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JULY 2006

Policy Brief

ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT

Taxation and Social Security in Agriculture


Why are tax concessions important? What is special treatment for agriculture? What is the evidence? What are the policy implications? What lessons for the future? For further information For further reading Where to contact us? Introduction
Tax concessions to farmers and landowners often represent an alternative to programmes incurring direct government outlay yet, because no budgetary spending takes place, the level of public scrutiny is often low. Such concessions often fall outside the remit of agricultural policy analysts and administrators and tend to be politically sensitive. Consequently, tax concessions have been little studied and are poorly documented. Yet they carry implications for production, land use, incomes, trade, the environment, rural society and other issues. The OECD has recently helped fill this knowledge gap by collecting information and data on agriculture in taxation and social security systems. This inventory shows that special treatments are widespread. Concessions relate to the taxation of farm incomes, of agricultural property (both annual taxes, taxes on capital gains, and on transfers of assets), and of inputs, including fuel. Because the special treatments were typically introduced in response to particular historical problems or matters of short-term expediency, the present picture is one that lacks consistency and coherence, and some concessions plainly conflict with the aims of other parts of public policy. This suggests a need to carefully record, monitor and evaluate the extent of the special treatment given to agriculture in tax and social security systems. As policy instruments such special treatments may have a continuing role, though their performances have to be evaluated in relation to policy problems and in comparison with alternative ways of achieving policy objectives that may be more transparent and capable of better targeting.

OECD 2006

Policy Brief
Why are tax concessions important?

TAXATION AND SOCIAL SECURITY IN AGRICULTURE

Ignoring tax concessions leads to an understatement of the real extent of government involvement in agriculture and can distort comparisons between countries. In principle, tax concessions have been included in the coverage of the OECDs Producer Support Estimates (PSE) although, in practice, they are not fully identified or evaluated. (The PSE is an indicator of the annual monetary value of gross transfer from consumers and taxpayers to support agricultural producers, measured at the farm-gate level, arising from policy measures that support agriculture, regardless of their nature, objectives or impacts on farm production or income.) Case studies of the US and Australia rare examples of countries where there are domestic legal requirements to make calculations regarding tax concessions to agriculture suggest that they account for 9% and 39% respectively of the overall PSE. Because of the way they affect production decisions, the OECD has identified tax and similar concessions as a potentially important but poorly documented form of environmentally harmful subsidy. In addition, the preferential treatment of agricultural land in capital taxes is recognized to be a major factor constraining the process by which farming adjusts to changing economic and technical conditions and to policy reform. For such reasons a clearer picture of the concessions offered to agriculture is needed.

What is special treatment for agriculture?

In reality it is quite difficult to be certain what constitutes support via special treatment in the tax and social security system. The two are taken together because contributions to social security schemes are often levied as if they were taxes. It is important to recognize that the concept of a concession that lowers the tax burden is only valid within the context of a normal taxation system. This benchmark of normality may be difficult to establish in countries where there are substantial variations between local tax regimes, such as in a federal system in which property taxation is set at the state or county level. And agriculture may share concessions with other groups (forestry, fishing, or other small businesses).

Box 1. MEASURING TAX CONCESSIONS

Conventional methods of quantifying tax concessions focus on the difference between the amount of tax currently paid by the taxed units (farmers and landowners) under the preferential rate and what they would pay were normal taxation rates employed (the tax expenditure). Though easily interpreted, the result of this calculation ignores any adjustments that the taxed units might make were normal tax rules actually applied. It does not, therefore, represent accurately the size of the actual loss of tax revenue incurred by the concession. Nor does it represent the value of the benefits brought to the farmers and landowners. Calculations might be made of the amount of direct payments needed to achieve the same effect on net income as an existing concession (the outlay equivalents). As with instruments that involve expenditure, a share of any tax concession is often passed on to other beneficiaries through the operation of markets. Any estimate of the outlay equivalent would be controversial in its technical detail and might incur administration and other transaction costs that could impact on the budget.

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Because of variations between national taxation systems, what is a concession in one country may not be a concession in another. For example, in a country with an annual wealth tax, giving an exemption to agricultural assets may represent a major form of income support. However, if no wealth tax is applied nationally, the absence of a tax on agricultural land and buildings will not be recorded as a concession. While the use or non-use of particular forms of taxation (for example, taxes on energy consumption) may be of some policy interest, this is a different issue from one of concessions to agriculture. Moreover, even when a special treatment is identified, there are still measurement problems (Box 1).

What is the evidence?

A key step in improving knowledge of the special treatment of agriculture was the development of an inventory of measures as applied in 24 OECD countries (Table 1). This inventory, based on commissioned reports as well as on information received from national sources, provides an overall view of the main categories of taxation and social contributions commonly identified. It can, however, only be considered comprehensive for a small number of countries and even amongst these, calculation of the size of the concessions is only partial and needs to be treated with caution.

Table 1. MATRIX OF PREFERENTIAL TREATMENTS


Income (personal) Country System Australia Austria Belgium Canada Czech Rep. Denmark Finland France Germany Hungary Ireland Italy Japan Korea Netherlands New Zealand Norway Poland Slovakia Spain Sweden Switzerland United Kingdom United States Rates, etc., Other Profits (comps)

Social security contributions Capital gains

Property Annual taxes on assets

Goods and services Inputs, VAT, etc.

Other

Inheritance

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Nonetheless, some general observations are possible. First, at the most general level, it is obvious that the special treatment of agriculture is widespread. In a substantial number of countries (including six of the EU member states for which information has been provided) the taxation of farmers personal incomes (their profits from agriculture and other incomes where appropriate) uses a special assessment system. Typically this is based on standards rather than on actual sets of accounts, though a special simplified version of accounting is also possible in some countries. Even where normal assessment systems apply to farmers, special facilities are often offered, most commonly in the form of averaging over a short run of years. This may not be exclusive to agriculture (usually the facility is restricted to a small range of occupations), although it is likely that the numbers making use of averaging will be dominated by farmers. Special treatment of farming companies is less frequently encountered, and sometimes facilities available to operators of sole-proprietorships and partnerships are not extended to company farms. In part this may reflect the small numerical importance of company farms in the structure of agriculture in almost all the countries for which information is available. Several countries have special arrangements for social security contributions in agriculture. However, deciding whether these constitute concessions is difficult because the social security system for farmers is sometimes run separately from that for the rest of the population. Special benefits available only to farmers within general systems are, on the other hand, clearly preferential. Capital gains are sometimes assessed within the income taxation system and sometimes by a special regime. Several examples of concessions on gains from agricultural property have been found. Special treatment of agricultural land and buildings for taxation on transfer (inheritance and gift taxes, or stamp duty on the transaction documents) is common, especially when these involve passing such property between generations. Sometimes the concessions are extended to other business assets. Examples are encountered where a preferential system formerly offered only to agriculture has been extended over time to cover other businesses. The relatively high wealth of farm households, and the fact that much of this is in the form of agricultural land and buildings, makes this de facto an important concession for agriculture. Almost universally agriculture receives concessions on annual property taxes. These are often the preserve of regional or local government, so national pictures may be complex with considerable variation within countries. Concessions may take the form of exemption for agricultural land and buildings (though perhaps not for the farm dwelling), special valuations at less than market price, or lower rates or special starting thresholds. Very common too are special treatments of taxes on inputs that, in effect, reduce the costs of agricultural production and benefit incomes. Mostly these are concessions on duties on fuel used for farming purposes (such as for tractors and occasionally for heating). It is suspected that concessions on vehicle licences are more common than was reported in OECD data sources.
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The situation of VAT and similar taxes applied to agriculture is complex. A few examples have been found in which agricultural businesses are given explicit concessions in meeting their payment obligations (such as longer times to pay VAT). Other ways in which preferential treatment might be occurring have been encountered, such as over-compensation by direct payments under the simplified system of VAT. However, in countries that apply a reduced (often zero) rate of VAT to farm output, though there is a tax revenue implication, this is not treated as a concession to agriculture in the present inventory because consumers, rather than farmers, are likely to be the main beneficiaries. Estimates of the size of tax expenditures are available for only seven of the 24 OECD countries covered by the report. For most there is no commitment to even occasional reporting. Calculation is most common with fuel duty concessions; six of the seven countries reporting any tax concession to the OECDs PSE database include this item. (Table 2) Property tax concessions are only estimated by one or two countries, and concessions on income tax by only five.

What are the policy implications?

Where systems to monitor the level of agricultural support fail to cover tax concessions, they understate the real amount provided by governments. Concessions tend to display longevity and durability, reflecting the difficulty of eroding the economic rents they generate and the political influence of the beneficiaries of enhanced incomes or raised asset values. Practicality also plays a part, such as the burden on farmers and tax collection systems that might be incurred were agriculture to be treated like other businesses. The influence of tax concessions on production and structural adjustment: Tax concessions vary in the ways in which they affect production. For example, lowered fuel taxes, all other things being equal, increase fuel usage and the output of agricultural goods and services, including non-market environmental goods and bads. In contrast, concessions in taxes levied on

Table 2. FUEL TAX CONCESSIONS


Australia Canada Diesel fuel rebates Fuel tax refunds and rebates (federal and provincial) Fuel subsidies (fuel consumption tax compensation) Fuel tax concession Fuel tax concession Fuel tax concession Fuel subsidy

Unit AUD mn CAD mn

2000 549 288

2001 551 287

2002 580 278

2003 580 298

2004 580 281

Czech Republic

CKR mn HUF mn NKR mn SKK mn USD mn

954 14 400 411 1494 2385

1287 17 100 351 1564 2385

1294 17 439 312 1200 2385

1272 20 085 311 1215 2385

1300 20 085 310 1200 2385

Hungary Norway Slovak Republic United States

Fuel tax concessions are recorded in the PSE data bases for France, Germany, Greece, Portugal and Luxembourg, but are not reported here. Source: OECD PSE/CSE database 2005, definition and sources: www.oecd.org/document/54/0,2340,en_2649_33775_35009718_1_1_1_1,00.html.

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incomes are less likely to impact on output in the short run, though income averaging could enable more risky production to be undertaken. In the longer term, however, if agricultural income is treated favourably or escapes assessment, this will bear on decisions of farmers and landowners to stay in the industry, and structural adjustment will be slowed. Lowered costs of social security contributions for farmers will have a similar affect in retaining labour. Turning to property, the common situation is that agricultural real estate is subject to zero or reduced annual taxes and that preferential treatment is given in taxes imposed on transfers, especially on intergenerational ones within the same family. The impact of these concessions, working through asset values and tax planning, will be to delay exits, raise impediments to new entrant farmers and generally hamper the adjustment process in the industrys structure that other policies are trying to promote. But for some classes of new entrant (such as those with high non-farm incomes and wealth) the tax concessions available in agriculture may be a major reason for buying a farm. Potential policy use of tax concessions: Using taxation systems in delivering policy programmes offers the possibility of getting more value from what is often an expensive part of the information infrastructure, both in terms of the public resources used in maintaining data records and of the amount of effort and expense incurred by the taxed unit (individual, household or firm). The issue is in which circumstances their use is particularly appropriate and where, conversely, it is not. As with any instrument, lack of transparency and poor targeting have to be avoided, and there are well-known problems associated with trying to achieve multiple objectives. Concessions carry the rather obvious distributional implication that direct benefit only goes to those units that would otherwise pay the tax. In a general context, the OECD recommends that tax expenditures should only be used for entitlements that are relatively stable and predictable, not for programmes with administrative discretion in providing subsidies or showing volatility. Among the major strands of agricultural policy, the most enduring and perhaps the most fundamental is the attempt to deal with the income problem. A key advantage of using the tax system to address income issues is that it encompasses all sources of farm household income. Variability of income over time is an inherent difficulty faced by agriculture. A case can be made for using the concession of income averaging when taxing agriculture to ease this problem. This approach to smoothing disposable income can avoid effects on production that result from alternatives such as guaranteeing the prices of individual commodities. In systems where tax is levied on the basis of accounted profit/income, the additional administrative burden on both the farmer and the taxation authorities is likely to be small. Of course, income averaging would not be effective in situations in which there was no tax liability and so would be inappropriate for targeting income variation among low income farmers, where the concern might be greatest.

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The tax system is also capable of being used both to detect and to target cases of poverty, the other main element of the agricultural income problem. Some countries find income statistics based wholly or primarily on tax records to be useful policy tools in shedding light on low incomes in society in general, not just among farmers. To carry much meaning, these require taxation of the agricultural sector to be based on book-keeping rather than on a flat rate tax. In the short term, establishing an accounts-based system may be unfeasible for many countries. And, in reality, low income cases in agriculture are often not part of the general tax system, either because of the special systems applied to farmers or because they fall below the tax net. A clearer role exists for special tax treatments in achieving aims for the environment, animal welfare, food safety and a number of similar issues where there is a desire to steer or modify farmers behaviour. For example, special depreciation allowances can be given for capital items that reduce pollution, or payments for undertaking land operations that enhance the environment can be declared to be tax-exempt income. These treatments are designed primarily to achieve specific responses in return, though there may be income implications. They are thus not concessions in the sense that an unrequited benefit is provided to farmers and landowners but, nonetheless, give rise to tax expenditures as commonly defined.

What lessons for the future?

Tax concessions in OECD agriculture are more widespread and important than the attention paid to them would suggest. The general picture is an array of special treatments, typically built up as individual responses to particular problems, but lacking coherence. Governments have mostly done a poor job of evaluating them. There are situations where tax concessions may have a role, if properly monitored and evaluated. However, their lack of transparency, restricted ability to be targeted and significant side effects means that it would be preferable to replace many of the concessions currently in place with alternative mechanisms that are more cost-effective and more relevant to modern policy concerns.

For further information

For more information about the OECDs work on taxation and social security in agriculture, please contact: Carmel Cahill; e-mail: carmel.cahill@oecd.org.

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The OECD Policy Briefs are available on the OECDs Internet site: www.oecd.org/publications/Policybriefs

ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT

For further reading

OECD (2005), Taxation and Social Security in Agriculture, ISBN 92-64-01364-4, 126 pages, 30. OECD (2003), Farm Household Income: Issues and Policy Responses, ISBN 92-64-09965-4, 84 pages, 25. OECD (1996), Tax Expenditures Recent Experiences, ISBN 92-64-14879-5, 118 pages, 38.

OECD publications can be purchased from our online bookshop: www.oecd.org/bookshop OECD publications and statistical databases are also available via our online library: www.SourceOECD.org Where to contact us?
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The OECD Policy Briefs are prepared by the Public Affairs Division, Public Affairs and Communications Directorate. They are published under the responsibility of the Secretary-General.
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