A wealth tax is an idea best judged by the canons of taxation

For a steady view of the broad idea, one must turn to first principles. These were set out by Adam Smith in The Wealth of Nations (1776) as “canons of taxation." They still serve as a good test for tax ideas.

The first canon is that of ‘equity.’ The tax burden must be proportional to the taxpayer’s ability to pay.

As Smith put it: “The subjects of every state ought to contribute towards the support of the government, as nearly as possible, in proportion to their respective abilities; that is, in proportion to the revenue which they respectively enjoy under the protection of the state."

Second is the canon of ‘certainty.’ One’s liability must not be arbitrary.

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In Smith’s words: “The tax which each individual is bound to pay ought to be certain, and not arbitrary. The time of payment, the manner of payment, the quantity to be paid, ought all to be clear and plain to the contributor and to every other person."

Third is the canon of ‘convenience.’ Taxes should be easy to pay. As Smith said, “Every tax ought to be levied at the time, or in the manner, in which it is most likely to be convenient for the contributor to pay it."

Fourth is the canon of ‘economy.’ This is about efficiency. “Every tax ought to be so contrived as both to take out and to keep out of [people’s pockets] as little as possible over and above what it brings into the public treasury of the state." In other words, the exchequer’s cost of tax collection must be kept minimal.

As the concept evolved, later economists added to Smith’s list. Alfred Marshall, for example, proposed a canon of ‘elasticity.’ Taxes should be flexible enough to adapt to flux in the economy, serving as a policy tool if need be. Arthur Pigou and others came up with the canon of ‘neutrality.’

Taxes should not needlessly distort the economy—by altering incentives, for instance, unless that’s the goal. And then, there’s the canon of ‘simplicity,’ backed almost universally by economists on popular demand.

Taxes must always be easy to understand and comply with, so that there is very little scope for error and paying them is not a burden. This principle is often violated flagrantly across the globe, with Indian taxes notorious for their complexity, due partly to a palimpsest effect: our tax codes have been overwritten over and over.

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Meanwhile, a canon that has been edging its way onto the list is that of ‘feasibility.’ If a particular tax is not feasible in practice, even if it is ideal on other counts, such as equity, it’s best not to levy. This has been the rationale for not levying a wealth tax, an idea aimed at making taxation steeply progressive.

It fails not just the feasibility test, but a few others too. Since wealth is a stock (a pile-up), not a flow (like income), reliably updated market data on it is available only for very few kinds of assets.

Share ownership in listed firms is visible wealth, but taxing it to the exclusion of off-market holdings (unlisted shares, land, gold, etc), or even crypto stashes, would not only be unfair to those who get taxed, it would bend incentives away from a key allocator of capital in the Indian economy: the stock market.

And then, there’s also the risk of capital flight. Let’s face it: Taxing wealth is high on idealism but low on pragmatism.

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