Tax progressivity and taxing the rich in developing countries: lessons from Latin America

Abstract

Abstract This article discusses the challenges and potential policy choices for levying progressive taxes and taxing the rich in Latin America, a region known for its high-income inequality, limited tax-collection capacity, and low share of taxes collected from personal income and wealth. Factors such as high exemption thresholds, low top marginal tax rates, and limited administrative capacity undermine the redistributive ability and revenue collection of the tax systems in the region. Moreover, the income composition for the top percentiles largely comes from capital, and the effective tax rates they face are often low due to the preferential treatment of capital income and wealth. After discussing the evidence of how the rich in Latin America respond to progressive taxes on income and wealth and changes in enforcement policy, we provide some insights on potential policy choices to tax them effectively. These may include broadening the income tax base by lowering the number of exempt and non-taxable income items and the statutory exemption thresholds, reevaluating preferential tax rates on capital income, monitoring foreign income, addressing the abuse of tax treatment by business earners, and enhancing tax administration capacity. Additionally, wealth taxes may complement the tax system with updates to property registers and scrutiny of foreign assets.