Taxing one8217;s intelligence

The fact that tax systems do not keep up with the changing economic reality, I feel, is also much more distortionary than the fact of taxation per se. Take, for example, the medical reimbursement practice followed in many organisations/companies. Employees are entitled to medical reimbursement with a cap on the maximum amount that an employee can claim. To claim reimbursement, a person has to produce and submit medical bills. If one has genuinely incurred medical expenses then there is no problem in getting the expenses reimbursed. What if a person has not incurred any medical expense? In that case one is in principle not entitled to any reimbursement. If one still wants to claim reimbursement one needs to produce and submit medical bills.

Now, a person either buys something, say, toiletries from a chemist who givesa bill of medicines, or one pays a certain percentage of the bill amount tothe chemist for preparing a fake bill for you. If your conscience doesn8217;tpermit you to ask for a fake bill, you8217;re faced with a funny situation: You8217;ve got to fall ill to claim the allowance but you cannot use the sameallowance to keep illness at bay! Similarly, if your medical expenses are higher than the permissible limit in some years and smaller in other years, a person cannot even out these expenses across the years under the current tax system.

It is indeed the case that the majority of employees, irrespective oftheir incurring medical costs, actually claim medical reimbursement by aboutthe same amount that they are entitled to. Given this, why can8217;t organisations give medical allowance irrespective of whether one has incurred the expense or not? Our tax system is cited to be the culprit in not promoting this simple and honest practice. Under the current system, if organisations provide medical allowance without asking for bills, the allowance would appear in the employees8217; taxable income and the tax liabilities of employees would go up in the process. If the allowance is instead reimbursed against bills, it is shown as the company8217;s expense which is deducted before arriving at company8217;s taxable profits. It is for this reason that most organisations tend to keep the basic salary low and pad employees8217; pay packets with lots of perks so as to reduce their tax liability.

What is true of medical allowance is also true of many other perks such ashousing allowance, leave travel allowance, petrol allowance, bookallowance and what have you. That is, you8217;ve to rent in a house to claimhouse allowance, you8217;ve to go on a vacation to claim leave travel allowance, and so on and so forth. You cannot encash these allowance, at least not completely, if you8217;ve not spent on such needs and activities. The current tax regime, therefore, by inducing perverse behaviour promotes wasteful consumption.

That lowering of income and corporate tax rates, expanding the tax base, andimproving tax compliance will increase revenue flows to the government iswell known to economists and policy makers. What is perhaps not so wellknown is that lowering of rates will also reduce perverse behaviour,besides improving general morality in our offices.