Austerity won't end soon, so don't expect cuts in tax
A new strategy is needed to make the system fairer for workers, writes James Fitzsimons
THE big question for the Government this year is whether it will continue to tax its way out of the recession or ease up on austerity. We've exited the bailout and we got some autonomy back, but we are still answerable to the powers that be in Europe.
We've promised €2bn in extra taxes next year to help get the balance of payment deficit below 3 per cent of GDP.
So far this year, tax collection is ahead of target by €446m. If the trend continues, the proposed tax hikes could be halved. They say the improvements are due to higher employment and improving consumer sentiment. In reality, it is more likely to be a glitch in the statistics that will balance themselves out and there is no reason to be complacent.
In a recent report, the ESRI said that our economic growth continues to be strong but we need to stay focused. The world economy is still unstable and one or two surprises would be enough to put us back to where we were and that was a very dark place.
The ESRI pointed out that we are facing a housing problem as demand far outstrips supply and we need to crank up building to satisfy our needs. This would help job creation too if they would only get their act together and do what the market is demanding when, for once, it makes sense. While bureaucrats and politicians dither, another crisis will develop.
Last month, labour growth in the US had a setback as its own balance of payments came under pressure, but all the signs are still positive for continued growth even if it is a lot slower than we would like. The Taoiseach, Enda Kenny, has had some success too while on his three-day visit to the US, where he secured promises for more jobs for Ireland.
A slowdown in economic recovery in the eurozone put pressure on the ECB to cut interest rates again, to an all-time low of 0.15 per cent and it placed a negative interest rate (a charge) on bank deposits with the ECB, in an effort to make banks lend again. Inflation is less than 1 per cent, which is considered to be dangerously low, particularly for debt-ridden economies such as Ireland.
The Germans don't like inflation, particularly after it devastated their economy between two world wars, but they accept that current levels are bad for Europe. They saved a European banking system that is not fit for purpose. They've delayed the stress tests and now they must take measures that may weaken their capital base to stimulate growth.
Economic success, or failure, in Europe depends on balancing austerity in debt-ridden countries like ours with inflation in the faster-growing economies such as Germany.
While there is a lot of talk about abandoning austerity in the next budget, this is not likely to happen as we are not out of the woods and things could get worse. A quarter of a million people are out of work in Ireland and many more are underemployed and overtaxed. The unemployment rate was put at 11.8 per cent by the CSO in May. It is coming down, but not fast enough and even next year it is not expected to fall below 10 per cent.
There is pressure on the welfare system and ordinary workers will be forced to pay for those out of work. Austerity is not going away and any suggestion of tax cuts is baseless or dumb.
Water charges haven't even started and Local Property Tax is only beginning to kick in. After 2016, rising property prices will make that go up too.
At its peak in 2007, the State collected €66.1bn in tax, but due to refunds and leakages the net take was only €47.5bn. We were at a low ebb in 2010, when net receipts were only €31.92bn. That was a fall of nearly €16bn in annual revenue. Last year it was only back up to €37.88bn. Spending has come down too, by cutting public services, cutting child benefit, withdrawing medical cards and holding back capital expenditure programmes that would stimulate the economy.
A person on the average industrial wage (about €44,000) pays €4,000 to €5,000 more tax today than they did when the recession began. They would have lost about €600 in personal tax credits alone and over €1,000 if they lost mortgage interest or rent relief. They pay about €3,000 due to tax rate changes. The 41 per cent rate of tax now kicks in at €36,400 of earnings and the USC adds up to 7 per cent on top of income tax. That's a 70 per cent increase in the effective rate of tax charged. Most people suffered pay cuts too.
Is it any wonder that so many can't afford to pay their mortgages? The impact of property tax and water charges could take another €1,000 annually in tax. The USC may have taken more from those on the rich list, but its impact on lower earners and the squeezed middle is most profound.
High taxes on income and spending are where the real tax yield comes from. In 2005 VAT and Excise accounted for €21bn in tax revenue. In 2013 their combined yield amounted to only €15.3bn. Excise didn't fall by much, but VAT was down by nearly one third of what it was, reflecting how consumer spending has fallen. Income tax is higher than it ever was and ordinary people have nothing left at the end of the month to spend.
Income tax of €17.88bn was collected in 2013, which includes the USC, as compared to €14.18bn in 2005 when it was at its peak. Workers pay when things go wrong. We don't want to frighten the multinationals away, so the rate of corporation tax was held at 12.5 per cent. It accounted for €4.27bn last year. It doesn't even contribute two-thirds of what it did. At its peak, it was €6.69bn.
The Exchequer became heavily dependent on capital taxes, such as stamp duty and capital gains tax (CGT), during the boom. CGT accounted for €3.1bn in 2006. Last year, it was only €367m and it is the only tax to have fallen below expectation in collections this year. The rate (now 33 per cent) is 65 per cent higher than what it was before the recession, but the collapse in property prices and other assets means we don't get much from it any more.
Stamp duty contributed €1.33bn last year, but it includes nearly half a billion robbed from devastated private pension funds. At its peak in 2006, it was €3.63bn. It has fallen by more than three-quarters in real terms from what it was. It will add to the coffers if the property market recovers, but now that we have property tax, homeowners need to be sheltered from any more charges.
You'd be a fool to expect any tax cuts in the next budget, but workers are paying too much, as they have throughout the recession. There must be a new strategy to make the system fairer and raise the expectations of workers and consumers as the recovery sets in.
James Fitzsimons is an independent financial adviser specialising in tax and financial planning