When tax on income is too high, the black economy prospers and high earners are frightened away. An average rate of tax of 35 per cent is acceptable, if essential services are freely available. When the Government takes more than 50 per cent, that's the breaking point for taxpayers. If high earners cannot control their tax bills, they may migrate to where the tax regime is more favourable. For those who cannot avoid tax by legitimate means, the black economy is their only hope.
The system is out of control. So the Government has descended on low- and middle-income groups to fix the problem. Nearly 90 per cent of government spending goes on welfare, health and education. This year, tax revenue will be about €36bn. Social protection will gobble up €22bn. When combined with the cost of health and education, we are spending much more than we are taking in.
There are between 300,000 and 400,000 fewer taxpayers today than there were four years ago. That's a drop of 16 per cent to 20 per cent. But with fewer taxpayers, we are paying more income tax than we ever did and all other taxes are higher too. In 2008, income tax alone yielded €13.2bn. In the 11 months to November 2012, we have already paid nearly €13.9bn.
If you are a high earner, you are paying more tax today than you did when the recession began, unless your income has dried up. But ignoring some tax shelters that are no longer available, your effective or average rate has not gone up as much as lower- and middle-income groups. You may be paying 15 per cent to 20 per cent more than you did before. Tax rates have been kept the same and the cuts in personal credits are small relative to high gross income.
If you maximised your pension funding, you will be paying a lot more tax now. You can get relief on less than half what was possible in 2008. Back then, you could cut taxable income by €110,095. Today the maximum is €46,000. For that you must be over 60 and you cannot avoid PRSI or the USC. There are more restrictions coming in 2014.
A typical single person on €50,000 to €60,000 a year will probably pay 25 per cent more tax next year than they did in 2008. And that's before they pay the new Local Property Tax (LPT). Unless they are a first-time buyer, they will have lost mortgage-interest relief worth €600 or more. Tax relief for bin charges and trade-union membership are gone. Relief for health expenses is restricted to 20 per cent, having been allowed 41 per cent until 2008.
The situation is worse for families. The loss of mortgage-interest relief could be double that for a single person. Tax at the 41 per cent rate may take another €1,092 out of disposable income. If you had three children in school when the crisis began, who are now in college, you have lost €6,420 in child allowance and you will incur college fees of €7,500.
You are paying 40 per cent more tax today than you did in 2008. If we add the loss of child allowance and college fees, it will cost you four to five times more in 2013 than it did when the old system prevailed.
A one-parent family earning €40,000, with one child, will probably pay 76 per cent more tax in 2013 that they did in 2008. Personal credits, the PAYE credit and the one-parent family credit have all been cut and the 41 per cent takes a bigger bite of the cherry. The loss of child allowance for 18-year-olds will be devastating.
A self-employed individual earning €120,000 a year with some investment income and savings will be worse off by about 16 per cent. In 2013, tax on deposit interest will increase to 33 per cent. It was only 20pc in 2008. For the self-employed who do not pass their income through a limited company they will pay the USC at 10pc above €100,000. Personal tax credits were cut, but the self-employed never got the PAYE credit, so that cut didn't affect them. Like everyone else, they will pay more tax at the 41 per cent rate. But the USC takes the most.
Capital gains tax will be 33 per cent next year. But few assets are being sold at a profit. The yield from capital gains tax fell from its peak of €3.1bn in 2007 to €416m in 2011. The rate change will have little impact. The same applies to capital acquisitions tax. The most it yielded in a year was €392m and that was in 2007. So far in 2012 it generated €260m. The higher rates will help, but income tax, consumer taxes and LPT are where the main increases will materialise.
For the 11 months to the end of November, corporation tax of €3.8bn was collected. It peaked in 2006, when it was nearly €6.7bn. In spite of the fact that companies contribute nearly 50 per cent less than they did before the downturn, they have not been asked for help for fear they will run away. If the 12.5 per cent rate of tax is the only thing keeping them here we have a problem. We are running out of things to tax. If workers don't have enough left to pay the bills, their productivity and efficiency will decline. Then no rate of tax will attract the big companies.
Most of the corporation tax is paid by less than one per cent of companies. It's widely reported that the effective rate is much lower than the 12.5 per cent we would like to get. This is partly due to the use of tax losses. For otherwise profitable groups, it might be possible to defer using these losses, until the economy can afford it. Even companies that have tax losses are cash rich and could help when we need it. It would be like money in the bank for them. Nobody is asking the right questions. They have too much to lose if they get the wrong answers.
On top of everything else we are paying more VAT (the standard rate is now 23 per cent instead of 21 per cent). The other consumer taxes such as excise duty, motor tax and VRT are higher too, and they will get even higher in 2013.
James Fitzsimons is an independent financial adviser specialising in tax and financial planning