Shedding Light on the Use of Tax Expenditures for Social Spending

This blog was first published by the Social Policy Association (SPA).

When we think of government spending on social programmes, we generally picture direct cash transfers, public healthcare, education and subsidized housing. Yet a significant portion of social spending happens outside the traditional budget. Tax expenditures (TEs) are those tax reliefs classified by governments as designed to pursue social or economic objectives by not collecting tax. They can include exemptions, deductions, and credits that reduce tax liabilities of beneficiary taxpayers. How many tax reliefs are so classified varies considerably. In the UK, for example, only a third of all tax reliefs are classified as tax expenditures: in some countries, most are so recognised. They constitute a hidden welfare state that is often overlooked in policy debates.

In a recent paper, leveraging the Global Tax Expenditures Database (GTED), we show that TEs created/designed for social purposes are substantial, averaging over 1% of Gross Domestic Product (GDP) and 6% of total tax revenue worldwide (Figure 1). Indeed, in some cases, governments support certain social policy goals more through tax benefits than direct public spending.

Figure 1. Social Tax Expenditure (STE) Revenue Forgone by country income group,
1990- 2021 Average

Source: Aliu and Redonda (2024). Note: LIC is Low Income Countries, LMIC is Lower-Middle Income Countries, UMIC is Upper-Middle Income Countries, and HIC is High Income Countries. These categories are as defined by the World Bank.

Despite their magnitude, TEs often lack transparency, raising critical questions about their effectiveness and equity.

The Scale of Social Tax Expenditures

While direct social spending is well-documented, TEs tend to remain a blind spot in the public policy debate of many countries. Our study finds that social TEs exist in nearly all 105 countries covered by the GTED, accounting for an average of 27% of total tax revenue forgone through TEs. However, their distribution varies significantly across countries and income groups. High-income countries (HICs) tend to provide STEs through personal income tax (PIT) credits and deductions, particularly for social protection and housing. In contrast, low- and middle-income countries (LMICs) rely more on VAT-related TEs, often granted as zero-rates or exemptions for essential goods like food and medicine.

Crucially, in some countries, TEs exceed direct government spending on certain social functions. For example, in the United States and France, TEs on housing significantly outpace direct public spending, revealing a major policy choice that prioritizes indirect fiscal support over direct budgetary allocations. Similarly, TEs on social protection, such as pension-related tax incentives, make up a substantial share of total social spending in many high-income countries. However, this reliance on tax-based mechanisms raises concerns about efficiency, targeting, and distributional impact compared to direct expenditure programs.

Table 1. STEs compared to Social Direct Expenditure, selected HIC countries (2016-2021)

Source: Aliu and Redonda (2024). Note: “Culture” refers to spending categorized under Classification of the Functions of Government (COFOG) as COFOG 8 – recreation, culture, and religion.

Who Benefits? Equity and Efficiency Challenges

Despite their stated social objectives, STEs are not always effective, efficient, or free from unintended consequences. While they aim to address social issues, they often disproportionately benefit higher-income individuals and may not be the most cost-effective means of achieving their intended policy goals. Mortgage interest deductions, prevalent in HICs, primarily benefit wealthier homeowners rather than lower-income renters. Likewise, pension-related tax incentives, while encouraging savings, often provide the largest benefits to higher earners who can afford substantial contributions. VAT exemptions, widely used in LMICs, may not always benefit the poorest households due to poor targeting and incomplete price pass-through mechanisms. In contrast, targeted instruments such as refundable tax credits (e.g. the U.S. Earned Income Tax Credit) have proven effective in reducing poverty and improving labor market participation. However, such policies remain underutilized in many countries.

The Transparency Deficit in Tax Expenditures

Unlike direct social spending, which is generally debated in annual budgets, tax expenditures tend to escape scrutiny. The Global Tax Expenditures Transparency Index (GTETI) finds that over 50% of countries have never published a TE report. Even more worrying, inconsistencies and poor quality information are highly prevalent among reporting countries. Many reports lack revenue forgone estimates for all provisions and a significant number only provide aggregate data (e.g. by type of tax or type of TE), limiting the ability to assess trade-offs and the use of the data for much needed TE evaluations. Benchmark definitions across countries vary significantly, making cross-country comparisons difficult. For instance, some tax reliefs, such as VAT exemptions for private education, are classified differently across jurisdictions, further complicating transparency. Without better data and reporting, policymakers cannot fully evaluate whether TEs serve their intended social goals, which ultimately jeopardizes evidence-based policy making in the field.

Rethinking Social Spending: Policy Implications

Given their scale and lack of transparency, TEs require stronger oversight and rigorous evaluation. Standardized TE reports, including detailed revenue forgone estimates and beneficiary analyses, are essential for accountability. Furthermore, while STEs are often designed with socially minded goals, their actual effectiveness, efficiency, and equity impacts remain uncertain. Governments should integrate TE evaluations into fiscal policy planning, ensuring that each provision is evaluated based on its ability to achieve stated policy objectives in a cost-effective manner. A transparent and evidence-based approach can ensure that social spending—whether through direct programs or tax reliefs—delivers the best outcomes for society.

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