Tánaiste Leo Varadkar led some to hope that real incomes could rise with the possible introduction of a new 30 per cent income tax rate last month.
His comments on the potential for an easing of the personal tax burden come against a background of soaring prices and a cost-of-living crisis not seen for many years, one 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 signalled that the income level at which employees start to pay national insurance would increase by £3,000 to £12,570 from July, while fuel duty was also cut by 5p, and income tax cuts were promised for 2024.
While Sunak asserted that 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 as a way of helping people cope with rising inflation.
Now Varadkar has set the scene for personal tax cuts in Ireland – but how far are they likely to go?
The proposal
Speaking at a webinar organised by the Institute of International & European Affairs, Varadkar, responding to queries on the inflationary environment, suggested the introduction of a new “middle” tax rate, of 30 per cent, for people on middle incomes, “so that you wouldn’t maybe get to that highest rate of 40 per cent until you earn a little bit more”.
He defined middle incomes as single people earning more than €38,000, and “couples who earn more than €60,000 or €70,000”.
At present you pay tax (plus PRSI and USC) at the standard rate of 20 per cent on earnings up to €36,800, and 40 per cent (plus PRSI and USC) on everything above that.
In addition, Varadkar said, the Government is set to increase the bands at which different tax rates kick in as part of the next budget, while increases in pensions and social welfare will also be needed.
While seemingly made off the cuff, the comment does make sense in light of the Government’s previous comments on tax.
I think there's an acknowledgement that we have a highly progressive personal tax system
Back in 2018 for example, Varadkar, who was taoiseach at the time, pledged to increase the level of earnings at which the 40 per cent rate kicks in to €50,000. Given that it was subsequently estimated this would cost about €2.3 billion a year, a cheaper approach would be to introduce a 30 per cent rate on earnings of, say, €36,800-€50,000, rather than charge just 20 per cent tax on earnings of up to €50,000.
It would nonetheless mark quite a move to introduce a new tax rate. As the Tánaiste said, “these things are often more complicated than they may sound”.
Precedent
There is, however, precedent for such a move. In 1985 there were five tax rates: the lowest one was 35 per cent and the top one 65 per cent.
Moreover, an IMF report in 2019 suggested the introduction of additional tax bands and rates to income tax, which would preserve “the progressiveness of the system, while broadening the tax base and reducing disincentives to work more”. This suggestion also came with a proposal for the abolition of USC alongside higher rates of tax to compensate.
But experts point to an already complicated personal tax regime, with different bands of income levied at different rates of USC.
As Tom Woods, head of tax and legal with KPMG, notes, there would be some practical issues in bringing in a new rate in terms of upgrading systems, and dealing with any change brought in during the year.
“But it would not be insurmountable,” he says.
Tax cuts
While the jury may be out on a new 30 per cent rate, it is generally accepted that the introduction of tax cuts are firmly on the cards.
“I think there’s an acknowledgement that we have a highly progressive personal tax system,” says Woods, adding that the Tánaiste’s comments are a “very positive acknowledgement that something needs to be done”.
Ian Prenty, a director with Deloitte, agrees. "It's positive that they're talking about it and that it's on their radar – that it is a high personal tax burden on a comparative basis".
Ireland is more attractive from a personal tax perspective when it comes to those on lower incomes
In Ireland the top tax rate of 52 per cent (including PRSI and USC) kicks in on earnings over €70,044, while, in the UK, the top tax rate does not kick in until £150,000 (€176,856).
For Woods there is both a short- and long-term benefit to any possible tax cuts.
“It would meet an immediate need arising from inflationary pressures,” he says, but adds that, in the longer term, “the top rate, including PRSI, will need to be looked at to make ourselves more attractive”.
“For middle- to high-income earners, Ireland is a very high tax country compared with other EU and OECD countries,” says Woods, pointing to a top rate of 52 per cent for PAYE workers and 55 per cent for the self-employed.
This may affect the State’s ability to attract foreign direct investment, he says.
“It makes it more difficult to attract higher-paid candidates,” says Prenty, noting additional pressure from the move to remote working, which can allow employees work from anywhere – and potentially pay lower tax rates.
“I think the top rate will have to come down at some point,” says Woods, adding that any immediate change should be “meaningful” to people.
But could we see the Government take action before October’s budget?
“I wouldn’t rule it out,” says Woods.
“At a minimum, indexing tax bands to inflation would help with the cost of living, and an increase in the standard rate tax band would be useful to younger people,” says Prenty, adding that the reintroduction of a rent credit might also be helpful.
Narrow tax base
With almost a million income earners paying no income tax, Ireland is more attractive from a personal tax perspective when it comes to those on lower incomes.
“The taxable base is too thin at one end, so the burden tends to be shifted to higher-paid workers,” says Prenty. But the number of people outside the income tax net is unlikely to change any time soon.
“Increasing the base would bring in more revenue but, in an inflationary high-cost environment, that shouldn’t be done,” says Woods.
Introducing a 30 per cent rate is also unlikely to help this cohort, whose earnings keep them out of the tax net though they are also struggling with the cost of living.
Costs
Of course any cut to the personal tax burden will cost. And a meaningful decrease in the tax burden is likely to cost billions. Latest figures for 2022 show that some 39 per cent of total tax revenues came from income tax receipts, and the Government will be unlikely to want to jeopardise this source of revenue.
It also costs a lot to give a meaningful return to people. For example, if a 30 per cent tax were to be introduced, it would need to cover a significant range of earnings to be worthwhile.
Prenty notes that if the 30 per cent rate band was introduced to cover income from €36,800 to €46,800, it would lead to a tax saving of €1,000 per year for the individual – or less than €100 a month.
While Revenue has not produced any figures on the cost of introducing a 30 per cent tax rate, it suggests that a 1 per cent decrease to the 40 per cent rate would cost the exchequer about €400 million a year.
But introducing a new 30 per cent rate is not the only option to give money back to people.
“Economically you get the same result,” says Woods of different approaches.
Widening the bands is one such option, also mentioned by Varadkar. Pushing the level of earnings at which you start paying income tax at 40 per cent up by €1,500 to €38,300 would cost €340 million a year, according to Revenue figures. But it would only save an individual about €300 in tax a year, or about €25 a month.
To give someone more meaningful savings, of about €100 a month, the band would need to increase by about €6,000 to €44,300. But this would cost the State about €1.3 billion a year in tax revenue forgone.
I think there is an argument that lowering the income tax burden could in fact generate a higher income tax yield
Cutting the universal social charge (USC) could be another approach. At present, earnings of €21,295.01-€70,044 incur a charge of 4.5 per cent. Cutting this by one percentage point would cost €433 million in a year, and would mean a 1 per cent saving in tax of earnings at that level.
Any hefty tax cuts at a time when an increasingly ageing population is going to have a knock-on effect on the costs the State is facing may be unlikely. Unless of course alternative sources of tax can be found.
However, estimating the cost of such a move is not an exact science.
“I think there is an argument that lowering the income tax burden could in fact generate a higher income tax yield, in the same way as it worked for corporation tax,” says Woods, noting the need to compile figures on a “dynamic” basis.
“I would argue that if you have an attractive marginal tax rate, or at least one more in line with other EU countries for middle to higher earners, there would be a greater incentive to earn more, while attracting and retaining more workers,” he says, adding that this could ultimately mean that revenues across tax heads actually increase rather than decrease.
