We’re likely to see the base on which we pay tax broaden into the future

Tom Maguire discusses the annual tax report in his Business Post column

I still recall the BBC’s Emily Maitlis saying on Newsnight last year that Covid-19 could not be survived by showing “fortitude and strength of character”. We’ve since demonstrated that in terms of our strong vaccine rollout and take-up (many thanks Paul Reid and co). I also remember Maitlis dismissed Covid-19 being the “great leveller”. We’ve since seen that play out through experience and it was also evident in the Department of Finance’s Annual Taxation Report which issued recently.

That report explains that 2020’s tax performance resulted in a “modest decline in income tax receipts which, despite the exceptionally large fall in employment, fell just €224 million relative to 2019”. The end-year outturn was €22.7 billion, 6.9 per cent ahead of 2018 levels and more than double the income tax yield in 2010. Double the yield in ten years.

The report explains 2020’s aggregate employment fell by 4 per cent and employment losses were particularly severe in contact-intensive sectors such as accommodation / food / entertainment. Job losses were more limited in sectors most conducive to remote working such as ICT / finance and of course the health sector was where employment growth was recorded. The sharpest declines were in contact-intensive sectors, such as arts and accommodation & food. This is where measures such as the PUP and various employment subsidies were necessary.

Our income tax system is progressive. The report says that “…Because of this progressivity, those at the lower end of the pay spectrum pay a relatively small share of overall income tax. While the progressivity of income tax may be a positive from an equity perspective, it is also worth highlighting that this can lead to a narrowing of the income tax base”. We’ll come back to broadening the tax base which has been an IMF mantra for years now.

The annual report explains that in 2018, “…around four-fifths of all income tax revenue was paid by the top 25 per cent of income earners”. Then a cautionary tone: “While this is progressive, it is also a source of vulnerability in that a shock to high income sectors (e.g. outflows of FDI inter alia due to changes in corporate tax) could have a disproportionate impact on income tax receipts”. This wasn’t the only cautionary moment in the report.

The report notes 2020 corporation tax receipts performed strongly despite Covid-19, increasing by nearly €1 billion while noting that micro firms, as well as small and medium-sized enterprises, bore the brunt of the shock. The report explains many of the large multinational firms that contribute the majority of corporation tax revenues “proved resilient to broader economic conditions” given large increases in exports of ICT and pharmaceutical products.

Bear in mind what 2020 was and then the report confirms, “the corporation tax yield – the highest level on record – continued the recent trend of strong growth in this revenue stream seen in the last five years”. It notes that corporation tax revenues were 2½ times their 2014 level. Six years on and more than double the yield; remember the income tax yield-timing comparison earlier. This was driven primarily by strong growth in revenues from multinational firms, particularly in the ICT, pharma and financial sectors. Corporation tax receipts ended the year at €11.8 billion, up 9.5 per cent on 2019.

The report accepts 2020’s aggregate tax receipts fell by €2.1 billion which was a sharp drop but not on the scale of that initially feared. This was attributable to the stability of income tax receipts and a continuing strength in corporation tax revenues. And then another cautionary tone that we’ve heard many times: “that the potential for over-reliance on excess or ‘windfall’ corporation tax revenue has been identified as a risk to the stability of the public finances since the period of extended growth began five years ago”. It continues that “The stability of income tax receipts throughout 2020 played a key role in preventing a larger deficit in the context of a fall in indirect tax receipts and vastly increased public expenditure. However, future shocks that do not replicate the acutely sector-specific nature of the pandemic, or a shock to ‘tax-rich’ sectors, would, accordingly, have severe implications for the public finances”.

The IMF’s findings at the end of its official “Mission” (as they call it) in April-May this year noted that “…Changes in international taxation can also affect both the Irish economy and the public finances. Ireland should therefore continue to build on its strong comparative advantages, such as its qualified labour force, strong and stable legal and policy environment, and favourable business climate. Policy action should also focus on enhancing social capital, particularly in education, training, health, housing, as well as digital and other physical infrastructure in order to retain FDI and amplify its positive domestic spillovers”. July’s Summer Economic Statement noted that the proposals will have costs to the Exchequer, which are estimated to be between €800 million and €2 billion annually. The OECD’s suggested changes to international corporate tax law are currently the matter of a Public Consultation with the Department of Finance due to close on 10 September.

The IMF explains that “Eventually, the tax base will need to be broadened to help finance productivity-enhancing investment in human and physical capital. In the medium-term, a productivity-enhancing fiscal policy, with greater public sector investment in areas such as affordable housing, digitization, infrastructure, and climate mitigation would help potential growth and boost corporate investment. Room should be made for priority fiscal spending by better targeting social benefits according to need”.

Back in 2019, the IMF’s mission suggested “Broadening the tax base in a growth-friendly manner. The increase in the value-added tax (VAT) rate for the hospitality sector is a welcome step, but there is scope to further streamline Ireland’s five-rate VAT system. The Universal Social Charge (USC) in its current form largely duplicates the Income Tax but adds administrative costs. The USC could be folded into a reformed Income Tax with somewhat higher rates, broader base, and more tax bands to reduce disincentives to work, while preserving the overall yield and income redistribution features. Rather than postponing adjustments in the local property tax, implementation could be improved by adhering to the three-yearly valuation assessments and maintaining the tax rate, while capping the rate of annual tax base increases to smooth tax payments”.

Some of the above are definitely not runners right now but you can see where the IMF was coming from in widening the base rather than increasing rates. However, the IMF’s recommendation was that change adopt a “growth friendly manner”. In my view that mantra should influence all forthcoming budgets.

Please note this article first featured in the Business Post on Sunday 22 August 2021 and was re-published kindly with their permission on our website.

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