The ongoing concern regarding the increasing concentration of wealth frequently prompts calls for higher taxes on wealth. A common worry associated with such tax proposals is the potential for wealthy individuals to evade them by relocating internationally. A new IZA discussion paper by Arun Advani, David Burgherr, and Andy Summers analyzes the reform of capital taxation in the United Kingdom and provides quantitative insights into the actual magnitude of such responses.
Exploring a unique aspect of the UK tax system
The authors leverage a distinctive feature of the UK tax system dating back to the colonial era, which allows a special tax regime for individuals whose “permanent home” or “domicile” is not in the UK. Under this regime, such individuals can opt not to pay tax on returns to capital that come from wealth located outside the UK, such as dividends from foreign shareholdings and foreign bank interest. This exemption applies even if they reside and work in the UK for the entire year, a practice that many individuals seem to follow.
A reform triggering migration effects
In 2015, a reform was announced that terminated access to this special tax regime once individuals had spent 15 years in the UK, with the reform taking effect in 2017. This reform offers an excellent opportunity to examine the migration effects of capital taxes for several reasons: (1) it represented a substantial change, resulting in an 18% reduction in post-tax income; (2) it created variation in the tax rate for the same individuals over time; and (3) it did not immediately impact a group of otherwise very similar individuals who had spent slightly less time in the UK.
Understanding the impact on emigration
The study’s findings reveal relatively modest impacts on emigration. The baseline migration rate among long-term residents was approximately 4%, and the reform increased this rate by about 4.6 percentage points. While this constitutes a substantial relative change in migration rates, it translates to an implied elasticity of emigration in response to a 1% decrease in post-tax income of only 0.26. Notably, older individuals and those who paid relatively little tax before the reform, deriving most of their income from overseas capital returns, exhibited greater responsiveness. However, these groups represent a minority among the population benefiting from the reform.
Implications for capital taxation and labor market policy
These results bear significance not only for our comprehension of responses to capital taxation but also for the design of labor market policy. Many countries are increasingly introducing tax incentives for migrants. This study’s findings suggest that such tax competition is likely to incur high deadweight costs since a relatively weak migration response results in revenue costs outweighing the additional tax revenue generated by the policy.