and the change were made in 1924, then, under the preceding year basis he would pay on £1,000, and under the average system on £2,000. But if incomes were increasing, the Revenue would benefit at the expense of the taxpayer and the change would cause great irritation. The change could no doubt be made with few objections at a time of falling incomes, but if incomes were decreasing to any great extent the Revenue would suffer heavily. Perhaps the best time to make the change would be at a time when incomes had been reasonably stable for some years. This would involve little loss of revenue, even if taxpayers were given the option for the year of change of paying on the old or the new basis. Probably no objection to the change would be made if it were accompanied by a decrease in rates. The argument that the average system provides a better test of ability to pay and mitigates the graduation of the tax in the case of taxpayers with fluctuating incomes deserves serious consideration. There is something to be said for the proposition that a taxpayer with a total income of £15,000 for three years, received at the rate of £5,000 a year, is better able to pay a given amount of tax than one who, with the same total income for three years, received £13,000 in the first year and £1,000 in each of the next two years. The tax of the latter would actually be higher under the preceding year method than that of the former. On the other hand, under a preceding year basis the taxpayer pays the tax just after he has received the income and is at that time best able to pay. Under the average system he continues to bear tax on a good year for a number of years after he has received the income, and frequently when he has spent it and has difficulty in paying. Probably the two arguments, viz. (1) that the average system with respect to total tax payable is more in accord with ability to pay in cases of fluctuating incomes, and (2) that the preceding year basis facilitates payment by reason of the payment following more closely on receipt of the income assessed and makes larger payments of tax felt less, about balance each other. There is really less need of a device to take care of fluctuating incomes in Great Britain than in the United States, where capital gains and casual profits are taxed. An income tax law which does not tax casual profits or capital gains will not have to deal with such large fluctuations in income. The United States law has dealt with this situation by imposing a lower rate of tax on capital gains.1 The evidence presented to the 1920 Royal Commission on behalf of taxpayers was almost unanimously in favour of a change to a preceding year basis, and this in spite of the fact that the method as it is now applied works nearly always in favour of the taxpayer. It seemed to be felt that its advantages are decidedly outweighed by its intricacies and the confusion to which it gives rise. There seems no doubt that the method is so confusing that its abolition would reduce the work of the administrative officials, who at present spend much time in rectifying errors. Irritation was also evident because of the present variety of bases of assessment (year of assessment, preceding year, three and five year average, etc.), which results in inequality between taxpayers with different sources of income. In short, we must conclude that the average system has not sufficient advantages to compensate for its complexities and other disadvantages. Assessment on the basis of the income of the preceding year, as employed in the United States, has met with no serious complaints. It works smoothly and fairly. Any demand for a change to the average system is probably made without a serious study of it and of the difficulties which its application involves. If the average system is retained in Great Britain, it should be shorn of some of its inconsistencies. If it is to be used at all, it should be adhered to more closely and not abandoned when it bears more heavily on taxpayers than would the preceding year basis. If a taxpayer is to have relief when his actual income falls below the income determined by an average, then the Government should have a 1 See Chapter IX. corresponding benefit in the alternative case. This, of course, would make the system entirely absurd. At present, as Sir Josiah Stamp has said: "It is, therefore, heads-Iwin-and-tails-you-lose' for the individual taxpayer against the community of taxpayers." I 1 Fundamental Principles of Taxation, p. 28. CHAPTER XV COLLECTION OF THE TAX AT THE SOURCE ONE of the most distinctive features of the British income tax is its reliance on collection (sometimes called deduction, or stoppage) at the source. By this device approximately 70% of income tax is collected from others than those upon whom the tax ultimately falls. In cases where the recipient of income is subject to deduction of tax at the source, he receives his income less the income tax on that amount of income. The tax is deducted by the payor, who accounts for it to the Inland Revenue. If A pays B an annual rent, A must withhold the income tax on payment of the rent. A, and not B, is assessed to income tax on the amount of rent paid. B has no opportunity to evade ! payment of the tax, and A has no incentive to do so. Where a person should have deducted tax and did not, any remedy he may have is against the person from whom the tax should have been deducted. The Crown is not concerned with his failure, but will assess the payor of the income in every case. Since income tax liable to deduction at the source is directly assessed on the payor of the income, all penalties with respect to false returns, or failure to file returns, accrue against the payor if he does not report, and withhold tax from, such income. In addition, any person refusing to allow the deduction of tax at the source is liable to a penalty of £50, or, in some cases, treble the principal sum. Contracts and agreements not to withhold tax are declared by the law to have no legally binding effect. It now seems Income Tax Act, 1918, all Schedules, Rule 23 (2). well settled that one who fails to deduct tax when paying over income, and is subsequently obliged to pay tax on such income, cannot rectify his failure by deducting the amount of tax from future payments to the same payee.1 Wherever possible, collection at source is employed. Obviously it cannot be employed in the case of profits of trades, employments and vocations, nor in the case of profits from the occupation of land. As a rule, it is not applicable to profits from foreign and colonial possessions and securities. In such cases the method of direct assessment is in use. Deduction at the source is employed in the case of practically all payments of interest, rent, dividends, royalties, and salaries of officers of Public Departments (including the Navy, Army, Air Force, Civil Service, etc.).2 The tax is usually deducted at the standard rate 3 (deduction at the source being, of course, impracticable in the case of the super-tax at graduated rates), and in many cases this rate is higher than the effective rate 4 applicable to the recipient of the income. Where this is the case, two courses are open to the taxpayer. He may make a claim for repayment of the amount of tax withheld in excess of that properly due. But if he is in receipt of other income subject to direct assessment, he may set off the excess tax withheld against the tax payable on such income. The latter method takes care of a great many cases, but even so the number of claims for repayment is very high. For the year 1922-23 there were over 1,991,000 claims for repayment, Hill and Kirshenstein, [1920] 3 K.B. 556; 6 Tax C. 39; in re Hatch, [1919] 1 Ch. 351, are two of the numerous cases to this effect. 2 For a more complete list see the Minutes of Evidence of the 1920 Royal Commission on the Income Tax, Cmd. 288-1, App., p. 7. The statutory provisions as to collection at source appear in the various rules under the five Schedules. 3 In the case of income from land and buildings and payments under Schedule E, tax is frequently charged to tenants and employers at a rate precisely or roughly corresponding with the rate applicable to the owner of the income. This practice rests entirely in the discretion of the administration, and appears to have no legal sanction. (See 1920 Report, Cmd. 615, par. 134.) 4 The term "effective rate" means the rate tax payable by the taxpayer's total income. tically never the same as the statutory rate. obtained by dividing the This, of course, is prac |