From top: Minister for Finance Paschal Donohoe; Michael Taft
It’s that time of year when people and organisations put forward their favourite tax cut, tax rise or new tax altogether.
So in that spirit I’d like to put forward one of my favourite blue-sky reforms: abolish income tax and substitute an expanded Universal Social Charge (USC).
The USC is a great tax. It is simple, transparent and no matter how many accountants you hire, you can’t escape it. The tax has almost no exemptions, reliefs, or allowances – unlike the income tax system which is riddled with tax expenditures.
The rates for USC are:
Up to €12,012: 0.5 percent (though if you earn below €13,000 you will be exempt)
€12,012 to €19,372: 2 percent
€19,372 to €70,044: 4.75 percent
Above €70,044: 8 percent (except for self-employed – income above €100,000 is taxed at 11 percent)
In 2016, income tax – with rates of 20 and 40 percent – raised €14.3 billion. The USC – with rates of between 1 and 8 percent (the standard rate then was 5.5 percent) raised €3.6 billion.
The cuts to USC since 2014 have been substantial.
Originally, the USC had three rates: 2, 4, and 7 percent. Why cut a tax that is simple, transparent, easy to administer and raises substantial revenue on low rates? One can always change the rates and thresholds and still maintain revenue.
Let’s play out this exercise and assume the Government abolished income tax in the budget. By how much would USC rates have to rise to make up the lost revenue?
I am not suggesting that these same rates and thresholds are optimal. They would be very high and penal for those on low incomes. However, rates and thresholds can be changed quite easily with a provision to exempt income below a higher threshold.
What it does show is the potential to substantially reduce marginal income tax rates among middle income earners who now pay 44.75 percent (48.75 percent if you include PRSI) while maintaining tax revenue.
The above doesn’t provide for any tax reliefs. We could re-introduce tax reliefs into the system – credit for dependent adults, health insurance, pension contributions, etc. But for each credit introduced, we’d have to increase the tax rates or reduce the thresholds or both to maintain revenue.
As a rule, for each €100 million in tax relief, each of the rates above would need to increase by approximately 0.1 percentage point. However, moving towards a USC system would allow us to revisit the way we provide resources for households.
Take a small but important relief – the Blind Persons’ Tax Credit. The implication of moving to a USC-based system would be to remove this credit which is worth €1,650 (or approximately €32 per week) for recipients.
There is an additional relief for guide dogs worth €165. Removing this credit would seem, at first glance, inequitable.
But here’s what the Commission on Taxation said about this credit when it recommended that it be abolished:
‘We consider it inequitable that this tax expenditure only benefits blind persons who are liable to tax and with sufficient income to absorb the credit; blind persons on lower incomes or those dependent on social welfare obtain no benefit from this credit.
We recommend that the appropriate level of State support be provided to blind persons through the direct expenditure route and that the tax credit be discontinued.
However . . direct expenditure support at the appropriate level should be put in place first; only then should the tax credit be withdrawn.’
So those on social protection and those at work, but whose income is so low they don’t pay income tax, do not benefit from this credit. This is not equitable.
The Commission’s proposal would mean that all people with visual impairment would benefit – regardless of their employment or tax status.
We could go one better. We could increase the direct payment and tax it. This would mean that those on low incomes would benefit even more while those on high incomes would receive only a proportional benefit, commensurate with their income.
This would turn the payment into a progressive one.
There are a number of tax expenditures that could be turned into direct payments with progressive effect. Another one is the credit for households with an incapacitated child.
This is a valuable credit for households with real needs; however, those on low incomes do not benefit.
Again, the Commission on Taxation proposes the credit become a direct expenditure equivalent to the same amount – and then abolish the credit.
So moving to a USC-based system is not just about tax rates and thresholds – it could also reform way we deliver support to households.
We would need more detailed data and an assessment of the impact on different income groups – especially those who rely on crucial tax reliefs to make ends meet.
But this approach can help focus the debate away from marginal tax rates and on to effective tax rates – creating a simpler, more transparent and efficient tax system.
It is not about cutting revenue. It is about reform.
Michael Taft is a researcher for SIPTU and author of the political economy blog, Notes on the Front.