I Love Tax Season!

Econ lends itself very naturally to personal finance. People with above-average economic literacy and some insight into the world of finance tend to take better care of their own personal finances. Or so I claim with absolutely no empirical data to support it. However, according to Charlie Söderberg – the famous Swedish personal finance-guy whose lecture I attended last summer – people spend more time brushing their teeth than pondering their financial decisions, let alone system-wide things like economics or taxation. Tax season is, consequently, most people's nightmare, whereas I kinda love it. This year I decided to report my result, which gives me a good entry to discuss some pros and cons with the Swedish system of taxation.

If you look around, most people seem to have this rather bizarre idea about Sweden; the economic bumblebee that somehow proves the third way, that democratic socialism is viable and Big Governments are benign rather than inefficient and harmful. Spend away, and there shall be prosperity. And on and on and on.

Most of us who pay attention know that this isn't true; Sweden scores higher on economic freedom than, say, the U.S. (except for size of government) regulations are less harmful and trade easier. In other words, normal rules apply and the Swedish economy is highly capitalistic and efficient, the only way one can pay for such high levels of government spending that makes other countries envy the Swedish welfare system. Below I use my tax returns to show a few other aspects.

Netting out tax returns, my effective income tax was 1.35% and my effective capital gains tax 4.34%. Low incomes seems to be a pretty good deal in Sweden.

Now, this is by no means a vindication of a left-wing conviction where tax rates are always too low. My low income and wealth means that I'm very much a special case that hardly is the case for other Swedish tax-payers. The biggest reason for why my income tax is so low is that most of it was made tax-free, through the very standard, very common low-income threshold most countries have. Unfortunately, what's interesting here is that the Sweden begins to tax low-income earners much earlier than other countries, and at significantly higher rates. Quick googling give you that the threshold before you start paying tax is around £11000 in Australia, £11500 in the U.K., £6500 in Germany, £7500 in the U.S. – but only £1700 in Sweden. That is, we start taxing low-income earners much earlier than other countries. Having low incomes here looks pretty good, but it'd be an even better deal in many of these countries.

As for capital gains taxes, the reforms made since 2012 tying the tax rate to the yield on government debt, combined with excessively-low interest rates (0.65% November 2015, which is the relevant cut-off point for 2016), have made ownership of financial assets and savings dirt-cheap – and, I must admit, dirt-easy. What formerly required countless of hours of self-reporting and calculating net asset values for every sale of assets, is now automatically done (though has added some extra work for banks or brokers). The Swedish tax authority has also incetivised people with very simple tax returns to complete them electronically and receive their tax returns months before the rest of us. Here I must agree with various commentators praising the Swedish tax system; it's simple, easy and straight-forward for the vast majority of income-earners.

But this isn't the end of the fairytale story. There is more to income taxation than simply income taxation, and this is an area in which Sweden has specialised: payroll taxes. Most people are unaware of these, since they do not show up on your income statement and are not reported on your tax returns. They are taxes levied on companies for hiring people, as crazy as that sounds, and often as a percentage of their salary – and they end up funding over a tenth of all Swedish government revenue. In other words, these taxes make employment more expensive than it otherwise would have been (acting as a minimum wage drag on everyone) or alternatively, artificially reducing your take-home wage. Again, similar taxes exist elsewhere (UK 14%, Australia 5-7%, US, 7-11%, Germany 20%; EU Average is 24%), but Sweden is among the worst levying a whopping 31.42% of gross salary as payroll tax.

Even though tax threshold and tax reductions cooperate to produce a ridiculously-low income tax for me, my employer still had to pay the full payroll tax. Moreover, whenever I want to spend this new income, our insane Europe-leading value-added tax of 25% (only Hungary is worse with 27%) ensures that my income doesn't go as far. In all honestly, food is taxed at 12% and books/newspapers at 6%, so some weighted average of my consumption patterns would probably be lower, say 15% not to exaggerate the case.

The effective income tax including what my employer pay in payroll tax would land on 24.9%. Still not horrible for low-income earners, but quite a leap from 1.35%. And if we deflate my post-tax income by the 15% VAT I must pay to acquire goods (common method in the literature), my effective income tax rises to 34.9%. And that's for somebody whose incomes are in the bottom fifth of the income distribution – once we start looking at people with below-average or fairly normal incomes, the effective tax rates go even higher, not to mention those hitting the upper thresholds where Sweden's world-record 75% marginal tax is found.

This little exposition clearly shows how the Swedish government funds its much-desired welfare: excessively tax work/employment/productive activities. And be surprised when unemployment rates are constantly a few percentage points higher than most other European countries (not counting crisis PIIGS countries). Maybe there's a clue here?

Data from regeringen.se, budget for 2017

In all fairness, Swedish taxation is excessively high but fairly straight-forward and easy to administer. The recent changes on capital gains taxation and the simplified reporting is much-welcomed, but the tax levels on consumption and employment – even very low-income employment! – is absolutely absurd. But hey, things could be (and have historically been) much worse...