Smart Contracts, Smart Taxes

Web3 promise for governments

Here's a brief recap of Web3 and its key components, based on my previous piece titled "Key Policy Challenges in the Web3 Development". Web3 represents a vision for a more decentralized internet, leveraging blockchain technology. It seeks to shift control from centralized entities to users, offering greater privacy, security, and autonomy online. At its core, web3 includes blockchain technology, which serves as a decentralized, distributed ledger ensuring transparency and immutability of data. Smart contracts are another key component, functioning as self-executing contracts with terms directly written into code, reducing the need for intermediaries. Cryptocurrencies, Stablecoins and soon CBDCs play (or will soon play) a crucial role in web3, enabling peer-to-peer transactions without traditional banking systems. Decentralized applications (dApps) are built on blockchain, operating without a central server, which enhances censorship resistance and gives users more control over their data. Lastly, tokenization involves representing real-world assets or rights digitally on a blockchain, using tokens to represent ownership or voting rights in decentralized organizations. Overall, web3 aims to democratize the internet, decentralizing control and empowering individuals, while introducing a whole new digital ecosystem to global economy, that will change the way we live and interact with one another.

“Bloxation”

Traditional Tax Systems

Tax systems are typically based on a set of laws and regulations that govern how taxes are imposed and collected by a government. These systems are often complex and can vary widely from country to country, but they generally include the following key components:

1. Tax Types. Traditional tax systems typically include various types of taxes, such as income tax, corporate tax, sales tax, property tax, and others. Each type of tax is imposed on different sources of income or transactions.

2. Tax Rates. Tax systems specify the rates at which different types of taxes are levied. These rates vary based on factors such as income level, type of income, and type of transaction.

3. Tax Filing. Taxpayers are required to file tax returns with the government, reporting their income, deductions, and other relevant information. Filing is sometimes time-consuming and complicated, especially for individuals with complex financial situations.

4. Tax Collection. Tax authorities are responsible for collecting taxes from taxpayers. This process involves issuing tax assessments, collecting payments, and enforcing tax laws.

5. Tax Enforcement. Tax authorities have the authority to enforce tax laws and regulations, including auditing taxpayers to ensure compliance. Non-compliance results in penalties and fines.

“Digital Tax”

Governments face several challenges in tax collection and compliance, which can vary depending on the country and its specific tax system. The most important ones are tax evasions, tax avoidance, tax complexity, high compliance costs and existence of shadow economy, among other challenges. Let’s try to investigate them more closely.

Tax evasion occurs when individuals or businesses intentionally underreport income or overstate deductions to reduce their tax liability. Evasion typically results in significant revenue losses for governments. Tax avoidance on the other hand involves using legal means to minimize tax liability. While tax avoidance is not illegal, it erodes the tax base and reduces the amount of revenue collected by governments.

Some jurisdictions suffer from extreme version of tax complexity. Tax laws are often complex and can be difficult for taxpayers to understand and comply with. This complexity leads to inadvertent errors and non-compliance. This in turn can lead to sizeable compliance costs. Complying with tax laws can be costly for individuals and businesses, both in terms of time and money. As a result, these costs act as a deterrent to voluntary compliance. Poorly designed tax systems push some sectors of the economy into informality. In many countries, a significant portion of economic activity occurs in the shadow economy, where transactions are not recorded or taxed. This makes it difficult for governments to collect taxes from these activities.

With the rise of the digital economy new challenges for tax authorities has arisen, as traditional tax rules hardly apply effectively to digital transactions. As a result, taxing digital goods and services remain elusive with some countries benefiting from base erosion and profit shifting done by multinational nig tech firms. Moreover, globalization has made it easier for individuals and businesses to move assets and income across borders, making it challenging for tax authorities to track and tax cross-border transactions.

If we juxtapose these new trends with an overall reality of resource constraints and limited staffing of governmental institutions, we can see why many tax authorities around the world have their hands tied in terms of their ability to effectively enforced tax laws.

It is becoming clear that traditional tax systems have several limitations that can make them inefficient and difficult to administer. This complexity can be remedied by reforming and the exploring of alternative tax models, such as those enabled by web3 technologies.