30.11.2011

The world currency system is not in great shape. The US dollar is in the doldrums and the Euro is fighting for survival, because too many EU member states are too indebted. While we all wait for a solution, it emerges that EU governments disagree about an EU Commission proposal to raise money by making the bad guys pay more tax. Who are they?

Make the guilty pay:

On September 28, 2011, the EU Commission informed us that: ‘‘The financial sector played a role in the origins of the economic crisis. Governments and European citizens at large have borne the cost of massive taxpayer-funded bailouts to support the financial sector. Furthermore, the sector is currently under-taxed by comparison to other sectors.‘‘ EU governments and their policies are not mentioned.

Now we know whose fault it apparently is, what does the EU Commission propose?
The answer is a ‘‘Financial Transaction Tax‘‘ in all the 27 Member States of the European Union. The tax would be levied on all transactions on financial instruments between financial institutions when at least one party to the transaction is located in the EU. The exchange of shares and bonds would be taxed at a rate of 0.1% and derivative contracts, at a rate of 0.01%. The tax would aim at covering 85% of the transactions that take place between financial institutions.

The tax would do not apply to the transactions typically undertaken by retail banks in their relations with private households or businesses, except when they relate to the sale or purchase of bonds or shares. For instance, for a purchase of shares to the value of EURO 10,000 the bank could pass on a charge EURO 10, which the EU Commission believes is not excessive.

The definition of a financial institution in the EU Commission‘s proposal is wide and includes investment firms, organised markets, credit institutions, insurance companies, collective investment undertakings and their managers, alternative investment funds (such as hedge funds), financial leasing companies and special purpose entities.

What are the implications?

This tax is generally known as a ‘‘Tobin Tax‘‘ in honor of an economist, James Tobin who first proposed a similar tax as a way of dampening currency speculation.

According to the EU Commission, this tax could approximately raise EURO 57 billion every year. The Commission proposes that the tax should come into effect from 1st January 2014.

The financial transaction tax at EU level would apparently strengthen the EU‘s position to promote common rules for the introduction of such a tax at global level, notably through the G20.

The revenues of the tax would be shared between the EU and the Member States. Part of the tax would be used as an EU own resource which would partly reduce national contributions. Member States might decide to increase the part of the revenues by taxing financial transactions at a higher rate.

What‘s wrong with such a tax?

First, the tax may encourage investors and others to head for markets with no such tax – in the US, Switzerland, Asia, and elsewhere. Consequently, the UK government among others has turned down the idea of a Tobin Tax.

Second, the idea has been tried out in Latin American countries. Anecdotal evidence suggests that such a tax on transactions pushes some parties into conducting transactions outside the banking system…

Third, EURO 57 billion won‘t go far in reducing budget deficits in the EU.
Fourth, the proposed effective date of January 1, 2014 is too far into the future. EU governments are under pressure to fix the Euro now.

For more details, visit: http://europa.eu/rapid/pressReleasesAction.do?reference=IP/11/1085&format=HTML&aged=0&language=en&guiLanguage=en

And in Israel?

Surprisingly, the new Israeli Shekel has the opposite problem to the Euro and the dollar – it has risen steadily in recent months. Israel is a member of the OECD and the Shekel is a fully convertible currency – but the Shekel is unlikely to become a global reserve currency any time soon.
Nevertheless, a strong shekel is not good for Israeli exports.

It seems that when foreign investors snap up Shekels, they often invest them in Israeli government short term publicly traded debt known as Makam bonds.
Consequently, amendment 186 to the Income Tax Ordinance has just been enacted. It withdraws the exemption from Israeli capital gains tax normally applicable to foreign resident investors if they invest in Makams with a maturity is no more than 13 months, or Makam futures and sell them on or after December 15, 2011 (after buying them before that date or within 2 years after then).

This follows earlier regulations that repealed other exemptions, including an exemption for interest, discount premiums and indexation derived by foreign investors in Makams with a maturity not exceeding 13 months, commencing July 7, 2011.

Concluding remarks:

It is unclear whether currency investors are really swayed by tax considerations. A Tobin tax would presumably be a deductible expense, and Israeli taxes on short term bonds will presumably be creditable by many foreign investors against taxes in their home country. Other macroeconomic tools are still needed, including prudent monetary and spending policies.

As always, consult experienced tax advisors in each country at an early stage in specific cases.

The writer is a certified public accountant and tax specialist at Harris Consulting & Tax Ltd.