unfunded employee social benefits are defined as the welfare benefits paid to employees by employers who do no use outside funds such as social security funds, financial organizations (trusts/insurance) or mutual aid systems, or without setting up a fund by employers themselves. In our estimation, too, we use the unfunded employee social benefits (the title was slightly changed in the 93SNA) and the employers actual social contributions, respectively, as part of the Social security benefits/contributions not included in tax base. However, the contents of unfunded employee social benefits have undergone a substantial change, and we should be cautious that we cannot simply compare our estimation results with those of Morinobu and Maekawa (2001). According to Hamada (2003), The unfunded employee social benefits in the 93SNA, like unfunded employee welfare benefits in the 68SNA, include official casualty coverage and sympathy money payments for labor accidents by employers, and furthermore, the retirement lump sum grants, which are categrized in other employers contributions in the 68SNA, are newly included. Taking this into account, here we judge that the retirement lump sum grants should be included in the unfunded employee social benefits in our estimation. 2. II-4-3. Social Assistance Benefits The size of the social assistance benefits used in our estimation is smaller than that of the social assistance grants in the 68SNA used in Morinobu and Maekawa (2001). This is because some of the items included in the category of social assistance grants, such as the subsidies to the running expenses of day-care centers (costs of welfare placement) and the grants donated from the general government account to NPOs serving households regarding elderly welfare policies, are now excluded from the category of the social assistance benefits because of the changes in classification due to the revision of the SNA statistics. Hamada (2003) explains, The subsidies to the running expenses of day-care centers (costs of welfare placement) are re-categorized, in the case of public day-care centers, into 2 Mochizuki et al (2004) excludes the deductions from retirement income in addition to the unfunded employee social benefits, raising the possibility that it conducts excessive deduction calculations.

8 440 S Morinobu, A Nakamoto / Public Policy Review the transfers of individual non-market goods/services, and in the case of private ones, into the current transfers from the general government account to NPOs serving households in the 93SNA. The assistance grants from the general government account to NPOs serving households regarding elderly welfare are re-classified into the current transfers to NPOs serving households (while the grants to special elderly nursing homes after the year 2000, when the public nursing care insurance scheme was launched, are re-classified into the current transfers to private non-bank business corporations in the 93SNA). Because our estimation does not take into account the social transfers in kind including the transfers of individual non-market goods/services, still less the transfers other than to households, the reclassification of those items contributes to reducing the sizes of both the receipts and the deductions. II-5. Estimation of the Various Deductions from Income, (b) We derive the values of the incomes subject to taxation by subtracting the above-mentioned estimation values from the household receipts, and we get to the taxable incomes by further subtracting various kinds of income deductions. Those various deductions are, in concrete terms, 1) the deduction for employment income, which is characterized as business expenses, 2) the personnel deductions (the primary personnel deductions such as the basic deductions, various exemptions for the spouse and various exemptions for dependents, as well as the special deductions, such as the deductions for the disabled and so on 3 ) and 3) other deductions (the deduction for casualty loss, the deduction of life insurance premiums, the deduction of nonlife insurance premiums, the deductions from premiums for small-scale company mutual aids and so on and the deduction for donations ). As to the deduction for employment income, we, based upon the Summary Table of Salary Ranking described in the above-mentioned Private Salary, get the deductions from the average salary in each category using the calculation formula and multiplying them by the number of employment income earners in each category. As to the personnel deductions, like Morinobu and Maekawa (2001), we 1) calculate the per-capita deductions in each category of the tax statistics, 2) conduct a macro estimation, in the case of the data from the Private Salary, by multiplying the number of employment described in the SNA, and in the case of the Self-assessed Income, by multiplying the number of workers minus the number of employment in the SNA. As to the data of the tax statistics regarding our process for 1), refer to Table 2. Our macro estimation in 2) takes into account the fact that there is no data of the salaries of public employees. Mochizuki et al (2004) or Nomura (2009) does not conduct this macro estimation, which means ignoring the deductions of the public employees salaries, 3 Here we only show the total sum of various personnel deductions. Nomura (2009) shows the breakdown of those calculations.

9 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March overestimating the whole tax base, as a result. Table 2 Special personnel deductions Total Presence/Absence of Various Deduction Data in the Tax Statistics Specially disabled Disabled Elderly Widows Special widows Widowers Working students Private Salary Self-assessed Income Exemption for spouse Total The number of spouses subject to general General populations deductions Specially disabled Disabled with families Specially disabled without families The number of spouses subject to elderly General populatio ns deductions Specially disabled Disabled with families Specially disabled without families Private Salary Self-assessed Income Exemption for dependents Total The number of dependent family members The number of general dependent family members The number of special dependent family members The number of elderly dependent family members Elderly parents and so on with families Others The number of disabled The number of disabled The number of specially disabled with families The number of specially disabled without families Private Salary Self-assessed Income Other deductions Deduction for casualty loss Deduction for medical expenses Deduction for soocial insurance premiums Deductions from premiums for smallscale company mutual aids and so on Deductio n of life insurance premium Deduction of nonlife insurance premium Deductio n for donation Special exemption for spouse Exemption for dependent s Private Salary Self-assessed Income Basic deduction (Data) Statistical Survey of Actual Status for Salary in the Private Sector and Results of Sample Survey for Self-assessed Income Tax (Note) In the table we sort out the data regarding various deductions from Statistical Survey of Actual Status for Salary in the Private Sector and Results of Sample Survey for Self-assessed Income Tax. shows there is an amount for the figure, while shows there is the number of people subject to deductions. shows that we conduct an estimation. The shaded part shows the data unnecessary in our estimation. We estimate special personnel deductions exemption for the spouse and for dependents by multiplying the number of people concerned by each amount of deductions defined by law. As to the deduction for casualty loss, the deduction for medical expenses and the deduction for donations, we make an estimation by making use of the data of the ratio of the number of people subject to the deductions and the average deduction amounts.

10 442 S Morinobu, A Nakamoto / Public Policy Review III. Outline of Our Estimation Results III-1. Comparison with the Preceding Research As detailed before, there is a significant difference in the scope and the data definition of the household receipts between Morinobu and Maekawa (2001), which uses the 68SNA, and our estimation results, which use the 93SNA. Although Mochizuki et al (2004) and Nomura (2009) use the same 93SNA, our estimation differs in the setting of the estimation methods. Taking those into account, we compare the estimation results of the first half of the estimation period (Table 3). Table 3 Comparison between the Preceding Research and Our Estimation (The Ratio of Tax Income to Receipts in Household Sector until 2000, %) Our estimation Morinobu & Maekawa(2001) Mochizuki.et.al (2004) Our estimation Morinobu & Maekawa(2001) Mochizuki.et.al (2004) (Data) Morinobu and Maekawa (2001), Mochizuki et al (2004) Compared with Morinobu and Maekawa (2001), our estimation is modified a little upwards but both tend to show similar trends. There are three big differences between our results and those of Morinobu and Maekawa (2001). 1) We conduct the estimation of the special personnel deductions (such as the elderly and disabled deductions and so on) which are not calculated in Morinobu and Maekawa (2001). That difference makes the tax base of our results smaller, accordingly. 2) In Morinobu and Maekawa (2001), the in-kind social security benefits are added to both the household receipts and the deductions. Our estimation results remove it, making the base (denominator) smaller, conceptually, which means making the impact of various other deductions than in-kind benefits a little larger, and as a result, making the tax base smaller. On the other hand, our results make smaller the sum of deductions than that of Morinobu and Maekawa (2001) by the margin of the deductions from in-kind benefits, making the tax base larger, accordingly. The impact of this difference upon the size of the tax base depends upon which impact is bigger. 3) As to the estimation of the public pension deductions, our estimation uses the Self-assessed

11 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March Income and recalculates the deductions in each income bracket of the declared-income earners. That makes the tax base accordingly larger than that of Morinobu and Maekawa (2001), which supposes that all pension benefits are deducted. As a result, our estimation s tax base proves a little bigger, probably mainly because we can remove in-kind benefits from our calculations thanks to the changes in the SNA. Our differences in estimation method from that of Mochizuki et al (2004) are, in addition to the above-mentioned difference in 2), that 4) Mochizuki et al (2004) only takes into account the pension deductions for the declared-income earners, while our estimation also takes into account the pension deductions for those who are not declared-income earners, making the tax base of our results smaller. 5) Mochizuki et al (2004) deducts retirement incomes in addition to unfunded employee social benefits, and our estimation makes the tax base larger because we do not calculate the retirement incomes separately. 6) Our estimation takes into account the imputation in the household receipts, making the denominator smaller than that of Mochizuki et al (2004) which does not engage in that process, making the ratio of various deductions larger, and as a result, making the tax base smaller. 7) In estimating various deductions by using tax statistics, we conduct a macro estimation by using the number of workers and employees in the SNA in order to include the income deductions for public employees into the calculation, making the tax base smaller than that of Mochizuki et al (2004), which directly uses the results from the tax statistics. Those various impacts interact with each other, making the difference in the levels and the directions 4. III-2. Outlines The results are described in Table 4 and Figure 3. If we take a look at the estimation results of the tax base from 1997 to 2009 in Figure 3, interestingly, the tax base peaked in 1999 and consistently kept shrinking until 2003, before slightly increasing until 2006, and then shrank again a little until 2009, showing a trend full of changes. Table 5 describes the trend of each of the various factors deducted in the tax base calculation, and we take a look at the background against which these changes took place in each period according to the table. 4 Nomura (2009) adopts the same calculation method as that of Mochizuki et al (2004), although during a different period ( ), producing similar differences.

12 444 S Morinobu, A Nakamoto / Public Policy Review Table 4 Estimation of the Deductions and Their Ratio in Household Receipts (unit: 1 billion, %) Household receipts A Tax base B (=A- (C+D+E+F+G)) B/A Nontaxable social security C C/A Deduction for employme nt income D D/A Personnel deductions (including basic deductions) E E/A Other transfer/ta x-exempt items in the system F F/A Other deductions G G/A , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , Figure 3 Trends of the Tax Base and Various Deductions and so on (Ratio to Receipts in the Household) (unit, %) C B D E F G B.Tax base(=income-(c+d+e+f+g)) D.Deduction for employment income F.Other transfer/tax-exempt items in the system C.Non-taxable social security benefits/contributions E.Personnel deduction (including the basic deduction) G.Other deductions

13 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March III During this period, the tax base shrank by 6.9% points. The biggest factor behind this was that the non-taxable parts of the social security benefits/contributions not included in the tax base increased by as much as 5.6% points. The employers actual social contributions, which are tax deductible, increased by 0.5% point, the unfunded employee social benefits by 0.1% point, the deduction for social insurance premiums by 1.0% point, and the deductions for the public pension benefits and so on by 2.9% points, leading to the shrinkage of the tax base. The income deductions, on the other hand, showed a 1.4% point increase (while the tax base shrank), mainly because the deduction for employment income 5 increased. The other non-taxable incomes showed a 1.0% point increase (while the tax base shrank), and it was a temporary phenomenon when a flat-sum savings interest matured in the tax-free small-sum postal savings system (and it dropped to the normal level in 2002). III to 2006 During this period, the tax base increased by 5.1% points in reversal. That was mainly because the special exemption for spouses and the deduction for employment income shrank by 1.5% points and 0.7% point, respectively, (while the tax base increased). That was mainly due to the fact that the special exemption for spouses was abolished in 2004, and the deduction for employment income shrank because of the sluggish growth of wage levels. On the other hand, the social security benefits/contributions not included in the tax base slightly shrank, and that was probably because of the rise of the pension eligibility age, placing a cap on the growing deductions for the public pension benefits and so on. 5 The trend for total employment incomes was downward since 1997, showing an especially rapid decrease until Although the level of employment income deductions showed similar movement, accordingly, the ratio showed a reverse movement against the level, as the decreasing pace of household receipts (due to the decrease in the employment incomes) was faster.

14 446 S Morinobu, A Nakamoto / Public Policy Review Table 5 Trend of the Income Tax Base in Japan Factors excluded from the tax base A.1997 B.2003 C.2006 D.2009 B-A C-B D-C D-A Social security benefits/contributions not included in tax base Employers' actual social contributions Unfunded employee social benefits Deduction for public pension Deduction for social security benefits (other than pensions) Deduction for soocial insurance premiums Deduction for medical expenses Income deductions Basic deduction Personnel deductions Special personnel deductions Exemption for spouse Special exemption for spouse Exemption for dependents Deduction for employment income Other deductions Deduction for casualty loss Deduction of life insurance premium Deductions from premiums for smallscale company mutual aids and so on Deduction for donation Deduction of nonlife insurance premium Other transfer Tax-exempt items in the system Taxable income(tax base) III to 2009 During this period, the tax base turned negative by 3.2% points. The biggest factor was the growth of the deductions for public pensions (1.6% points) and the growth of social security benefits other than pensions, including medical and nursing care benefits (1.1% points).

15 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March III-2-4. The Whole Period The trend throughout the whole period between 1997 and 2009 showed that the tax base shrank by 4.9% points. This was mainly due to the fact that the social security benefits/contributions excluded from the tax base increased by 7.4% points. The biggest factor behind that was the growth of the deductions for public pension benefits and so on (4.5% points). On the other hand, the insurance premium payments did not increase that much, and the deduction for social insurance premiums was up 0.5% point, and the employers actual social contributions were up 0.6% point. That was probably because the growth in the social insurance premiums was reined in due to the fact that the state contributions to the basic pension plan increased after the 2004 revision of the law, as well as the growth of non-regular employment taking place under the influence of the economic recessions. On the other hand, income deductions shrank by 2.2% points, contributing to the growth of the tax base. Among the contributors were the abolition of the special exemption for spouses (minus 1.4% points), the reduction in the exemption for dependents (minus 0.6% point) and the reduction in the exemption for spouses (minus 0.2% point). The ratio of the exemption for dependents decreased since 2004, and that was probably because of the dwindling birthrate and the decrease in the number of dependents due to women s social advancement (See Figure 4). Because the margin (impact) of growth of the former (the social security benefits not included in the tax base) was larger than the negative growth margin (impact) of the latter (the income deductions), the shrinking trend of the tax base continued. The author (Morinobu) once predicted in Morinobu and Maekawa (2001) that due to the progress of the aging society and so on, the social security benefits not included in the tax base would show a rapid increase, leading to a large shrinkage of the tax base, but the decreasing pace of the income tax base was below the author s expectation mainly because the subsequent economic recession reined in the growth of income deductions, and politicians achieved the abolishment of the special spousal deduction system.

16 448 S Morinobu, A Nakamoto / Public Policy Review 18 Figure 4 Trend of the Breakdowns for the Deduction for Employment Income and Personnel Deductions ( ) Deduction for employment income Exemption for dependents Basic deduction Exemption for spouse Special exemption for spouse IV. Implications from Our Estimation IV-1. Significance of the Widening of the Tax Base As we mention at the beginning of this article, the widening of the tax base is quite significant for envisaging the reforms of our country s tax systems in the future. Because it not only enhances the horizontal fairness but also helps restore the income redistributional functions. Among the challenges of disparity/poverty and the necessities of improving the economic efficiency which Japan faces, the growth of the tax base may be regarded as one of the most important tasks in the tax system reforms. As we mention earlier, Japan s national income tax base has been in a growing phase since 2004, although for only a short period of the time. This was due to the shrinkage of the deduction for employment income following economic contractions and the shrinkage of personnel deductions (exemptions for dependents and spouses) following the increase in the number of double-income households. If the Japanese economy recovers in the near future, the deduction for employment income will increase, while the growth in the number of double-income households will likely hit a ceiling. Based upon those facts, the current income deductions system should be under constant review in order to continuously expand the tax base.

17 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March We take a look at the so-called Manifesto of the Democratic Party of Japan, the set of election pledges of the then ruling party which set out that direction, and its implementation progress so far, and further, at the exemption for spouses, the deductions from the public pension benefits and so on and the medical expense deductions, which should be placed under review in order to expand the taxation base. IV-2. The DPJ s Manifesto From Income Deductions to Tax Deductions The DPJ s Manifesto/Anthology of Politics/Index 09 at the time of the change of government in 2009 advocates the shift from income deductions to tax credit, and further, to the refundable tax credit 6, in order to enhance the income redistribution functions of the income tax system. It says, In order to make a shift from the deductions to the allowances, the DPJ will abolish the exemptions for spouses and dependents and create child-rearing allowances. It also says, (based upon this) The DPJ will consolidate the income deductions which are relatively in favor of high income earners, and will change them into a tax credit and a refundable tax credit in order to stem the widening of downward disparity. The income deduction system is, as a result, in favor of high income earners. The shift from tax and income deductions to allowances is a policy in favor of middle and low income earners. It says, (besides,) The refundable tax credit is a system which provides a certain amount of the un-deducted tax to the relevant tax payers when the paid amount of tax is lower than that of the tax deductions, which means the system has the aspects of both the tax credit and allowances at the same time. By mixing those policies in an appropriate way, we will stem the widening of downward disparity. About the personnel deductions, the DPJ will promote the shift from deductions to allowances. In order to support child-rearing by the whole society, the exemption for spouses and the exemption for dependents (the general one excluding the special exemption for dependents covering high school and university students as well as the exemption for elderly dependents) will be changed into the child-rearing allowances. It also says, About the deduction for employment income, the DPJ will make the special expense deductions easier to use for taxpayers, as well as review the system by capping the applied income levels which are now without caps at all. 7 Following those policies, actually, together with the launching of the child-rearing allowances (later shifted to the child benefits), the tax deductions for younger children ( 380,000) were abolished, and together with the elimination of high school tuition fees, the top-up portion ( 250,000) of the special exemption for dependents (16-18 year olds) 6 See Morinobu (2010) 7 The manifesto also states that the restoration of the deductions for the elderly and the deductions from the public pension benefits and so on should be returned to the state before the 2004 revisions of the law, which is contradictory to the other part of the statement.

18 450 S Morinobu, A Nakamoto / Public Policy Review was abolished in the 2010 revision of the laws. In the 2012 revision, the deduction for employment income was capped in order to expand the tax base. But the child-rearing allowances were, after the political confusion, returned to the old system of child benefits. One of the reasons was that the abolition of exemption for dependent younger children was not enough to create sufficient budget resources, which meant that the reductions/abolitions of the deduction system was not enough. The documents described in Figure 5 were submitted to the Government Tax Commission, and it shows that the policy under the DPJ government, although on a small scale, enhanced the income redistributional functions. Figure 5 Changes of Tax Burdens and Allowance through the 2010 Revision of the Laws (Married Couple with Two Children in High School and Middle School) (Data) Ministry of Finance The direction from the income deductions to the tax credit is in line with the trend of the tax reforms in advanced countries such as Canada and the Netherlands 8. In the Netherlands, the income deductions, which were regarded to be in favor of high income earners, were shifted into the tax deduction system, with 7 income deduction items changed into 12 tax credit items in the 2001 income tax reform. In several countries some efforts are being made to introduce the system of the refundable tax credit, which designs both the tax deductions and the social security benefits in a holistic way. The system makes both fairness and efficiency possible 9, enhancing not only the income redistributing functions, but also reducing the moral hazard problems and heightening labor incentives by directly linking the system to earning activities by labor. 8 The Advisory Commission Report on Tax Reforms published at the end of 2005 under the George W. Bush administration in the United States suggested the creation of the Family Credit by combining the non-itemized deductions, the personnel deductions and so on. 9 Morinobu (2010) Chapter 8

19 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.9, No2, March In Japan, too, the future direction of the tax system reforms should be, under the attitude of tax revenue and fiscal neutrality, the exemption for spouses and dependents, and further, the deduction for employment income as well as the welfare benefits/unemployment allowances should be reviewed, and the reforms should desirably be made in the direction of introducing refundable tax credits such as the working tax credit and child tax credit 10. IV-3. Review of the Exemption for Spouses The DPJ Manifesto clearly advocated the abolition of the exemption for spouses, but the policy has not begun. It is a problem from the viewpoint of the taxation base. The original consumption tax hike bill stated, The exemption for spouses will be kept under review, based upon various discussions on the relevant deductions and the taxable units, as well as the changes in the socio-economic conditions, but the tri-partite agreement (between the DPJ, the LDP and New Komeito) scrapped the policy. The debate on the exemption for spouses should be put in an historical perspective. In the 1961 revision of the laws, the spousal deduction system, which was independent of the traditional dependent deduction system, was established for the reason that a husband and wife couple was in a mutual-aid relationship and one spouse should not be treated as the other s dependent. Additional explanations were that because a full-time homemaker imposed an additional cost of living on her household leading to less taxpaying capacity, her husband s tax contributions should be alleviated, and that because a homemaker fully engaged in household chores and child rearing, largely contributing to her husband s income earnings, a homemaker s internal support of her husband should be appropriately evaluated. In the sweeping tax system reforms, when the consumption tax was introduced for the first time, the special spousal deduction system was newly launched in order to resolve the reversal phenomenon regarding part-time work, but in 1994 it was partly abolished, and, at present, the system is made so that as the spousal incomes increase, the deductions will gradually be reduced. The spousal deduction system is facing the following criticism. Although some argue that a spouse diminishes the taxpaying capacity of the household, there is a counterargument that a homemaker s house chores produce imputed incomes, as a result, making her household taxpaying capacity higher, and that the internal support of her husband is not only made by a full-time homemaker but also within a double-income household, and so, favoring only a fulltime homemaker destroys the neutrality towards women s advancement into society, and the system is unfair, too. Some argue that a spouse with income below the threshold of 1.03 million can enjoy both his/her own basic 10 The current consumption tax hike bill suggests considering introducing the refundable tax credit as a countermeasure to regressivity.

20 452 S Morinobu, A Nakamoto / Public Policy Review deductions and his/her spouses deduction for employment income, leading to duplicated tax deductions. Anyway, the tax breaks only given to a full-time homemaker (including a part timer with income under 1.03 million) is facing severe criticism as the utilization of women s labor is one of today s important policy challenges. Although, recently, some argue that the exemption for spouses should be positively re-evaluated as a countermeasure to the falling birthrate, it has been proved that women s labor force participation rate and the birthrate are not in negative correlations 11. It follows that the revision of the exemption for spouses is the first policy to start in order to expand the tax base. And shifting those deductions into tax deductions for children should be one of the options conceivable. IV-4. Revision of the Deductions from Public Pensions Benefits, etc. Morinobu (2002) predicts that the deduction for social insurance premiums while the premiums for the public/corporate pensions are being paid, and the public pension benefits deductions while the benefits are being received (in other words, the non-taxable pension system both in payment and reception periods) will melt the nation s income tax base with the furthering of the aging society. But if you take a look at the actual figures, as is mentioned before, the deductions from the public pension benefits and so on are continually expanding (erosive to a large degree), while the deduction for social insurance premiums (proportional to employment incomes) have not showed such growth. Our estimation uses the individual income receipts in the SNA statistics as a denominator. In other words the combination of the employment incomes while taxpayers are working and the pension benefit incomes after they retire is the denominator. If the employment incomes shift to the public pension incomes as the working generations shift to the pension generations on a large scale every year due to the aging of society while the national incomes as a whole are leveling off due to the economic recessions, the ratio of the public pension deductions will prove to be relatively large (while the ratio of the deduction for social insurance premiums will prove to be small). If we amplify this awareness of the issue, the crucial problem should be the fact that the deduction for employment income for the working generations and the deductions from the public pension benefits and so on for the pension generations are not well-balanced. In the present deduction system for the public pension benefits and so on, if, for example, the age of the recipient of the public pension is 65 years or older in a typical husband and wife household, the taxable threshold is about 2.05 million (non-taxable below that), while in the case of a household of husband and wife in the working generations, the threshold is about 1.57 million, and there is certainly a disparity between them. Given that the income 11 Morinobu (2010) Chapter 3