Tánaiste Leo Varadkar gave some hope that real incomes could rise with the possible introduction of a new 30% tax rate last month.
His comments on the potential for tax relief for individuals come amid rising prices and a cost-of-living crisis not seen in many years, a crisis that has been exacerbated by the war in Ukraine.
In the UK, Chancellor of the Exchequer Rishi Sunak has already responded to this. In his recent spring statement, he reported that the income level at which employees start paying National Insurance would increase by £3,000 to £12,570 from July, while fuel taxes have also been reduced 5 pence and that income tax cuts have been promised for 2024.
Although Sunak claimed the changes “would make a difference”, they were greeted as not going far enough by many. Even The Economist has called on governments to cut income taxes to help people cope with rising inflation.
Now Varadkar has set the stage for personal tax cuts in Ireland – but how far are they likely to go?
Speaking at a webinar organized by the Institute of International and European Affairs, Varadkar, answering questions about the inflationary environment, suggested the introduction of a new “average” tax rate, of 30% , for middle-income people, “so you might not hit that top 40% rate until you earn a little bit more”.
He defined average incomes as singles earning more than €38,000 and “couples earning more than €60,000 or €70,000”.
Currently, you pay taxes (plus PRSI and USC) at the standard rate of 20% on income up to €36,800 and 40% (plus PRSI and USC) on anything over that amount.
In addition, Varadkar said, the government is set to increase the brackets at which different tax rates come into effect under the next budget, while increases in pensions and social protection will also be needed.
Although seemingly made off the cuff, the comment makes sense in light of the government’s previous comments on taxation.
I think it’s recognized that we have a very progressive personal income tax system
In 2018, for example, Varadkar, who was taoiseach at the time, pledged to increase the income level at which the 40% rate comes into effect to €50,000. Since it was later estimated that this would cost around €2.3 billion a year, a cheaper approach would be to introduce a 30% rate on income of, say, €36,800 to €50,000. , rather than charging just 20% income tax. up to €50,000.
The introduction of a new tax rate would nevertheless be a considerable step forward. As the Tánaiste said, “these things are often more complicated than they appear”.
However, there is a precedent for such an approach. In 1985, there were five tax rates: the lowest was 35% and the highest 65%.
Additionally, a 2019 IMF report suggested the introduction of additional tax brackets and rates to income tax, which would preserve “the progressivity of the system, while broadening the tax base and reducing disincentives to work more”. This suggestion was also accompanied by a proposal to abolish USC alongside higher tax rates to compensate.
But experts point to an already complicated personal tax system, with different income brackets levied at different USC rates.
As Tom Woods, head of tax and legal at KPMG, notes, introducing a new rate would pose practical challenges in terms of upgrading systems and managing any changes made during the year.
“But it wouldn’t be insurmountable,” he said.
While the jury may be out for a new 30 percent rate, it’s generally accepted that the introduction of tax cuts are firmly on the cards.
“I think there’s a recognition that we have a very progressive personal income tax system,” Woods says, adding that the Tánaiste’s comments are a “very positive recognition that something needs to be done.”
Ian Prenty, director at Deloitte, agrees. “It’s positive that they’re talking about it and having it on their radar – that it’s a high personal tax burden on a comparative basis.”
Ireland is more attractive from a tax point of view for low-income people
In Ireland, the top tax rate of 52% (including PRSI and USC) applies to income over €70,044, while in the UK the top tax rate does not apply. only applies to £150,000 (€176,856).
For Woods, there is both short-term and long-term benefit to any possible tax cut.
“It would meet an immediate need linked to inflationary pressures,” he says, but adds that in the longer term, “the maximum rate, including the PRSI, will have to be reviewed to make us more attractive”.
“For middle to high income earners, Ireland is a very high tax country compared to other EU and OECD countries,” says Woods, pointing to a maximum rate of 52% for PAYE workers and 55% for the self-employed. .
This can affect the state’s ability to attract foreign direct investment, he says.
“It makes it harder to attract higher-paying candidates,” Prenty says, noting added pressure from the shift to remote working, which can allow employees to work from anywhere – and potentially pay tax rates. lower.
“I think the maximum rate will have to come down at some point,” Woods says, adding that any immediate changes should be “meaningful” to people.
But could we see the government act before the October budget?
“I wouldn’t rule it out,” Woods says.
“At a minimum, indexing tax brackets to inflation would help reduce the cost of living, and an increase in the standard rate tax bracket would help young people,” Prenty says, adding that the reintroduction a rental credit could also be useful. .
Narrow tax base
With nearly a million earners paying no income tax, Ireland is more attractive from an income tax perspective for low-income earners.
“The tax base is too thin at one end, so the burden tends to be shifted to higher-earning workers,” says Prenty. But the number of people outside the income tax net isn’t expected to change anytime soon.
“Increasing the base would bring in more revenue but, in a high-cost inflationary environment, that shouldn’t be done,” says Woods.
Introducing a 30 per cent rate is also unlikely to help this cohort, whose incomes keep them out of the tax net although they also struggle with the cost of living.
Of course, any reduction in the personal tax burden will be costly. And a significant reduction in the tax burden will probably cost billions. The latest figures for 2022 show that around 39% of total tax revenue came from income tax revenue, and the government is unlikely to want to jeopardize this source of revenue.
It also costs a lot to give people meaningful feedback. For example, if a 30% tax were to be introduced, it would have to cover a wide range of income to be valid.
Prenty notes that if the 30% rate band were introduced to cover incomes of €36,800 to €46,800, this would result in a tax saving of €1,000 per year for the individual, or less than €100 per month .
Although the tax authority did not provide figures on the cost of introducing a 30% tax rate, it suggests that a 1% drop to the 40% rate would cost the Treasury public about 400 million euros per year.
But introducing a new 30% rate isn’t the only option to get people money back.
“Economically, you get the same result,” Woods says of different approaches.
Widening the bands is one such option, also mentioned by Varadkar. Pushing the income level at which you start paying income tax at 40% from €1,500 to €38,300 would cost €340 million a year, according to income figures. But that would only save an individual about €300 in taxes per year, or about €25 per month.
To give someone more significant savings, around $100 per month, the band would need to increase from around $6,000 to $44,300. But that would cost the state about 1.3 billion euros a year in lost tax revenue.
I think there is an argument that reducing the income tax burden might actually yield a higher income tax yield
Reducing the Universal Payroll Tax (USC) could be another approach. Currently, income of €21,295.01 to €70,044 incurs a 4.5% charge. Reducing this amount by one percentage point would cost 433 million euros per year and would mean a saving of 1% on income tax at this level.
Any significant tax cuts at a time when an increasingly aging population is going to have a ripple effect on the costs facing the state may be unlikely. Unless of course other sources of taxation can be found.
However, estimating the cost of such a move is not an exact science.
“I think there’s an argument that reducing the income tax burden might actually generate a higher income tax yield, the same way it worked for the ‘corporate tax,’ says Woods, noting the need to compile the numbers on a ‘dynamic’ basis. .
“I would say that if you have an attractive marginal tax rate, or at least one more in line with other EU countries for middle to high incomes, there would be a greater incentive to earn more, while attracting and retaining more workers,” he said. said, adding that this could ultimately mean that the incomes of all tax heads increase rather than decrease.