An article this week in The Wall Street Journal by Dan Mitchell discusses the Baltic Tiger that is Estonia. In the last six years, it has enjoyed average growth of 9% a year, having dumped a high tax agenda it initially pursued after independence from the USSR. Mitchell writes:
Seeking a new approach to jump-start its economy, Estonia adopted a 26% flat tax in 1994 and never looked back. Combined with other free-market reforms, the flat tax has helped Estonia become one of the world’s fastest-growing economies. Tallinn is now a boom town, filled with expensive cars, elegant shops, trendy restaurants and new construction. Estonia’s system is not a completely pure version of the flat tax model. But it is remarkably free from distortions, exemptions, loopholes and penalties. The flat rate applies to both personal income and business income. And since one of the key principles of a flat tax is that income should be taxed only once, there is no death tax, no wealth tax and no double-taxation of savings or dividends.
Perhaps most impressive, the country has continuously refined the system. The tax rate has already been reduced to 22%, and it is scheduled to fall - one percentage point annually - to 18% by 2011. Estonia’s corporate tax reform, which took effect in 2000, is especially impressive. For all intents and purposes, the country eliminated the corporate income tax. Instead, there is now a simple cash–flow system requiring companies to withhold 22% of dividends sent to shareholders. That means companies do not have to worry about depreciation rules and other complicated provisions that divert so much time and effort of managers in America and Western Europe.
Western European economies would benefit from emulating the Baltic Tiger and reforming their own tax systems. Lower, simpler taxes create more wealth and over time higher tax revenues - a truly win-win situation.
Tags: Dan Micthell, Estonia