Why a wealth tax would fail

Recently, a whole host of economic policies which you would have thought had been consigned to the past — or at least semi-functional, perpetually developing countries — have seen revivals in popularity.  

From the second Trump administration’s efforts to impose massive and arbitrary tariffs as a means of reviving industry, to the SNP’s commitment to price controls, to Modern Monetary Theory — i.e. providing new justifications for adopting the monetary policy of Weimar Germany circa 1922 — it seems you can never keep a bad idea down.  

Adding to this list is the idea of a wealth tax, an annual percentage tax for possessing net wealth above a certain threshold (£10 million is a common proposed threshold in the UK). The idea is being advocated by politicians, including Green Party leader Zack Polanski and US Senator Elizabeth Warren, YouTubers and even some businessmen.  

Advocates of a wealth tax claim that it could raise money for public services, be used to cut other taxes and would reduce wealth inequality.  

As with most taxes on other people, the proposal is popular with the public, with three in four Britons saying they would support the introduction of a wealth tax on fortunes over £10m.  

Yet, as Dr Kristian Niemietz points out in his new IEA report, Fool’s Gold: The case against the wealth tax, wealth taxes in countries that have actually had them have been falling out of fashion for decades.  

In 1990, there were 12 countries in the OECD with a wealth tax, including half of Western Europe. This has since dwindled to just three: Spain, Norway and Switzerland. 

This change was not driven by a wave of small state, laissez-faire governments coming to power. Quite the opposite, the tax take as a share of the economy collected has grown in most developed countries over the last three decades.  

Rather, wealth taxes were abolished by governments of the right, centre and the left for the simple reason that they were failing on their own terms. Governments have found there were less damaging and frankly easier ways of raising revenue.   

There are a number of reasons for this.  

Firstly, wealth taxes are much more difficult and expensive to administer than taxes on income or consumption. They require the state to keep an up-to-date account of citizens’ assets. This presents logistical problems to set up. The 2020 Wealth Tax Commission, which looked at the possibility of establishing a wealth tax in the UK, estimated an upfront cost of £579 million to set up HMRC to administer even a narrow-based (and therefore cheaper) assessment system.  

There are also problems with valuing certain assets. Certain forms of wealth, like the contents of a bank account or frequently traded assets like shares in a public company, might be relatively easy to assess. But a private or family business that has never gone up for sale, a piece of artwork or even real estate which wasn’t acquired recently can be extremely difficult to value accurately and open to legal dispute.   

These valuation difficulties are not insurmountable, but they present a significant administrative burden and expense, which could seriously eat into returns. West Germany’s wealth tax sometimes cost tax authorities over 3 Deutschmarks to administer for every 10 raised in revenue.  

Second, wealth taxes have discouraged the rich from living in and investing in countries that apply them. From 2000 to 2016, France’s wealth tax helped to push 60,000 more millionaires out of the country than moved to it, thus depriving France of 5bn Euro in other taxes and, according to some estimates, costing at 0.2 per cent of GDP annually due to reduced investment.  

But what about Switzerland? It maintains a wealth tax while hardly being denuded of rich people.  

This is true, but Switzerland is able to remain competitive because it either completely lacks or keeps extremely low other taxes that affect the well-off. It has no capital gains tax, and most cantons have no inheritance tax. Countries could have clung onto their wealth taxes but moved towards a Swiss-style system by abandoning capital gains and inheritance tax, but most chose not to.   

The third and perhaps biggest reason wealth taxes were abandoned is that they were never able to raise enough money to justify their high economic and administrative costs. 

In no country, except Luxembourg, were wealth taxes ever able to consistently raise much more than 1 per cent of GDP in revenue (Luxembourg managed around 2 per cent for a while). For comparison, in the UK, income tax raises about 11 per cent of GDP, while National Insurance contributions amount to another 7 per cent.   

Wealth taxes have largely failed on their own terms. They were difficult to administer and rarely raised much money

Even if you are trying to raise revenue just from wealth, wealth taxes have been a pretty poor way of going about it. In his paper, Dr Niemietz points out that while Britain does not have a net wealth tax, there are a huge number of ways HMRC gets its hands already on people’s wealth: from council tax, which acts as a tax on property, to stamp duty and inheritance tax which affect acquisition and transfers of wealth, to capital gains tax.  

When added together, Britain actually raises more in taxes on and around wealth than any other OECD country, including those that maintain a wealth tax. HMRC rakes in 3.7 per cent of GDP from such taxes compared to 2.2 per cent in Spain, 2.1 per cent in Switzerland and 1.2 per cent in Norway.  

Wealth taxes have largely failed on their own terms. They were difficult to administer and rarely raised much money. As it happens, they don’t even seem to have done much to reduce wealth inequality. In the UK, which never adopted a wealth tax, the top 1 per cent today own a smaller share of the nation’s wealth than any of the OECD countries which maintain a wealth tax.   

There are plenty of sensible reforms the UK could adopt to make the tax system more rational. But regardless of whether you want a smaller state or are just desperate to fleece the rich, a wealth tax isn’t one of them.