| Elsewhere there is a summary of the advice given to the Minister from outside the Civil Service, in the framing of his budget. There are other issues known to be under consideration. Some will be acted on, some kicked into a 'consultation' waiting room, and others ducked. |
Green taxes
The Department of Finance have initiated a consultation process on 'carbon taxes'. The focus is on excise duties specifically on energy products, ie fossil fuels. These are mainly peat, coal, oils (including petrol and diesel) and natural gas. The idea being examined is that the tax would relate to the amount of carbon dioxide used in the consumption of each fuel. Carbon taxes are intended to discourage the use of certain fuels and therefore in principle, if they worked properly, would not yield revenue. It seems fairly certain that once introduced, they will, like excise duties on cigarettes and alcohol, become an essential prop of government. The indications are that this issue will not be addressed until the 2004 budget. There are a range of other environmentally friendly taxes which the Minister might consider. These include taxes on pesticides and fertilisers (common in the Nordic and Benelux countries) and a tax on disposable containers (common in Nordic countries). The farming lobby, although no longer as influential as it used to be, is unlikely to tolerate a tax on fertilisers.
Italy, Belgium and Hungary have a tax on batteries. Will the Minister be tempted by a pre-Christmas blitz on the 'batteries not included' toys? Water usage charges seem inevitable sooner or later, but the middle of the bin charge dispute does not seem a likely time to start a new war. France, UK and Austria have landfill taxes designed to discourage the dumping of non-recycled waste. A somewhat related tax, on aggregates, exists in Denmark, Belgium, and the UK. Each of these would impact on infrastructural projects. On the one hand, the high level of activity in the construction industry would promise a fair tax haul, but on the other hand this might not be a judicious moment to increase the cost of infrastructural projects which are largely financed by the government anyway. One of the major sources of air pollution in Ireland is methane gas produced
by cows. New Zealand attempted to deal with this by a tax on 'cow flatulence'. The government had to bow down before the farming lobby and international laughter. It is doubtful therefore that the Minister will step in where his New Zealand colleague found it too dangerous to tread.
Curiously, it is policy to bring about a reduction in the national herd in order to reduce the methane gas output from cows. This might cause the Minister to review again a tax incentive aimed at increasing the national herd! This is farmers' stock relief. It operates by giving a farmer tax
relief when his herd increases, with no claw-back if it subsequently decreases.
It is doubtful if the Department of Finance regards environmental taxes as a high priority. In the last Finance Act they retrospectively curtailed capital allowances for investors in wind farm projects. If that is an indication of their attitude, do not expect much action on the green tax front in the coming budget.
Transfer pricing
Most countries have taxation rules relating to 'transfer pricing'. Broadly these are designed to ensure that the profits reported in a jurisdiction are computed on the basis of both sales and purchases being at arm's length pricing. Such rules are driven by the need to combat the natural tendency of any multinational to report its profits primarily in low tax zones, and avoid reporting profits in high tax zones. To date Ireland has only rudimentary transfer pricing rules. We are a low tax zone and have no need to compel multinationals to increase the profits they report here. Nonetheless plans are well advanced to introduce transfer-pricing rules in Ireland. The purpose of introducing them is to reassure other member states of the EU, and of the OECD, that we are a respectable tax jurisdiction. The fact that the rules are irrelevant to our taxation situation is not the
point. They are a politically correct thing to have, and we must be seen to have them. It was widely expected that these rules would have been introduced in the last Finance Act. However it was felt that there hadn't been an adequate consultation period and they were therefore deferred. In the meantime, a fly has entered the ointment. The UK, which has draconian
transfer pricing rules, has publicly admitted that rules that apply only to cross border transactions are contrary to EU law. You cannot require a French firm with a UK subsidiary to compute that subsidiary's profits on an arm's length basis, if a UK firm with a UK subsidiary is not similarly
obliged to deal with the subsidiary at arm's length.
The UK is therefore proposing to impose transfer pricing not only on cross-border transactions (which internationally is the norm) but on transactions between connected domestic companies as well. This is likely to create an administrative nightmare for businesses in the UK and increase the
cost of compliance, without raising any additional revenue for the UK. The implication of this in Ireland is serious. The UK has a single rate of tax on all forms of income. Ireland charges corporate trading income at 12.5p.c. and other income at 25p.c. If we were to introduce transfer pricing in a manner compatible with EU rules, we would be obliged to apply it to transactions between group companies, all of whom are resident in Ireland. Thus a company providing the use of a premises to a subsidiary might be obliged to be treated for tax purposes as if it charged a commercial rent. The imputed rental payment would be deductible against tax at a 12.5p.c.
rate, but the imputed income would be taxed at a 25p.c. rate. Transfer pricing in Ireland would not only increase the cost base of Irish industry, but would also seriously affect the tax position of many indigenous businesses.
It is to be hoped that the government will stop in time and not attempt to introduce transfer pricing.
Research and development
Ireland, as is the case in the UK, tends to spend less than the international average on research and development. There is a widespread belief that the level of research and development in an economy will determine its long-term prosperity. That is certainly the case in economies
which are continental in scale like the USA. It is less certainly the case in a very small very open economy like Ireland.
At present Ireland does have attractive incentives for research and development. Principally this consists of the tax exemption for patent income from inventions developed in Ireland, and the related exemption for dividends out of such income. The exemptions are of course hedged around
with numerous conditions.
Most other countries offering incentives for research and development tend instead to offer enhanced deductions in computing taxable profits. In other words a E1 spend on research and development may entitle you to a &euor;1.50 (say) deduction in computing your profits. Ireland does not have such an approach.
Paradoxically, our low corporation tax rate on trading profits means that a tax deduction is of less value in computing Irish tax, than it is in computing (say) UK tax where the tax rate is 30p.c. E1 spent on research and development in Ireland prima facie saves 12.5 cents. Leaving out of account the fact that the UK gives an enhanced deduction, '1 spent in the UK would
save 30 cents. Viewed from an international perspective, Ireland would have to greatly enhance its deduction for research and development expenditure to make it competitive internationally, in terms of the tax saving that each euro of spending generates.
The present Irish system rewards successful invention. The UK system rewards expenditure, regardless of success. What the Minister has to achieve is some halfway house whereby we encourage expenditure, while retaining our rewards for success. It would be a pity if the unique feature of the Irish tax system were lost in the rush to become indistinguishable from everybody
else.
Capital gains tax
In recent years the Minister has chipped away at capital gains tax reliefs, on the basis that his halving of the rate at the outset of his ministerial career made such reliefs unjustifiable. There are now relatively few reliefs left but it would be foolish to assume that the Minister has not looked them over.
Charities are exempt from capital gains tax. Religious and educational charities in particular have realised gains on the disposal of land. Last year the Minister restricted relief for donations to charities principally to reduce the extent to which religious charities availed of these reliefs, in the covenanting of members income to the orders. However any removal of the CGT exemption might well slow down the provision of building land, especially in city areas, and taxing charities is not politically popular. Retirement relief is one of the principal business reliefs which remain. This relief is already capped at a very low level in relation to disposal of business assets to third parties. Many of the older generation of business people failed to build up pension funds and would regard the ability to realise some tax-free sum in this fashion as their pension plan. Interfering with it would be politically unpopular, raise very little revenue, and probably be quite unjust.
Interference with the relief as far as it applies to the transfer of businesses to children would postpone the introduction of a new generation of managers to businesses and be strategically a foolish move. Although it looks isolated as one of the few remaining reliefs, it is difficult to see
the Minister interfering with it.
The Chancellor of the Exchequer in the UK has rushed to deny that he had any intention of removing the tax exemption for capital gains on the disposal of a principal private residence. That exemption is not an absolute one in Ireland. The gain on a principal private residence, to the extent that it is derived from development potential, is subject to tax in Ireland. Any outright abolition of this relief would be political suicide not only for the Minister responsible, but for his party.
However, Civil Service advice to the Minister on the occasion of the last budget highlighted the significant cost to the exchequer represented by the relief. There must therefore be a danger that the Minister will be tempted to begin a process of tinkering with it, if only to test the water.
Pensions
The government are considering a research paper on pensions simplification. There is at present a range of different pension products and regimes. The confusion which the variety of regimes creates is possibly one factor mitigating against people making proper pension provision. It is unlikely that there will be any major move in the current budget as that paper has not yet been fully assimilated.
There is a risk of some interference with the rules for approved retirement funds (ARFs) possibly limiting the holder's right to determine when a pension payment shall commence.
Despite rumours of possible limitations on relief for pension funding, it seems incredible that such a move would be attempted at a time when the objective of the government is to increase the extent of pension provision.
Other dreams and nightmares
In the Dail on 26 February 2003 the Minister made a remark that might have indicated hostility to industrial buildings allowances. These are now at a lowly rate of 4p.c. per annum, a rate at which you would have thought would leave them below the notice of the Minister.
BES is due for renewal, or otherwise. It is now confined to small start-up situations and therefore it would seem pointless to kill it. There is a commitment in the Programme for Government to examine the scheme of tax relief for the leasing of farmland. It would not be surprising if some action is taken here, possibly increasing the limit on the relief, which is quite modest.
Don't be surprised if at last the Minister introduces a special 'holding company regime' to attract multinational holding companies to Ireland. This can be done at almost no tax cost. At present Ireland is one of the few countries in the EU without such a regime.
Sit still
By freezing the upper rate band for income tax, and other allowances, inflation will automatically increase the Minister's tax yield. The growth of 'stealth taxes'may be expected to continue. What next? Stamp duty on text messages? Some measures announced last year such as the extension of PAYE and PRSI to benefits in kind, and the ending of indexation for CGT computation purposes, will begin to contribute revenue in 2004, without any new legislation being required. Similarly the withdrawal of rollover relief from CGT last year will only begin to generate revenue over a period of years. The Minister did some of his necessary work last year which will reduce the need for any new measures this year. |
Conor O'Brien is a partner in KPMG.
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| Article appeared in the November 2003 issue.
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