Another empirical aspect to consider from the estimated elasticity coefficients is related
to the potential distortion originated by no-inflation adjustments. No indexation of the tax
affects all income groups, but their redistributional consequences could be different among
them. As an example, suppose we focus on the tax elasticity estimated for T2,2 tax cuts. We
can distinguish two different mechanisms. First, tax burden would be altered if allowances
and other deductions applied before obtaining taxable income not updated with inflation.
This fiscal drag is predominant for low income groups, where the tax function is quite flat,
according to values of η2 near to 1.01. Second, the ‘bracket creep’ effect through the tax
schedule essentially affects the highest income groups. See Immerwooll (2005) for a detailed
discussion on how a partial adjustment or simply, the absence of adjustment by inflation, can
affect the distributional properties of the income tax.
5.4 Effects of the Spanish dual tax reform
Spanish Income Tax (2007) Act ‘35/2006’ was announced as a tax reform by the government
in 2005 to be applied from the fiscal year 2007. Regarding the previous tax, a number of fiscal
changes introduced by the reform can be viewed as a simple updating of certain parameters
of the fiscal law (specifically, those related to minimum threshold, income limits, allowances
related to the labor income, private pension contributions, etc).15 Other changes in income
tax are structural elements related to the new tax design.
Next we focus on the elements which make the dual income-tax different with respect to
what it was before the reform. These features can be summarized as follows:
Tax schedule, marginal tax rates and demographic allowances.
As we see in Table 3, income brackets are wider in the dual tax. Basically, changes
introduced were 1) elimination of the first income bracket 2) updating the income limits
and 3) a lowering the highest marginal tax rate from 45% to 43%. Changes on the
15For example, income allowance deducted from salaries was adjusted up to 13%, although this percentage
is still below the accumulate inflation generated since the previous revision.
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