Estonia is not a feature of Ted Cruz’s stump speech or election ads, but the diminutive Baltic nation has taken on an odd role as a glowing model for his presidential tax plan.
As the conservative Republican hardliner vies with Donald Trump for victory in the Iowa caucuses on Monday, he is pitching a plan to flatten multiple US tax rates down to a single tier, emulating an approach Estonia took in 1994.
The model from the former Soviet bloc could in theory resolve US tax controversies in the European Union, which have entangled Google, Apple and others and stem from US companies’ trying to escape a top tax rate of 39 per cent.
“Estonia’s wonderful,” said Arthur Laffer, an economist and “flat tax” champion who advised Mr Cruz on his plan three decades after counselling Ronald Reagan and Margaret Thatcher. “It’s a really efficient system of taxation.”
Mr Cruz wants to eliminate corporate income tax and replace it with a flat 16 per cent value added tax, which applies only to a thin slice of profits, while consolidating seven personal tax brackets into one at 10 per cent.
Big American businesses say the high corporate tax rate is to blame for the twin furores over US tech groups’ sweetheart tax deals in the EU and “inversion” deals through which other companies are relocating to Europe. Len Burman, director of the Tax Policy Center, a left-leaning think-tank, does not favour a flat tax but said Mr Cruz’s plan could reverse current trends.
“If you move to a pure flat tax it could make America into a tax haven because companies might not have to pay any tax,” he said. “You could have UK companies fleeing to the US because they’d be taxed at a lower rate.”
Mr Cruz’s value added tax, called a “business flat tax”, would be levied on sales minus capital expenditures and expenses (except labour costs). But Mr Burman said a company could reduce its tax bill to near zero if it kept reinvesting its profits.
Mr Cruz has not mentioned Estonia himself and showcasing other countries’ policies is not traditionally a way to win over US voters. Bernie Sanders, the left-winger seeking the Democratic nomination, raised eyebrows when he said the US should learn from healthcare systems in Denmark, Sweden and Norway.
The flat tax is being used by the senator to underscore his credentials as a principled right-winger just as his campaign attacks Mr Trump as a fair-weather conservative.
Estonia — where the single tax rate for corporate and individual income has fallen from 26 per cent to 20 per cent since the 1990s — has been seized on by American conservatives as proof that their idea is workable.
The Tax Foundation, a right-leaning think-tank, last year ranked Estonia number one in a tax competitiveness index of 34 OECD countries. “Estonia has a very credible flat tax system,” said Kyle Pomerleau, director of federal projects at the foundation.
Flat taxes, however, are anathema to Democrats. Mark Paustenbach, spokesman for the Democratic National Committee, said: “Ted Cruz’s proposal is similar to the tax plans of other Republican presidential hopefuls: the numbers simply do not add up and hard working middle-class families will be left behind.”
For individuals, a flat tax steamrollers the progressive principle that the rich should pay a higher tax rate than the less well-off.
In addition, doubts persist over whether a flat-tax plan with a rate low enough to satisfy taxpayers would generate enough money to prevent a big increase in the budget deficit.
The Tax Foundation estimates that Mr Cruz’s plan would cost $768bn over ten years, although that hefty price tag is exceeded by the tax proposals of Donald Trump, Marco Rubio and Jeb Bush.
Rick Tyler, Mr Cruz’s spokesman, said the foundation failed to account for the spending cuts the candidate would achieve by abolishing a long list of government agencies.
Steve Moore, another conservative economist who advised Mr Cruz, says the flat tax has populist appeal because it would eliminate the ability of Washington politicians and lobbyists to “buy and sell tax favours” in a convoluted tax code. “This is the ultimate America versus Washington issue,” he said.
Mr Laffer noted that Hong Kong also has a flat tax system and that Russia and other eastern European countries have followed Estonia’s lead.
“Of course [those examples are] useful, but they’re not definitive,” he says. “There’s a whole body of evidence out there and no one country, no one position, answers every question.”
Eerik Marmei, Estonia’s ambassador to Washington, describes his country’s approach as common sense and says it is “nice” to see it held up as a model in the US.
The flat personal tax rate was politically palatable after the end of Soviet occupation because income distribution at the time was flat too — most people were poor. The system helped to spur economic regeneration.
“I’m not here to judge if it’s going to work for the US, because we come from a different legacy,” said Mr Marmei.
Source: The Financial Times by Barney Jopson
Candidate for President of the United States Ted Cruz