Chapter 1. Overview
This chapter presents the main results of the analysis of the taxation of labour income for twenty economies in Latin America and the Caribbean in 2013. Most emphasis is given to the tax wedge – a measure of the difference between labour costs to the employer and the corresponding net take-home pay of the employee – which is calculated by expressing the sum of personal income tax, employee plus employer contributions together with any payroll tax minus benefits as a percentage of labour costs. The calculations also focus on the net personal average tax rate. This is the term used when the percentage income tax and employee social security contributions net of cash benefits are expressed as a percentage of gross wage earnings. In this Report, the methodology used to estimate the tax wedges is based on the compulsory payments methodology;
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The deductions from labour income (referred to in this Report as taxes) are defined as personal income tax, employee and employer social security contributions (paid either to general government or privately managed funds) and payroll taxes less cash transfers.
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Labour costs are defined as the sum of gross wage earnings, employers social security contributions (paid either to general government or privately managed funds) and payroll taxes.
A more detailed description of the methodology is set out in the Annex. The key results focus on the single worker with no children on average earnings and include a comparison with the single married couple earner with two children. The analysis includes a review of how tax wedges vary across the income distribution.
1. Introduction
This Report provides unique information for each of twenty Latin American and Caribbean (LAC) countries on the income taxes paid by workers, their social security contributions, the family benefits they receive in the form of cash transfers as well as the social security contributions and payroll taxes paid by their employers.
The Report focuses on full-time employees in the formal sector assuming that their only source of income is derived from wage earnings. Additional assumptions are made regarding the personal circumstances of individuals to estimate their tax/benefit position. The results focus solely on taxes applied to wage earnings. Other forms of taxation due on non-wage income as well as taxes on consumption or net wealth are not taken into account. The cash benefits included are paid by general government as cash transfers, usually in respect of children in the household.
The Report presents several measures of taxation on labour. Most emphasis is given to the tax wedge – a measure of the difference between the total labour cost to the employer and the corresponding take-home-pay of the employee. The tax wedge is calculated by expressing the sum of personal income taxes, all compulsory social security contributions paid by employee and employers – both to the public and private sector – and payroll taxes, minus cash benefits as a percentage of the total labour cost. Employer social security contributions and – in some cases – payroll taxes are added to the wage earnings1 to determine the amount of the total labour cost. The average tax wedge identifies the percentage of the labour cost which encompasses all compulsory taxes and social security contributions, net of cash benefits. Similarly, the marginal tax wedge measure identifies the share of these levies on an additional unit of labour cost.
The Report models the resulting tax wedge on different percentages of the average wage earnings, income distributions ordered by decile and annual fixed sums expressed in USD of full-time employed adults. The estimated earnings figures, which cover all industries within the productive sectors of Latin American and Caribbean economies, are derived from responses to representative national household income surveys. It should be recognised that the associated measures of total labour cost may, in some cases, be less that the actual labour costs incurred by employers as they can also willingly provide other monetary incentives and in-kind benefits to their employees.
The analysis also focuses on net personal average tax rates. This is the term used when the personal income tax and employee social security contributions net of cash benefits is expressed as a percentage of the annual gross wage earnings. The net personal marginal tax rate shows the share of an additional unit of income that is paid on taxes and employee social security contributions net of cash benefits.
The tax data and tax calculations relate to the calendar year of 2013. In Chile, the model is based on the Budget Law 2014 (voted in December 2013 and applied on income earned in 2013).
2. Review of results for 2013
2.1. Tax wedge
Table 1.1 describes the composition of the tax wedge between the total labour costs to the employer and the corresponding net take-home pay for a single individual without children earning the average wage. It also shows the estimated labour costs in both USD and dollars with equivalent purchasing power.
Argentina has the highest tax wedge at 34.6% of labour costs. Brazil, Uruguay and Colombia also have figures of 30% or more. Honduras had the lowest tax wedge at 10% with Guatemala and Trinidad and Tobago also having figures below 15%. The average tax wedge in the LAC countries was 21.7%. Mexico was the only country where workers pay personal income tax at the average wage level.
Compulsory social security contributions paid by the employee as a percentage of labour costs were highest in Chile at 18.2% followed by Uruguay (15.3%) and Argentina (13.4%). The lowest percentages were in Mexico (2.0%) and Honduras (3.4%).
Notes: Single individual without children at the income level of the average worker.
Payroll taxes are included with employer SSCs where applicable.
The percentage of labour costs paid in employer social security contributions also varies widely across the countries in the Report. The highest levels were in Brazil (25.5%) and Colombia (24.7%). The lowest levels were in Chile (4.4%), Honduras (6.6%), Trinidad and Tobago (6.8%) and Peru (7.4%).
2.1.1. Personal average tax rates
The personal average rate is defined as income tax plus mandatory social security contributions paid by workers to both general government and privately managed funds as a share of gross wage earnings. Table 1.2 and Figure 1.2 show the personal average tax rates in 2013 for a single individual without children at the average earnings level decomposed into income tax and employee social security contributions. Table 1.2 also shows the gross annual average wages expressed in both in USD and in dollars with equivalent purchasing power.
Notes: Countries ranked by decreasing tax burden.
Single worker without children at income level of the average wage.
Chile (19.1% of gross wage earnings) had the highest personal average tax rate in the region followed by Uruguay (18.0%) and Argentina (17.0%). The lowest rates were in Honduras (3.6%), Guatemala (4.0%) and Trinidad and Tobago (4.5%). The average amongst the LAC countries was 9.3%.
Table 1.2 and Figure 1.2 show that, with the exception of Mexico, workers in Latin America and the Caribbean countries do not pay any personal income tax at the average wage level. This is a very different situation to the OECD average in which the share of the income tax is higher than that of the employee social security contributions. This illustrates the weakness of the personal income tax as an instrument for collecting revenue from wages in Latin America and the Caribbean.2 High levels of exempt income, prevalent informality and high levels of tax expenditures arising from personal deductions and basic reliefs are important contributory factors. It should be noted that this analysis only takes account of standard deductions and reliefs. There can be other non-standard deductions dependent on specific behaviours by taxpayers that serve to further reduce the average personal income tax rate.
Conversely, in all the Latin American and Caribbean countries, the share of employee payments to social security systems is highly important. These payments are contributions made to old age, disability, sickness, maternity, work injury, and unemployment schemes that are mandated by legislation.3 Each country in the analysis requires their workforce to contribute to some kind of social security program. In Table 1.2 and Figure 1.2, the payments have been aggregated to calculate a single rate covering all the social security contributions paid by the employee. In some cases, countries have established lower thresholds and upper ceilings to the payments. In the region, the lower thresholds are generally set at the national minimum wage. In practice, given that an individual working in the formal sector should not earn less than the minimum wage, no worker is exempt from contributing to these schemes. If individuals were to earn less than the minimum wage, then they would be exempt.
2.1.2. Family tax rates
Table 1.3 and Figure 1.3 compare the tax wedges of a single worker with no children and a one-earner married couple with two children, both at the average wage level. The tax wedges of the married couple are either the same or lower than the corresponding figure for the single worker. Any differences between the two figures represent savings for the family compared with the single worker.
Notes: Countries are ranked by decreasing tax wedge of the single worker.
Family types: Single individual without children at the average wage level and a one-earner married couple with two children at the average wage level.
In the LAC region, these savings are small. The average tax wedge for the one-earner married couple with two children is only 0.3 percentage points lower than that for the single worker. In contrast, the corresponding comparison for OECD countries shows that the average saving for the family reduces the tax wedge by 9.5 percentage points of the total labour costs.
Table 1.3 and Figure 1.3 show that only 4 countries in the LAC region; Argentina, Colombia, Costa Rica and Uruguay have differences in the tax wedge due to family benefits at the average earnings level. In Argentina, Colombia and Uruguay, the differences are attributed to cash transfers and in Costa Rica they arise from full payment of the non-wastable tax credit for the head of the family and child tax credits. The size of these differences range from 1.6 percentage points of labour costs in Argentina to 0.6 percentage points in Uruguay.
This contrast between Latin American and Caribbean countries and their OECD counterparts in this respect is because the former do not offer generous fiscal benefits or cash transfers for households with children whereas these are commonplace in the OECD. In fact, only 5 of the 20 countries: Argentina, Brazil, Chile, Colombia and Uruguay offer family allowance schemes and only those in Brazil and Chile impact on earners below the average wage. In the same way, several Latin American and Caribbean countries offer special tax deductions in respect of the spouse and children, which do not have any impact at the average wage level.
2.1.3. Tax wedges by income deciles
Tables 1.4 and 1.5 describe how average tax wedges vary across the income distribution for a single worker and a one-earner married couple with two children. On average, the trends are progressive. Table 1.4 shows that while single workers without children in the first decile of earnings have a tax wedge of 10.8% of total labour costs, this percentage increases as incomes rise to reach 25.9% of total labour costs in the tenth decile. In Table 1.5, the corresponding figures for the one-earner married couple with two children have a tax wedge of 7.1% of total labour costs in the first decile of income and 25.7% in the tenth decile.
Figures 1.4 and 1.5 present the decompositions of the total tax wedges over the income distributions for each of the two family types. These graphs show that couples with children have relatively lower tax wedges at the lowest levels of income. The gap between the average tax wedges for the average single worker and the one-earner married couple with children is 3.7 percentage points at the first income decile. This gap diminishes as income increases until it is only around 0.2 to 0.4 percentage points at income deciles 7 to 10. It is also noticeable that social security contributions paid by both employees and employers start to diminish as a percentage of total labour costs at income deciles 9 and 10.
2.1.4. Tax wedges for earned income in USD.
Tables 1.6 and 1.7 compare tax wedges in the region for earnings in USD equivalents showing results for workers earning an annual gross wage of USD 10 000, USD 48 000 and USD 60 000.
Table 1.6 shows that at the level of annual income of USD 10 000, the average tax wedge for the single worker without children in the 20 Latin American and Caribbean countries was 22.8% of the total labour costs. The average tax wedge rose with increasing income to 29.0% of labour costs for an income of USD 48 000 and to 30.1% for workers whose wages are USD 60 000.
The results show that Honduras had the lowest tax wedge at 7.1% and 15.9% of total labour costs at the annual income level of USD 10 000 and USD 48 000 respectively, while Guatemala had the lowest rate (16.5%) at an income of USD 60 000. Conversely, Argentina had the highest tax wedges (34.6%, 43.7% and 46.2% of total labour costs) at all three income levels.
Table 1.7 shows the corresponding results for the one-earner married couple with two children. Compared with the single worker, the average tax wedges were reduced by 1.1 percentage points at an income of USD 10 000 and 0.2 percentage points at USD 48 000 and USD 60 000.
Brazil had the highest tax wedge of 32.2% of total labour costs at an income of USD 10 000. At the income levels of USD 48 000 and USD 60 000, Argentina had the highest tax wedges at 39.6% and 42.8% respectively. The lowest tax wedges at the three income levels were at identical levels in the same countries as for the single worker without children.
2.1.5. Wages
Table 1.8 presents a comparison of the average wages in 2013 in local currency, their equivalent value in USD (at 2013 average annual exchange rates), their equivalent in dollars with equal purchasing power and the number of minimum wage levels contained in the average wage. The figures represent the average incomes reported by workers within the formal economy in each country’s income survey. The exceptions were Argentina, Brazil, Chile, Colombia and Mexico where estimates of the average wage are available from the Ministry of Labour. For Bolivia, the results from the 2011 national survey were adjusted to 2013 using the national real wage index.4 The average income distribution by deciles was calculated by first ordering from lowest to highest the reported income for each worker in the formal economy, dividing them into ten equal groups and calculating an average wage for each group.
References
OECD/ECLAC/CIAT/IDB (2016), Revenue Statistics in Latin America and the Caribbean 2016, OECD Publishing, Paris. https://doi.org/10.1787/rev_lat_car-2016-en-fr
OECD (2015), Taxing Wages 2015, OECD Publishing, Paris. https://doi.org/10.1787/tax_wages-2015-en
OECD (2014), Taxing Wages 2014, OECD Publishing. https://doi.org/10.1787/tax_wages-2014-en
OECD/IDB/The World Bank (2014), Pensions at a Glance: Latin America and the Caribbean, OECD Publishing. https://doi.org/10.1787/pension_glance-2014-en
Notes
← 1. Payroll taxes are aggregated with employer social security contributions in the calculation of the tax rates.
← 2. Further analysis on tax revenue collection is provided in OECD/ECLAC/CIAT/IDB (2016).
← 3. Details of the programs available for each country are provided in Part II Country details.
← 4. Labour statistics published by the central bank.