Is the Taxation of Businesses in the Czech Republic Consistent with The

Home , Molin (surname)

Is the Taxation of Businesses in the Czech Republic Consistent with the

Principles of a Good Tax System?

Thesis

Elizaveta Fedorova

Submitted in Partial fulfillment

Of the Requirements for the degree of

Bachelor of Science

Business Administration

State University of New York

Empire State College

2019 Reader: Tanweer Ali

Statutory Declaration/ Čestné prohlášení

I, Elizaveta Fedorova, hereby declare that the paper entitled:

Is the Taxation of Businesses in the Czech Republic Consistent with the Principles of a Good

Tax System? was written by myself independently, using the sources and information listed on the list of references. I am aware that my work will be published in accordance with § 47b of Act No.

111/1998 Coll., On Higher Education Institutions, as amended, and in accordance with the valid publication guidelines for university graduate theses.

Prohlašuji, že jsem tuto práci vypracoval/a samostatně s použitím uvedené literatury a zdrojů informací. Jsem vědom/a, že moje práce bude zveřejněna v souladu s § 47b zákona č. 111/1998

Sb., o vysokých školách ve znění pozdějších předpisů, a v souladu s platnou Směrnicí o zveřejňování vysokoškolských závěrečných prací.

In Prague, 08.12.2019 Elizaveta Fedorova

Acknowledgement

I want to thank my mentor Tanweer Ali for his supervision, support, and assistance during the research. Moreover, I would like to express my deepest appreciation and gratitude to my parents, Evgeniy Fedorov and Tatiana Fedorova, for their support, love, and inspiration. Last,

I would like to thank the faculty team of the University for their help and guidance during my studies.

Abstract:

The primary purpose of this paper is to analyze the tax situation for businesses in the

Czech Republic and summarize if the country has an efficient corporate tax system. The paper concentrates on the Czech corporate tax background as well as current Corporate Income Tax

(CIT) regulations. The tax analysis is based on the 12 guiding principles, four of which Adam

Smith introduced in his book ‘The Wealth of Nations’ (1776) and which were developed later on by the Association of International Certified Professional Accountants (AICPA) and the

Chartered Institute of Management Accountants (CIMA). Those 12 principles are equity and fairness, certainty, the convenience of payment, effective tax administration, information security, simplicity, neutrality, economic growth and efficiency, transparency and visibility, minimum tax gap, accountability to taxpayers, and appropriate government revenues.

Moreover, this research paper includes a theoretical basis regarding what constitutes a ‘good’ tax system and how those principles developed over time. The findings show that the Czech

Republic has improved its tax system significantly over the last decades and currently has a relatively competitive market. However, there are still many limitations, which might disturb potential investors and business owners. Some of the examples are overcomplicated and time- consuming tax payment procedures and unreliable tax legislation because of frequent changes in tax regulations.

Keywords: Corporate Income Tax, taxation, AICPA, the Czech Republic, tax regulations

Table of Contents

I. Introduction ...... 1 II. Background ...... 6 III. Corporate income tax in Czech taxation system...... 9 Sources of Corporate Income Tax Law ...... 9 Tax base ...... 10 Taxable Period ...... 11 Corporate Tax Payment ...... 12 Corporate Tax Rates ...... 12 IV. Theoretical Basis ...... 13 V. Applying 12 Principles of Good Tax System on the Czech Republic ...... 17 Equity and fairness...... 18 Certainty ...... 20 Convenience of payment ...... 22 Effective tax administration ...... 24 Information security ...... 25 Simplicity ...... 27 Neutrality ...... 29 Economic growth and efficiency ...... 31 Transparency and visibility ...... 31 Minimum tax gap ...... 34 Accountability to taxpayers ...... 36 Appropriate government revenues...... 37 VI. Conclusion ...... 38

Table 1:Taxes on Corporate Income as a Percentage of Total Taxation ...... 1 Table 2: Structure of the income tax base for accounting units ...... 11 Table 3: Collection of shared taxes in 2015 and 2016 (Kc bn) ...... 36

I. Introduction

Czech Republic's business environment has improved its competitiveness and overall position during the last three decades. Immediately right after the fall of Communism in 1989, the Czech Republic had to make some critical changes in its economy to follow the competitive

European market (Jenerálova, 2011). The country had to transfer its economy from centrally- planned to a market-oriented economic system. The centrally-planned economy is an economy where the government owns a significant part of the business sector and controls market development. The market economy is an economic system in which businesses take predominant place in the overall economic growth. Moreover, the collapse of the USSR led to a decrease in demand from abroad for the local production factories, especially from Moravia and Bohemia areas (Jenerálova, 2011) The Czech Republic was forced to revise its major economic regulations as well as to improve the situation regarding international trade.

One of the significant reforms, which Czech authorities introduced after the Dissolution of Czechoslovakia on January 1, 1993, was regarding its Czech tax system, including Corporate

Income Tax, that will be discussed in this work. Such change led to a lower corporate tax rate as well as the Czech tax legislation easier to follow. As a result, the Czech tax system became more attractive for investors from abroad and motivated citizens to establish new businesses.

As the OECD (Organization for Economic Cooperation and Development) reported in the Economics Department Working Papers No. 245, basic rates of corporate income tax decreased dramatically since 1986 (Bronchi & Burns, 2000). During 1986, the Czech Republic had the highest CIT rate, which was 75%, while in 1998, the rate was 35% (Bronchi & Burns,

2000). According to the report, the Czech Republic has changed its corporate income tax rates significantly from 1986 to 1998. The current CIT rate is 19% (since 2010), which means that from 1998 to 2010 tax rate decreased by another 16%. So this way, the development of the tax

1 legislation system influenced the situation on the market dramatically, providing investors, individuals, and companies with more opportunities to open and develop new businesses in the

Czech market. As a result, the government was able to collect more taxes from the taxpayers, thus, increase the overall economic situation in the country. The intention to reduce Corporate

Income Tax rate was essential for stabilizing the business environment in the country because paying 75% (1986) of the profit as a corporate tax could negatively influence the investment/ financing decisions and as a result harm the whole economy of Czech Republic as well as the competitiveness of the country.

Hlavacek, Zambochova & Sivicek (2015), in their report, claim that one of the most significant improvements for the development of Czech businesses was the 1990 "small privatization law". The primary purpose of that law was to authorize auctioning of relatively small companies (100,000 service businesses), which were owned by the state, to the locals exceptionally (Hlavacek, Zambochova & Sivicek, 2015) The authors point out that by 1992 about 22,000 small businesses were transferred to the private business sector. It seems that the idea of the government to help it citizens and develop 1990 "small privatization law" positively influenced the overall intention of people to operate their own business. It should be mentioned that the overall value of businesses the Czech government provided for the auctioning was over one billion dollars, so it can be assumed that it was a hard decision for the Czech Republic

(Hlavacek, Zambochova & Sivicek, 2015). As a result, this choice gave a variety of opportunities for Czech people in the early 1990s and led to a change in the economic situation in the country.

Further, by December 31, 1993, the Ministry of Economy had registered 1,262,264 licenses to run small businesses or to act as entrepreneurial agents in a country of 10.3 million people (Hlavacek, Zambochova & Sivicek, 2015). Those numbers show that the proportion of registered businesses and the number of people in the Czech Republic by that time is relatively

2 high and that every 8th person was involved in business activities. That was the beginning of rapid economic changes in the country and the improvement of the conditions for the businesses in the Czech Republic. Moreover, looking back at that time, it can be easily seen how Czech people are ambitious and ready to act when they have any chance to do that.

Ease of Doing Business Ranking (EDBR), World Bank Group, published a report with ranks all countries according to their ten 'doing business' indicators (Hlavacek, Zambochova &

Sivicek, 2015). The report concentrated on how easy it is to open and operate a business in a country. The Czech Republic was in 44th place (out of 189), which is a good score worldwide

(Hlavacek, Zambochova & Sivicek, 2015). However, comparing the Czech Republic to Eastern

European countries, such as Slovakia and Poland, it can be noticed that it has lower indicators than the rest of this group of countries. The only exception might be considered to be Hungary that has been ranked in 54th place in the same report. Nevertheless, the following paper is aimed to prove that the Czech market has relatively high indexes of satisfying and benefiting conditions for doing business within the country.

Why is taxation so crucial for the governments? According to Encyclopedia Britannica, tax is the most valuable part of governments' budgets (Cox, McLure & Neumark, 2019). So, there is a need to remember that businesses and individuals pay their income tax, which is used by the government to maintain hospitals, schools, and provide many other services for the citizens. It should be considered that in the Czech Republic corporate income tax holds a significant part in sourcing tax revenue for the government. As OECD (2013) stated, rates for taxes on corporate income as a percentage of total taxation (Table 1) were 13.1%, 12.1%,

10.5%, 10%, and 9.7% from 2007 to 2011 representatively. Those indicators represent a significant part of the total taxation in the Czech Republic and emphasize the importance of collecting taxes from the businesses. Moreover, based on the table, the Czech Republic had the highest rates for corporate tax contribution to the total taxation in 2011 among its neighboring

3 countries (Austria, Germany, Hungary, and Slovak Republic) and even among some other countries in Europe, for instance, France and Denmark ("OECD", 2013). That supports the statement that Corporate Income Tax is essential for the country's economic growth and development (because of the impressive contribution to the state's coffers) and as the result needs to be adopted to the current economic situation in order to keep its competitiveness on the market and be able to collect enough taxes from the businesses.

Table 1:Taxes on Corporate Income as a Percentage of Total Taxation

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Austria 5 3,54 3,3 4,6 5,8 4,0 4.0 4,6 5,2 5,4 4,4

Czech ...... 12,2 9,9 13,1 12,1 10,5 10,0 9,7 Republic

Denmark 4,5 3,2 4,8 4,8 6,6 7,7 6,9 4,9 5,8 5,8

France 5,3 5,2 4,5 4,9 6,9 6,8 6,7 3,5 5.0 5,7

Germany 7,8 4,4 6,1 2,8 4,8 6,2 5,4 3,7 4,3 4,7

Hungary ...... 4,5 5,7 7.0 6,6 5,7 3,3 3,3

Slovak ...... 15,0 7,7 10,1 10,6 8,6 8,9 8,4 Republic

Source: Revenue Statistics OECD, 2013

However, there are two different assumptions about the existence of corporate tax and its benefits for society (Tomásková, 2012). From one perspective (as the paper mentioned previously), corporate taxation is one of the primary sources for budgeting government coffers.

On the other hand, corporate tax means that businesses have to pay extra money for being successful (Tomásková, 2012). Some people believe that it is not fair to charge companies based on their existence. However, at the same time, many companies (especially big

4 enterprises) cause much harm to the environment or for the society itself, while trying to maximize shareholders’ profits, so paying taxes to the government might be one of the possible solutions regarding Corporate Social Responsibility.

Furthermore, it is essential to discuss what is taxation itself and provide a definition for this term. Cox, McLure & Neumark (2019) stated their interpretation of taxation: “Taxation, imposition of compulsory levies on individuals or entities by governments. Taxes are levied in almost every country of the world, primarily to raise revenue for government expenditures, although they serve other purposes as well.” That explains that taxation is the mandatory payment that should be taken from individuals and businesses. One of the primary purposes of these payments is to increase money for government spending. This definition answers several important questions: who is taxable, where taxation is levied, and what is the main aim of taxation? Nevertheless, Tomaskova (2012) mentioned in her work that Czech law does not have any particular definition for the ‘taxation’. Taxes can be determined in the Czech Republic only in compliance with § 11 of The Bill of Rights, No. 23/1991 Coll. (5), which states: “Taxes and fees shall be levied only on the basis of law” (Tomaskova, 2012). This way, the implementation of the Czech law directly depends on the people who implement the law and their norms.

As for a business student, this topic is highly valuable for me because to operate a business in the Czech Republic in the future, I have to know the Czech tax situation as well as local legislation and regulations. Moreover, this knowledge would help me to understand if the

Czech Republic has an effective corporate tax system and if opening a business in the Czech

Republic is a smart idea.

This paper will discuss the Czech corporate tax background, current CIT regulations in the country as well as the analysis of the Czech tax system for businesses. The main criteria for the tax system evaluation is based on Association of International Certified Professional

Accountants (AICPA) and the Chartered Institute of Management Accountants (CIMA)’ 12 guiding principles: equity and fairness, certainty, convenience of payment, effective tax administration, information security, simplicity, neutrality, economic growth and efficiency, transparency and visibility, minimum tax gap, accountability to taxpayers, and appropriate government revenues. Moreover, the paper includes the theoretical part about the principles of a good tax system and their development over time.

II. Background

The current Czech tax system was established in 1993, together with many other critical for the Czech economy reforms. The most visible transformation in the country started with the Velvet revolution in 1989. The main improvements occurred after the change of the power of Czechoslovakia (during the elections in 1992). This chapter concentrates on the main changes in the corporate tax system of the Czech Republic, which happened after the Velvet

Revolution.

During the end of the 1980s and the beginning of the 1990s, the government of

Czechoslovakia made significant corrections in the taxation system as well as local tax regulations. As it was mentioned previously, the main idea of the economic system transformation in Czechoslovakia was to introduce a market economy. According to the

Institute for Fiscal Studies' article "Tax Reform and Economic Transition In The Czech

Republic", in order to transfer to market economy, the governments had to change three crucial aspects in the tax system: establish a system of profit taxation, diversify tax treatments based on sectors and types of ownership, and adjust personal tax according to the market economy

(Heady, Rajah & Smith, 1994). The changes made during 1993 are the result of the reforms in the transition economy from 1992.

In 1993 Czechoslovakia split into two independent countries: The Czech Republic and the Slovak Republic. However, Heady, Rajah, and Smith (1994) wrote: "The tax reform legislation was passed before this decision was taken, and both states have implemented tax reforms based on this legislation during 1993". The legislations, which were accepted by

Czechoslovakia right before its dissolution, remained so till the next significant changes during the 2000s.

The Czech Republic joined the European Union in May 2004. One of the required conditions was to adopt acceptable for the EU monetary and fiscal policies in the country. By that time, the Czech government has already introduced a market economy and implemented some essential reforms, so the country was prepared for the changes related to the EU accession. Once the Czech Republic has joined the EU, the economic situation in the country has improved: all limits for restriction of trade were removed, and the Czech Republic was able to access structural funds of the European Union to develop its poor regions (Jenerálova, 2011).

Based on that, entering the EU by the Czech Republic benefited the business by providing

Czechs with more opportunities for doing business. Consequently, increasing the market economy and living standards in the country.

According to the "Czech Republic: Taxes Cut in Regional FDI Competition", which was published by OxResearch Daily Brief Service (2016), during 2004-2006 Czech Republic struggled with receiving Foreign Direct Investments (FDI) because of the country's tax uncompetitiveness. First, Hungary usually had the lowest corporate tax rates in the region

(18%). Second, Slovakia has decreased its tax rates. The article states: "Neighboring Slovakia now seems significantly more ambitious in its economic policies. The Czech Republic's target rate for corporate income tax of 24% in 2006 is still 5% higher than the rate to be introduced in Slovakia in 2004 (19%)" (“OxResearch Daily Brief Service”, 2016). Moreover, based on the

7 article, Slovakia had 30% lower salary rates than the Czech Republic, which means that

Slovakia would be more economically attractive for foreign investors. Even though the Czech

Republic has reduced its corporate income tax from 31% to 28% (2004), 26% (2005), and 24%

(2006), Czech Republic was not the most attractive country in the region from a taxation perspective. These conditions forced the Czech Republic to continue the liberalization of corporate tax rates and the Czech tax system in general.

The next years the Czech Republic continued to decrease its tax rates and improve overall Corporate tax position. As the Organization for Economic Cooperation and

Development (OECD) reported, the CIT rate dropped from 24% in 2007 to 21% in 2008 and later to 20% in 2009. That 'trend' to reduce corporate tax started even earlier. In 2000, the CIT rate dropped already from 35% to 31% (Hrdlicka, Morgan, Prusvic, Tompson & Vartia, 2010).

This way, the government does business affordable for local firms and attractive to foreign investors because of the low CIT rate in the Czech Republic.

Currently, the Czech Republic, as a member state of the EU, has to follow some standard EU regulations regarding CIT and other kinds of taxes. As E+M Ekonomie a

Management published in an article "Mandatory CCCTB Implementation in the Eurozone And

Its Impact on Corporate Tax Revenues in the Czech Republic", because of profit shifting and uneven distribution of resources and investments, European Commission was forced to introduce in June 2015 the Action Plan for Fair and Efficient Corporate Taxation, where they changed the system of the corporate tax base (Nerudová & Solilová, 2018). As the authors explained: "i.e.from the common consolidated corporate tax base towards the common corporate tax base without the consolidation regime", which means that European Union wanted to shift from common tax regulations in the EU to a common tax base among all the

EU members (Nerudová & Solilová, 2018). Since 2015 EU authorities concentrated on the development of common EU tax regulations.

As Economic and Social Development: Book of Proceedings reported, 'harmful tax competition' might be a serious issue for the EU (Karpowicz & Majewska, 2018). In response to this problem, the European Commission proposed to harmonize the CIT rate among all countries in the EU. Karpowicz and Majewska explain: "CCCTB (Common Consolidated

Corporate Tax Base) seems at present to be the final product of decades spent on discussions on CIT harmonization, which started in 1962 with Neumark Report" (Karpowicz & Majewska,

2018). Hence, European Commission believes that the company's income should be counted across the Member States so it could be possible to compensate for the losses of a firm in one state country by profits of another firm in another state country. Those changes might force the

Czech Republic to follow CCCTB and standard EU regulations regarding the corporate tax system.

III. Corporate income tax in Czech taxation system

Sources of Corporate Income Tax Law

An efficient tax system should have clear regulations for the taxpayers and provide them a source where they could find all the information related to the tax payment procedure.

The primary source of tax regulations in the Czech Republic is the Income Tax Act (No.

586/1992), which was introduced on the 20th of November 1992 (Parma, 2018). Nowadays, the Act is still in force, but over time, some amendments were published. It should be mentioned that the Act didn't lose its importance with time, and the Act is still as valuable as it used to be in 1992.

According to an article related to the 16th Annual Conference of Finance and

Accounting, it is well-recognized that one of the imposed taxes on businesses in the Czech

Republic is the corporate income tax base, which is established in a single act (Act No.

586/1992 Coll.) together with natural person income tax (Molin & Jiraskova, 2015). The article

"Is the Accrual Principle Fully Applied in Corporate Income Taxation in the Czech Republic?" claims that provision of the Art. 18 (1) of the Income Tax Act states that the subject of the tax is "all and any income of activity and handling of property, unless stated otherwise" (Molin &

Jiraskova, 2015). That means the government regulates the amount of tax that the company should pay according to their financial activities and value of the property.

Tax base

The tax base is an amount of income (or assets), which can be taxed by the tax authorities to replenish the state coffers. Provision of Article 23(1) of the Income Tax Act specifies that the tax base is the difference between the income and expenditure (cost) in respect of its time connection in a given taxable period (Molin & Jiraskova, 2015). The exceptions are the income that is not subject to taxation as well as the income exempt from tax.

Based on Table 2: structure of the income tax base for accounting units, we can see how the tax base calculated in the Czech Republic. As table 2 shows, there are several additional factors which should be considered in order to calculate the tax base: exempt income, income, which is not included in the tax base (including separate tax bases), netting of reserves and adjustments, not recognized as taxable, accounting costs (which are not recognized as tax- deductible costs, and finally elimination of posted items that are only included in the tax base if they have been paid (Molin & Jiraskova, 2015). Taxpayers should be acknowledged about these factors to be able to calculate the correct tax base and understand how the tax is determined.

Table 2: Structure of the income tax base for accounting units

Profit / loss before tax

- Exempt income

- Income not included in the tax base (including separate tax bases)

- Netting of reserves and adjustments not recognized as taxable

+ Accounting Costs that are not recognized as tax deductible costs

+ / - Elimination of posted items that are only included in the tax base if they have been paid

= Tax base Source: Vancurova - Lachova, 2014

Taxable Period

EIU ViewsWire (2012) summarized some of the crucial regulations regarding the tax system in the Czech Republic. The authors claimed that the tax year for companies should be any fiscal year or any accounting period if it is more than the calendar year. Any fiscal year of a company or by other words, any period equals to 12 months and should start on the first day of any month except January (“EIU ViewsWire”, 2012). Besides, the tax return should be filled in no later than three months until the end of the tax year. The only exception of the law can be the case if authorities decide that the company has ponderable arguments to extend the period of payment. The deadline might be postponed maximum for three months (“EIU ViewsWire”,

2012).

Also, the article mentions that companies might make payments in advance (“EIU

ViewsWire”, 2012). However, if a company is late for the payment or has a mistake in the tax report, a business might be subjected to a penalty. Those specifications can be found in the

Income Tax Act and should be considered by companies to operate a legal business on the territory of the Czech Republic.

Corporate Tax Payment

Currently, Corporate Income Tax (CIT) is a tax paid by all companies, which operate businesses on the territory of the Czech Republic and appear to be residents of the country. As

EIU ViewsWire (2012) describes, being a resident means that a firm is managed and controlled in the Czech Republic. Residents have to pay taxes on the profit they earn in Czechia as well as from abroad. However, non-residents are required to pay only based on their earnings gained explicitly from the Czech Republic.

Michal Radvan (2010), the author of the Czech Tax Law, points out five types of corporations in the Czech Republic, such as general partnership, limited partnership, limited liability company, joint-stock corporation, and cooperative. Moreover, the author believes that silent partnerships should be mentioned as well. These are the types of businesses, which have to follow CIT regulations and pay taxes to the government.

Corporate Tax Rates

One of the most critical aspects which investors consider before opening a company in the country is its standard tax rate (CIT rate). As reported by an official website of the European

Union (2018), the standard tax rate for corporate income tax in the Czech Republic in 2018 is

19%. The authors also state that basic investment funds are 5% and 0% for pension funds

(check the Income and Corporation Taxes Act for exemptions). These indicators show a relatively low taxation rate for the business owners that means there is a business-friendly environment for opening and operating new firms on the market. The deadline for the tax payment is due to the first of April of the next year (following year after the reported).

Moreover, to operate a business in the Czech Republic, other possible taxes should be taken into consideration. For example, a company should also consider the potential costs for the additional taxes paid for workers: for social insurance - 8% and for health insurance - 4.5%

(“European Union”, 2018). It seems to be crucial for companies to consider all costs and taxations that should be paid if they want to build a successful business in the Czech Republic.

BMI Risk Reports Czech Republic Operational Risk Report - Q1 2019 (2019) states that a resident company has typically a part of business income taxed at standard rates and 0% for gains on the shares sale if there is a reason for dividends to be qualified for the exemption.

Dividends are 15% for the resident companies, but since 2013 if a tax is paid to the Czech tax nonresident (and the country, which receives the dividends does not have a double tax treaty agreement with the Czech Republic), the rate increases to 35% (“BMI Risk Reports”, 2019).

Nonresident companies have 0% on gains on the sale of shares in resident organizations if their parent companies authorize them (BMI Risk Reports, 2019).

IV. Theoretical Basis

The history of today's tax system has been developed for a long time. Going through a variety of changes and renovations, people develop the most suitable tax legislation for their countries. However, to understand how the system is complicated and how it was reformed seems to be crucial to understand the concept of the tax system in general.

First of all, in 1776, Adam Smith wrote his famous book 'The Wealth of Nations', where he mentioned that a 'good' taxation system should follow the four principles (Four Canons or

Four Maxims) of taxation: fairness, certainty, convenience, and efficiency. These are the first four factors, which this paper discusses. In order to be able to follow rapid changes in the economy and adapt to the current taxation system, later, Adam Smith's idea was developed by many other organizations and scientists. This research paper focuses on AICPA (American

Institute of Certified Public Accountants) and The Chartered Institute of Management

Accountants' 12 guiding principles of a good tax system. However, there are some other essential ideas of Smith's theory and its interpretations to be discussed.

The main idea of Adam Smith was that taxpayers should pay tax in proportion, which would be comfortable for them and at the most convenient time. (King, 1999). As Darwin King

(1999) mentions in his article "Innovative Tax Policy Projects Utilizing a Global Perspective",

Adam Smith believed that the amount of money taxpayers contribute to the state as well as the time when tax is collected should be clear and easy to understand by the taxpayers. Moreover,

Smith supported the idea that governments should minimize the amount of money they take from taxpayers. As King (1999) stated: "These four canons provide valuable principles for the development and operation of any tax system and are used by students during their evaluation of alternative tax structures". It was the auspicious beginning of the development of the important principles of the successful tax system, which, of course, has evolved numerous times in years.

Lately, in the middle of the 19th century, Wagner reworked Smith's principles and classified them based on four groups: fiscal, economic, technical, and equity (Gomulowicz &

Malecki, 2012). Fiscal represents uniform taxation basics, which must generate the stability for states' revenues as well as a more effective division of taxes between the countries. By economic, Wagner means the unitary tax system and that taxation is not going to influence the freedom of enterprises negatively. The technical group includes convenience and certainty, as

Adam Smith suggested. Finally, equity states for minimizing taxation complications and differences between the members (Gomulowicz & Malecki, 2012). As might be noticed, these aspects directly correspond to some of Smith's points about the effective tax system.

One more interpretation of the 'good' tax system is based on Verri's ideas. In the 18th century, Verri believed that any tax should be equal to half of what he or she buys as it should influence people based on their consumption (Gomulowicz & Malecki, 2012). Later, in 1830,

Parey simplified the concept claiming that the tax should be equal to what a person can save

(Alley & Bentley, 2005). Consequently, Paley agreed with Turgot in 1764 that tax should be counted based on disposable wealth, which means on money that could be saved and spent the next year (Alley & Bentley, 2005). After that, in 1861, Newmarch stated that people should not pay taxes for capital and savings. Besides, any assessor cannot be a taxpayer instead of a person. Later, The Carter Report in Canada (1966) added four more principles such as flexibility, neutrality, accountability, and transparency to principles that people had already known back in those days. These points seem to be highly valuable in regards to the tax system as it is considered to be highly useful to have taxes that are elastic, neutral, easy to count and follow.

Later, in the 20th century, the Meade Report highlighted ten main principles for the tax system (Meade, 1978). Those principles include effectiveness, efficiency, honesty, usefulness in the wealth redistribution, sequence, equitability, flexibility, simplicity, stability, and conformity to the international position of the country (Meade, 1978). It should be pointed out that the reformulation of tax principles made the list of tax principles broader and more complicated than it used to be.

According to Gomulowicz & Malecki (2012), in 2010, the Henry Review, which is considered to be an extension of the Asprey's Review, confirmed the significance of the strength and stability of the tax system. Besides, the Henry Review verified tax principles that

Meade (1978) and Asprey's (1975) Reviews stated previously. However, it added two more fundamental principles, such as consistency of the policy and sustainability (Whiteford, 2010).

That way, the principles for evaluating an effective tax system have been developed over time and provided the basement for further interpretations and discussions.

In 2011, Mirrlees Review supported the Meade Review, agreeing with the main existing principles (Gomulowicz & Malecki, 2012). More than that, Mirrlees strongly believes that tax

15 equilibrium can be achieved by designing the best system for maximization of social and economic objectives and minimization of negative effects on the reduction of the people's wealth (Gomulowicz & Malecki, 2012). These two principles seem to be directly opposite to each other. That's why it is highly hard to find the best suitable balance for both: the government as well as taxpayers.

In 2015, the Davis Tax Committee in South Africa (2015) claimed that taxation should directly depend on the situation on the market. So, tax can be increased to save the market from the failure. It is worth to be mentioned that in 2015, the David Tax Committee states that there is no common theoretical background, books or norms, or legislations that indicate how the tax system should work. This way, there is still no common legislation and criteria for counting taxes. It seems to be unreasonable to compare the financial norms of developing and developed countries, as every country might need unique standards and tax rates for regulating the economy within the country. That's why every state should follow its way of taxation unless no common solution is found.

The importance of the methodology for tax evaluation should also be mentioned. The theory about Four Canons is highly valuable for the development of the tax systems worldwide.

For example, the US was one of the first countries that adopted the 'ability to pay' principles to their tax system based on Smith's ideas (King, 1999). In general, tax authorities have been using and developing Smith's four principles over time and adapting them to the present days. The

Association of International Certified Professional Accountants (2017) claimed: "A framework based on appropriate tax policies is needed to effectively analyze proposals to change tax rules and tax systems. Such a framework, based on widely accepted principles, also provides an objective approach for evaluating and improving existing tax rules". The authors also state that once a small change happens within the country, it is necessary to understand how to assess the

16 situation and have a clear methodology for that because even a small change may lead to unpredictable consequences. By this, four canons of 'good' taxation system should be considered as one of the most important principles in tax history.

The taxation system has a long history that has been changing all the time. There were many different ways and points of view to look at the tax system. However, it should be pointed out that all of the mentioned authors highlight that the tax system is fragile; so, it should be carefully followed up to achieve the best way for everyone in the society.

V. Applying 12 Principles of Good Tax System on the Czech

Republic

There are 12 principles, which AICPA and The Chartered Institute of Management

Accountants (CIMA) introduced to evaluate tax proposals. These are equity and fairness, certainty, the convenience of payment, effective tax administration, information security, simplicity, neutrality, economic growth and efficiency, transparency and visibility, minimum tax gap, accountability to taxpayers, and appropriate government revenues. The following chapter will mainly consider these twelve principles as the basis for the estimation and evaluation of corporate taxation in the Czech Republic.

According to 'Tax Policy Concept Statement 1: Guiding principles of good tax policy:

A framework for evaluating tax proposals', these 12 principles would help to distinguish a

'good' taxation system (“AICPA”, 2017). Based on the article, equity and fairness explain that taxpayers, who have the same tax situation should be taxed equally. Certainty means that the tax regulations should clearly state how tax authorities calculate taxes as well as how and when a taxpayer should make the payment. The convenience of payment defines that the government should collect taxes at the most convenient time and manner for the taxpayer. Effective tax

17 administration clarifies that the government should minimize any costs regarding the tax collection processes for the benefits of the taxpayers as well as for the government itself.

Information Security is about tax authorities and tax administration protecting taxpayers' private information from any leak and disclosure of the data. Simplicity defines if the tax laws are simple enough as well as cost-efficient, so people would feel comfortable paying taxes.

Neutrality requires reducing the influence of the tax law on a taxpayer's decisions. Economic growth and efficiency describe that the tax system should not negatively influence the economy's capacity. Transparency and visibility mean that taxpayers should be informed about the tax they must pay, as well as about when and how that tax was imposed on them. The minimum tax gap is about minimizing noncompliance. In the article 'Tax Policy Concept

Statement 1', the authors write about accountability to taxpayers: "Accountability to taxpayers

- accessibility and visibility of information on tax laws and their development, modification and purpose are necessary for taxpayers." (“AICPA”, 2017). The last criteria is appropriate government revenues, which defines the necessity that the tax system has an acceptable level of predictability and security to allow the government and tax authorities to determine the best time for collecting taxes and the most appropriate amounts to be paid by the taxpayers

(“AICPA”, 2017).

Equity and fairness

According to the article "Taxing Decisions Matter: A Guide to Good Tax Policy", written by Minnesota Centre for Fiscal Excellence, 'equity and fairness' means that two individuals with equal capacity to pay taxes and who have the same situation in life should pay the same amount of money. Minnesota Center for Fiscal Excellence (known as the Minnesota

Taxpayers Association) also published: "However, ability to pay often differs significantly among taxpayers. In that case, a second principle of tax fairness arises called vertical equity.

In most policy discussions, evaluating vertical equity requires a look at progressivity and regressivity". As the authors explain, the progressive tax system represents the situation when the tax burden rises as the company's profits increase. Regressive tax systems serve as the explanation for the system when the rate of taxation decreases as the tax payer's income increases, which means that lower-income taxed at a higher rate (or that higher income is taxed at a lower rate). There is also a proportional tax system (flat tax), which means that the tax burden is the same for all levels of corporate profits. ("Minnesota Centre for Fiscal

Excellence"). In order to analyze the situation in the Czech Republic, it is crucial to examine whether the country has a progressive, regressive, or proportional tax system.

As the paper discussed previously, the Czech Republic has a flat CIT rate, which is

19%. That means that the revenue of the company does not influence the taxation rates to be paid. Based on that, the Czech Republic has a proportional tax system. That means that the same tax rate is levied on the low, middle, and high-income taxpayers. From one perspective, the flat tax is beneficial for the economy: the country's business environment and local tax regulations are attractive for large corporations to open businesses in the Czech Republic because they will have a stable and relatively low (for Europe) CIT rate. In general, the fact that all companies pay the same percentage as corporate tax shows that the Czech Republic treats every business equally.

On the other hand, it might be argued that the Czech tax system is not fair. Multinational enterprises (MNEs) enter the market and benefit from a 19% flat tax, while negatively influence the environment in the country. Some of the examples are too high competition for the local businesses (small businesses often cannot compete with multinational companies because of the difference in R&D, marketing, and sells investments of the companies), environmental pollution (for instance, from production or transportation of goods), and economic uncertainty.

Economic uncertainty means that a government cannot rely on multinational enterprises, and

19 that is why it cannot develop a stable economic environment in the country. For example, if there is any change in the legal system of the state, MNEs might prefer to change the location to another country with more attractive business laws. That may lead to a decrease in GDP and an increase in the unemployment rate of the country.

According to the previous paragraphs, it might be concluded that it is not fair to tax large corporations and small local businesses equally because MNEs might not necessary positively influence the country's development. Moreover, the government should protect local companies and prioritize the expansion of Czech businesses to create a stable economic environment for its citizens and provide an opportunity for local people to compete with large enterprises. Also, it might be claimed that large corporations have enormous profits from their business activities, so they have a higher potential to pay more taxes, while small businesses often struggle with covering their bills, but they still have to pay 19% of their small profit as a corporate tax. It seems that even if the Czech tax authorities levy the same tax on all businesses,

Czech Republic fails to organize a fair tax system, in which local businesses would have equal chances for being successful on the market.

Certainty

Based on 'The AICPA's 10 Guiding Principles', certainty is an vital aspect in evaluating a good tax system: if taxpayers have issues with paying taxes or do not understand how much they should pay (or where they should go to pay), there is no certainty, which means that the tax system is inefficient (Nellen, 2002). People would have difficulties to pay the taxes if the process would not be understandable and apparent for them. Nellen (2002) also claims:

"Certainty may be viewed as the level of confidence a person has that a tax is being calculated correctly. For example, if a taxpayer cannot determine whether (1) an expenditure should be capitalized or expensed or (2) a particular transaction will be subject to sales tax, certainty does

20 not exist". In the case of Corporate Income Tax, the government should provide a taxpayer with all the necessary information regarding the tax payment procedure, so the business owners might clearly understand how to pay the taxes. Another critical aspect to mention is that taxpayers should know what the corporate tax is levied on (what is taxable). If a business owner understands what is taxable as CIT, the possibility of making a mistake in the tax report would be reduced dramatically. As a result, the tax authorities would be able to collect more money and improve the overall situation in the country. To sum up, 'certainty' in the tax system might positively influence the decision of taxpayers to pay CIT because usually, people are willing to pay the tax on time if they understand why they pay it, and the process of paying taxes is clear and easily manageable for them.

As presented in the CTK English-Language News Service's (2013) survey, more than

70% of businesses consider high tax uncertainty is a critical issue in the Czech Republic, which is even higher than in the EMEA (EMEA region has about 60% of tax uncertainty). As was discussed in the previous paragraph, if tax uncertainty is high, taxpayers would not be able to understand the process of paying taxes and, as a result, would prefer to avoid taxes or postpone the payment to the last moment. So, high tax uncertainty might be one of the main reasons why the Czech Republic has its difficulties with tax collection and why its situation about the minimum tax gap is not so optimistic. It might be claimed that the Czech government expects that the taxes would be paid by business owners, but companies' representatives do not fully understand the process of paying taxes, so they do not pay CIT or pay it with the delay. That issue is even more critical for the small newly established businesses because often the owners do not have enough money to hire a skilled tax accountant as well as do not have enough experience by themselves to pay the taxes correctly and on time. That underlines the importance of the information distribution regarding the tax payment processes and estimates the significance of the tax certainty in the Czech tax system.

Moreover, the authors of the report conclude that companies would rather prefer to have higher CIT rates but a stable tax system with higher predictability rate ("CTK English-

Language News Service's", 2013). That clarifies the priorities of taxpayers in the Czech

Republic and indicates one more possible issue regarding the Czech tax system – profit shifting.

Profit shifting explains the situation when companies move their businesses and productions to markets, which have more attractive tax regulations (usually with lower CIT rates).

However, if some of the taxpayers believe that a stable tax system is more important than low corporate tax rates, business owners might prefer to shift their companies to neighboring countries, which have higher predictability and stability regarding their tax legislation.

As the report states, companies, participated in the survey (from the Czech Republic and EMEA region), estimated several main reasons, which cause tax uncertainty ("CTK

English-Language News Service's", 2013). These are constant changes in the tax regulations and local legislations, unexpected attitude changes from authorities regarding the tax system, and ambiguity ("CTK English-Language News Service", 2013). That supports the idea that taxpayers cannot rely on Czech tax regulations because of its unpredictability. As a result, the

Czech Republic cannot be unquestionably considered as a country with an efficient tax system because of the uncertainties the taxpayers have regarding CIT.

Convenience of payment

As this paper mentioned previously, 'convenience of payment' implies that tax authorities should collect money in a convenient for a taxpayer manner. That might include

Adam Smith's idea that taxes should be collected in the convenient for taxpayer time. That principle plays an essential role in the effective tax system because, similarly to 'certainty', taxpayers' intentions to pay the tax might decrease if the government does not try to simplify the payment processes and improve the overall conditions for taxpayers. According to the

AICPA's (2017) article, the more complicated the process of paying the taxes, the less likely that businesses will pay. If the process is simple and does not require much time, business owners will likely pay the tax on time because they will not associate paying taxes with a time- consuming, complicated, and entangled activity.

Some of the advantages, which the Czech tax system has are the possibility to submit the Corporate Income Tax report online and pay the taxes with the bank transfer. First, a taxpayer has to submit a tax return to a tax administrator (Radvan, 2010). M. Radvan clarifies:

"The tax administrator is the Financial Office determined by the location of the registered office of the taxpayer" (2010). Second, a business owner has to make a transfer to the tax authorities by using a special variable symbol to indicate the company. As a result, by allowing companies to submit their documents online and pay taxes with the online bank transfer, the government of the Czech Republic increases its chances to collect more revenue for taxpayers. Moreover, taxpayers do not have to lose their time on going to the tax office and submitting the Corporate

Income Tax return in paper form. Nevertheless, the long and complicated process of fulfilling the tax form and calculating the tax base does not seem to be attractive for the taxpayers.

Also, as Fitch Solutions (2019) claims in its Trade and Investment Risk Report, there are several factors, which might negatively affect the investments and business environment in general. These are comprehensive bureaucratic order, strong influence from EU and its demand dynamics, and time-consuming taxation system as regards to its administration part. According to the report, the tax administration system in the Czech Republic is quite complex, and as a result, time-demanding. If the administrative part seems to be too complicated for the taxpayers, businesses would prefer not to pay taxes ("Fitch Solutions", 2019).

To summarize, the Czech Republic does not have that convenient system of payments because taxpayers have to go through a complicated and time-consuming procedure to pay taxes, which does not motivate business owners to pay in general.

Effective tax administration

According to the Association of International Certified Professional Accountants

(2002), high administrative costs might reduce the efficiency of the tax system dramatically.

The authors explain that it might be reasonable to compare this principle with the 'simplicity', which will be discussed later in this chapter. The reason is that if the taxation system is complicated, there are more chances that administration costs will be higher for governments, and the compliance costs will increase for taxpayers while reporting and paying taxes.

Moreover, one of the primary purposes of the tax authorities is to create such a system, in which the maximum number of taxpayers pay the tax, and as a result, the government can collect as much money as possible to cover the enormous public expenditures. However, if the administrative and compliance costs are too high, the government loses a significant part of tax savings, which could be spent on public needs. Also, ineffective tax administration might negatively influence investors' and business owners' attractiveness for the market because the main goal of any business is to minimize costs and maximize profits. So, if a country has high compliance costs for the taxpayers, which might be considered as an additional expense, companies might start searching for another market with better tax administration to shift their businesses there.

As this research paper mentioned previously, the Czech Republic has a complicated tax system, which means that the Czech tax administration might be ineffective and have high managing expenses. As Fitch Solutions (2019) reports, tax payment procedures in the Czech

Republic raise the time the taxpayers spend to pay the tax as well as the cost of the transaction for the investors and administrative burden. Those aspects are considered as cons of the Czech tax system and might repeal many investors from abroad. In this case, the Czech Republic needs to simplify its tax system, so the compliance costs decrease, and the government might be able to maintain its competitiveness on the market.

Moreover, as reported on the official website of the European Union (2019), the compliance cost for taxpayers seems to increase during the last years. Unfortunately, that means Czech tax authorities do not try to improve the situation, or they use ineffective methods for that. As a result, the Czech Republic loses even more revenue, which could be reinvested in the future. Therefore, Czech tax authorities fail to retain the administrative and compliance costs to the minimum and provide an effective tax administration for the Czech and foreign investors.

Information security

In compliance with AICPA (2017) principles, information security means that governments should protect the personal information of taxpayers. The article clarifies: "This includes, but is not limited to, adequate "firewalls" for security of the tax agency's internal system, safeguards necessary to prevent degradation of the system via fraudulent claims resulting from identity theft, as well as sufficient controls to ensure that taxpayer information is only disclosed to the appropriate parties as permitted by law" ("AICPA", 2017). These are some of the examples of how governments with a good tax system should secure taxpayers' personal information so that the tax authorities can guarantee the safeness of the private information to business owners.

Information security might be one of the most valuable criteria for evaluating a successful tax system in the 21st century because if a government cannot protect personal data of taxpayers from different types of information leakage, business owners would not have enough trust to the tax authorities and would be afraid to provide any private data. As a result, taxpayers might prefer to avoid paying taxes to retain their personal information safe from disclosing.

The Czech Republic has a well-developed IT field. One of the central authorities in the country regarding its information security is the Czech National Security Authority ("BMI Risk

Reports", 2019). The main aim of the National Security Authority is to observe, supervise, and implement the country's strategy. The government is concerned about data protection importance and the significance of improving cybersecurity practices, so the country has developed a new National Cybersecurity Strategy ("BMI Risk Reports", 2019). With that strategy, the Czech Republic might ensure the safeness of the data in the country and reduce the possibility of cyber-attacks and discloser of private information. The government of the

Czech Republic continually improves cybersecurity practices to protect the data of Czech citizens ("BMI Risk Reports", 2019). That may be considered as one of the advantages of doing business in the Czech Republic and might positively influence the decisions of business owners to open and operate a company on the territory of the Czech Republic.

However, although the Czech Republic is considered to be a relatively protected environment for the taxpayers, Czech Republic Crime and Security Risk Report for Q4 2019 states that several cyber-attacks happened in the Czech Republic before ("Fitch Solutions",

2019). There were numerous cyber actions against media websites, such as the country's biggest search engine "Seznam", two most popular mobile operators, The Czech National

Bank, numerous commercial banks as well as Prague Stock Exchange ("Fitch Solutions",

2019). Although the computers relative to the cyberattacks were tracked on the territories of

Russia and China, no specific group took responsibility for any of those actions. So, if the

Czech National Bank and some other large corporations might be in danger regarding their data security and the government cannot determine who is responsible for the cyber-attacks, there is a chance that Czech tax authorities also might leak the personal information of taxpayers.

Therefore, information security in the Czech Republic might require more attention from the government to create a stable business environment for the investors.

These days the Czech government is actively fighting against cybersecurity attacks, while its defense measures seem to be effective as the number of attacks has reduced in past years ("Fitch Solutions", 2019). Moreover, nowadays, the Czech Republic has relatively low indexes of cyberattacks frequency on the worldwide scene. That shows the positive development of cybersecurity laws and the decisive influence of the measures that are taken against cybersecurity attacks. As the situation has improved, it might be claimed that Czech authorities care about Czech citizens, local business owners, and foreign investors and try to create a safe business environment in the country.

According to the previous paragraphs, the Czech Republic had its difficulties with monitoring and controlling cybersecurity in the country. Nevertheless, over the past few decades, the Czech Republic did not have any issue with the protection of taxpayers' personal information. As the authors of BMI Risk Reports (2019) concluded, the Czech Republic still has a safe environment in the country, and business owners might feel secure about their data.

It seems that the improvements the Czech government achieved after several cyber-attacks in the past positively influenced the overall cyber-security situation in the country and contributed to the creation of a protected and secure environment for taxpayers.

Simplicity

'Simplicity' in the tax system is another essential aspect for a country to concentrate on because without organized bureaucracy, clear instructions, and an understandable tax payment process, a state would face difficulties with collecting the taxes and regulating the situation from inside ("AICPA", 2017). One of the responsibilities of the tax authorities is to provide clear instructions for taxpayers in an understandable way, so there is not incomprehension from their side. However, there is a need to have an organized and straightforward tax system to

27 correctly explain to taxpayers how the taxation works in the country and what are the principal regulations and legislations.

Based on Richard E. Halperin's (1994) work, "The Czech Income Tax'" simplicity might be affected by the level of economic and social development of the country. Emerging markets might have more complicated systems in comparison with developed countries. The author explains: "Such economies tend to lack an adequate infrastructure, either at the taxpayer level or at the government level, to administer the tax law. Thus, a complex system that places complex compliance burdens on the citizenry is likely to engender both frustration and noncompliance." (Halperin, 1994). It seems to be logical that developed countries concentrate more on the improvement of their tax systems than developing countries because developed states have different economic priorities. Developing countries might have other important issues to focus on, such as lack of resources, high levels of corruption and unemployment, and low educational degrees on average. That is why developing countries do not concentrate that much on changing their tax systems but try to stabilize the economy in general in the first place.

However, the Czech Republic is considered to be a developed country with a relatively stable and attractive economic environment. Halperin (1994) claims that literature rates are high in the Central and Eastern Europe and specifically the Czech Republic. So, it might be concluded that the Czech Republic has an organized tax system at a global level. Moreover, the Czech government admits the importance of an effective tax system and tries to improve the current tax situation to make tax regulations more attractive and more comfortable to follow for the business owners. Making tax payment procedure simpler could benefit not only taxpayers but the government as well: less additional expenses (reducing labor hours or purchasing fewer invoices and forms), transparent tax payment processes, which would increase the possibility that taxpayers will pay taxes on time, higher productivity of the workers and other benefits.

However, as reported by BMI Risk Reports (2019), the Czech Republic might lose its competitiveness because of its inefficient tax system. From one perspective, the authors specify in the "Czech Republic Operational Risk Report - Q1 2019" that the Czech Republic has comparatively competitive tax rates and tax system as a whole: only several payments during the year, different tax incentives, and other benefits for the investors. Nonetheless, a complex tax system leads to "one of the longest time to pay taxes in the region" ("BMI Risk Reports",

2019). The Czech Republic outperform only Hungary and Ukraine in the region. The issue that taxpayers have to spend much time to submit their tax return form and pay the taxes indicates that there is still a significant improvement needed in the Czech tax system. Ministry of Finance of the Czech Republic has published the Corporate Income Tax Return form on its official website. The form consists of 5 parts and results in 8 pages in total. It seems that the process of fulfilling the tax return form is too long and complicated, and requires too many specifications from the business representatives.

Based on the previous paragraphs, the Czech Republic has a competitive business environment and a relatively organized taxation system among countries from all around the world. However, the Czech Republic has considerable limitations in the region and faces difficulties to simplify its tax system.

Neutrality

As reported by Richard E. Halperin (1994), the main idea of ‘neutrality’ is that the tax system should only be a method for collecting the percentage of the received profits from the companies, but not the opportunity for manipulating the companies and taxpayers in general.

The author explains that the concept of evenhandedness states that people with similar types of income should pay similar taxes. Indeed, these two concepts are supposed to be closely connected. For example, the person should not be fined based on the form of organization in

29 which he or she builds a business and holds a property. However, the Czech system does not always work this way: some of the companies might be considered as a subject to double taxation, which is imposed on distributed corporate income (Halperin, 1994). However, since

1994 the Czech Republic has improved its situation about double taxation significantly.

According to the official website of the European Union (2019), since 1990, the Czech

Republic has signed a double taxation treaty with more than 70 countries globally, which influenced the country’s attractiveness for investments and expansion of the economic situation in general. Nevertheless, there are still many countries, which do not have a double taxation treaty with the Czech Republic, so investors from those countries still might pay double taxes.

Another aspect, which is worth mentioning, is the government’s regulations regarding the possibility of tax exemption if a business chooses a particular area to do business. Fitch

Solutions (2019) reported that to expand underdeveloped regions in the Czech Republic, the government could provide investors with generous tax, so those areas might be able to receive more investments and become more prosperous. For instance, the Act of Incentives from July

2012 provides investors with ten years of tax exemption for R&D, manufacturing, high- technology, and strategic services areas (“Fitch Solutions”, 2019). One of the reasons why the government allows such exceptions might be that Czech authorities are looking for economic recovery and development of strategically important areas. That also supports the formed perception that the Czech Republic tries to regulate Corporate Income Tax with the primary purpose of improving the local economy. On the other hand, while trying to boost the economy,

Czech authorities cannot maintain its neutrality because such tax exemptions might discriminate business owners from other areas as well as manipulate taxpayers to invest more in the previously mentioned fields.

Economic growth and efficiency

'Economic growth and efficiency' factor represents that a taxation system in general, as well as the country's tax regulations, should promote the overall growth of the economy and help to create a competitive international business environment. Taxation might be considered as one of the most influential factors for economic growth because it determines the attractiveness of the market for the investors and local entrepreneurs.

In 1992 the Czech government decided to 'transfer' the economy of the country into a market economy. Since that time, the Czech Republic had to reduce its corporate tax rates to have more investments from abroad as well as do not lose local businesses, which were already registered on the territory of the country. Nowadays, Czech authorities keep CIT rates quite low for the European market to attract more investments. The intention to reduce Corporate

Income Tax has positively influenced the Czech economy and led to an increase in direct investments, business development in the Czech Republic, and other improvements. That means that Czech authorities try to stay competitive on the market, and promote economic growth.

Moreover, the Ministry of Finance of the Czech Republic states: "Economic recovery and improved tax collection is behind the growth in corporate tax revenues" ("CTK English-

Language News Service", 2017). So this way, the government believes that they will be able to recover the economy and boost it through corporations. That proves the importance of improving the tax situation in the Czech Republic and establishing an efficient corporate tax system to stimulate the expansion of the economy.

Transparency and visibility

'Transparency and visibility' represents another critical aspect because taxpayers cannot pay the tax if they do not know about its existence, or they are not sure how and when the tax

31 is imposed on them. Moreover, a taxpayer should also understand what the exact fee for the transactions is. Inefficient tax system with a low level of transparency and visibility might lead to the increase in the tax gap because taxpayers do not know which tax to pay and how, so the government receives less revenue than expected.

Proponents believe that the current income tax seems to be less transparent than the flat tax as there are credits to be counted and more deductions (Nellen, 2002). At the same time, the flat tax might be seen more difficult for taxpayers because of indirect taxes, such as earnings before distribution to shareholders and corporate tax paid, which might be confusing and hard to count. Therefore, the significant part of tax authorities' responsibilities is to provide access to information about the local tax system, tax regulations, and legislation, so taxpayers might clearly understand how the tax system works and how to pay the taxes to the government.

However, there are not many options for the business owners to know about the Czech tax payment procedures, deadlines, and possible fees. One of the most common ways is online search on the Internet. However, Jason Piper (2013), a member of the External Affairs team of the Association of Chartered Certified Accountants (ACCA), argues: "Taxpayers may legitimately request guidance relating to earlier years, and legislation that has now been superseded. How can this be clearly identified when hosted online?". As the result, taxpayers might follow wrong instructions and old regulations. So, the number of mistakes, which occur in the taxpayers' reports, might increase and result in even longer and more complicated payment procedures.

As reported by Stuff Working Papers, transparency of taxes in the Czech Republic has a relatively favorable situation but still has its limitations ("European Commission", 2016). The authors of the report conclude: "Some private initiative have nevertheless flourished such as fair trade & transparency labels (Fair Tax Mark in the UK, Taxparency in the Czech Republic) and a few companies in the EU volunteer to publish a CBCR23. However, the scale and scope

32 of these initiatives have thus far remained limited." ("European Commission", 2016).

Taxparency is a Czech project in compliance with two non-profit organizations (Transparency

International Czech Republic and Lexperanto association), which has the main aim to resolve the issue with corporate tax avoidance and promote transparency of the corporate tax payments in the world and specifically in the Czech Republic. The existence of such a project within the country indicates that Czech organizations try to improve tax transparency situation and create a better environment for doing business.

European Commission (2016) declared that 'Taxparency' might be an influential platform for businesses in the Czech Republic. The system benefits both the government and the business owners. First, Taxparency provides the government with the opportunity to monitor and calculate the global tax corporate rate. Second, based on how much the company pays to the EU, a company earns stars and gets the logo that shows the global effective corporate rate ("European Commission", 2016). 'Taxparency' was introduced in the Czech

Republic, which means that Czech organizations are aware of tax transparency. It is worth to be mentioned that this system allows a company to put a transparent label on its official website as well as its sale points for goods and services. That provides customers with a deeper understanding of company's way of doing business. People are more likely to buy products from trustworthy companies, which do not hide their indicators from the public.

To sum up, corporate income taxes should be transparent and visible for all businesses in the country. However, some of the companies might not know about the fees they should pay or the regulations they should follow. That issue might influence the reported income statements, and balance sheets of the companies, which means that firms might pay fewer taxes because the taxation system is not transparent enough. That is why ‘transparency and visibility’ is an essential factor in evaluating an effective tax system.

Minimum tax gap

'Minimum tax gap' might provide a more in-depth understanding if a tax system is effective within the country. As the United States General Accounting Office (1995) states, the gross tax gap is the difference between the amount of money the taxpayers are obligated to pay to the government and what they do not deliberately pay.

It seems that the government of the Czech Republic has some difficulties in corporate tax collections. One of the examples might be corporate tax avoidance. This issue involves many European countries as well as many other countries worldwide. Petr Jansky (2016) suggests in the article "Estimating the Costs of International Corporate Tax Avoidance: The

Case of the Czech Republic" that corporate tax avoidance is likely to reduce the coffers of the

Czech Republic. The main aim of that study was to examine the possible loses from corporate tax avoidance, which the Czech Republic has. The author concludes regarding his findings that a range for the Czech Republic is from 6 to 57 billion (CZK). The median for the annual corporate income tax revenue loss is about 10%, which is approximately 15 billion (Jansky,

2016). The author states that that scale might be comparable with the results of interviewing

35 local experts. Such a significant gap in the numbers shows that the Czech authorities cannot fully control tax payments from the businesses (Jansky, 2016).

Moreover, EIU ViewsWire (2012) states that tax-evasion techniques such as reporting only part of income and paying the workers to their home countries (especially for consulting and managing jobs) can be used to reduce the level of reported revenue in the Czech Republic.

As a result, companies pay significantly less money for the Corporate Income Tax. According to the authors of the article, these practices are becoming more mindful in the Czech Republic for the last several years as the mission of the government to approach Western Standards by monitoring, controlling, and enforcing higher standards ("EIU ViewsWire", 2012). The

34 government should concentrate on this issue more to minimize the tax gap and increase overall tax indexes.

There seem to be two main reasons why the tax gap exists, such as international errors and unintentional errors ("AICPA", 2017). Intentional errors exist when people make mistakes deliberately. According to AICPA (2017), such errors include "non-filing, underreporting of income, overstating of deductions, and omission of transactions." These aspects directly influence the balance sheet and income statement of a company, which results in a dramatic difference between government expectations regarding the business's profit (what a company should pay based on its real numbers) and the actual amount the companies pay. Unintentional errors occur because of the mistake that businesses make by chance ("AICPA", 2017). Some of the examples might be a lack of rules or wrong match calculations. In that case, a government might lose its profit from taxation just because there are no clear instructions for the taxpayers.

Ambiguity and distraction that can cause complex tax provision might lead to noncompliance

("AICPA", 2017).

The Czech Republic does not have that optimistic situation regarding the corporate tax gap, but the government focuses on that issue, and the situation is changing. According to CTK

English-Language News Service (2019), the tax gap in the Czech Republic has slightly improved its positions. CTK declared: "Tax revenues including social security payments increased annually by Kc61.2bn to Kc968.2bn… Corporate income tax generated Kc98.2bn, 9 percent more on the year." (2019). Such a significant rise in the CIT payments indicates the positive effect of the government's efforts to improve the situation with the tax gap. Moreover, based on Table 3: Collection of Corporate Income Taxes in 2015 and 2016, the collected revenue during those two years by the government has increased from 331,8 to 349,7 Kc bn, which is considered to be a high increase in revenue (about 5,4%). ("CTK English-Language

News Service", 2017). So, during the last few years, the situation with the tax gap became

35 better, which means that the government of the Czech Republic is in the right direction considering its regulations and methods of collecting Corporate Income Tax. However, there are still many changes which should be made to reduce the tax gap in the Czech Republic.

Table 3: Collection of Corporate Income Taxes in 2015 and 2016 (Kc bn)

corporate income tax collection as of Dec 30, 2016 349.7 collection as of Dec 31, 2015 331.8 Source: CTK English-Language News Service, 2017

Accountability to taxpayers

According to AICPA (2017), taxpayers should have access to information regarding any tax to understand how the local tax system works, its purpose, and sources of revenue. As the article mentions: "Taxpayers should have opportunities through government reports and hearings to gain an understanding of the jurisdiction's tax and budget situation" ("AICPA",

2017). If the government does not disclose its information about the current economic situation as well as about the country's spending and tax income, taxpayers might not fully understand why the government collects money and on what the government spends it. As a result, the aspiration of business owners and investors to pay taxes might decrease even more, which can lead to the devastation of the state coffers.

As it was mentioned previously in the text, the Czech Republic has a single act (Act

No. 586/1992 Coll.) together with a natural person income tax, where a taxpayer might find all the current regulations and specifications. Having all the regulations in one single act seems to be the most effective way to inform the business owners about the local laws. However, there might be an issue with finding the latest amendment. Taxpayers might not know how many amendments the government published and where to find the most recent changes.

Moreover, during the analysis of the Czech tax system, this paper has mentioned some reports, which were published recently by several international organizations (European Union,

European Commission, and other). That means that the information about Czech Corporate

Income Tax regulations is available and accessible on the Internet. Based on that, it might be concluded that the Czech Republic has a relatively high level of accountability to taxpayers, which is essential to create a stable, and efficient tax environment.

Appropriate government revenues

As A. Nellen described (2002), the government's ability to follow its tax revenue expectations might be staggered because of the government's tax lost. The article states: "Under this tenet, a tax system should enable the government to determine how much tax revenue will likely be collected and when. A tax system should have some level of predictability and reliability" (Nellen, 2002).

According to the "Tax Revenue Prediction under Condition of Imperfect Control over

Tax-Collecting Authority", the tax authorities face many challenges during the forecasting process (Klazar, 2006). S. Klazar (2006) claims that forecasting specialist meets the variety of problems and difficulties in a work process. Since he or she knows the only incomplete set of information and its influence on social and economic indexes, it seems to be impossible to predict the overall situation precisely (Klazar, 2006). That is why contemporary researchers focus on statistical values and how they can be accurate or not in specific cases. At the same time, economists suppose that inaccuracy in findings and predictions is better for the efficiency of public finance than wrong beliefs (Klazar, 2006).

S. Klazar (2006) strongly believes that: "systematically and intentionally biased revenue forecasts can be the result of the government's (Principal's) attempt to increase the effort of tax-collecting authority (Agent) to collect more revenue". However, it seems to be

37 reasonable for the government not to motivate their authorities to collect more money, but to create more taxpayers-friendly system. So, people would be willing to pay their taxes and would know how, where, and when they can do it.

VI. Conclusion

The main aim of this paper was to analyze the current tax situation for businesses in the

Czech Republic and conclude if the Czech Republic is considered to be a country with a good corporate tax system. It is essential to understand the attitude of Czech tax authorities regarding the Corporate Tax system in the Czech Republic, so the paper summarized the background of

CIT development in the country as well as examined the leading corporate tax indicators.

Moreover, this works discussed the theoretical part regarding the historical overview of evaluating the principles of an effective tax system. Finally, the paper applied twelve guiding principles of a good tax policy, which was developed in compliance with Adam Smith’s four

Canons of Taxation and introduced by Association of International Certified Professional

Accountants (AICPA) and the Chartered Institute of Management Accountants (CIMA), on the current Czech tax system.

Twelve guiding principles formed the basis of this work. The paper analyzed Corporate

Income Tax system in the Czech Republic according to those 12 principles: equity and fairness, certainty, the convenience of payment, effective tax administration, information security, simplicity, neutrality, economic growth and efficiency, transparency and visibility, minimum tax gap, accountability to taxpayers, and appropriate government revenues.

During the evaluation of the tax system, it was clear that corporate tax in the Czech

Republic has its advantages and disadvantages. First, it is worth mentioning that the country has developed its economic situation significantly during the last 30 years. The Czech Republic had reduced its CIT rate from 75% in 1896 to 19% in 2010. In general, investors and business

38 owners consider this market attractive and relatively competitive. According to the information discovered during the research, some of the advantages of the Czech Corporate Income Tax system are a fair attitude toward taxpayers and constant improvement of the economic situation of the country. Moreover, Czech authorities are aware of the situation in the country, so the government concentrates on improving the tax system and local legislations. Also, a high level of information security might be considered as one of the most valuable advantages of the

Czech tax system.

However, there are still many issues with the CIT administration in the Czech Republic.

For instance, the corporate tax system is overcomplicated and has one of the most time- consuming tax payment procedures in the region. Another example might be that the Czech

Republic has low convenience of payment and a high corporate tax gap. These negative characteristics might distress the investors and business owners and force them to look for another perspective market around (for example, the Slovak Republic) to operate a business there.

To conclude, over the last few years, the Czech Republic has strengthened its position on the market. Nevertheless, it was not enough for the country to be considered as a country with a perfect tax system.

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