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Saturday, 27th April 2024 |
| New commission on taxation |
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| The Minister has announced his intention of establishing a new Commission to report on taxation. The terms of reference of any such Commission will be critical to its potential for good and its capacity for damage, writes Paul McGowan. |
The previous Commission on taxation
A Commission on taxation produced five reports between July 1982 and October 1985. Few today can recall the existence of this Commission let alone the content of its voluminous reports. Its labours produced a curious mixture of recommendations that were totally rejected and those that have proved enormously influential. Its proposals for a flat tax (as it is now known though the report did not use that expression) on all individual and corporate income and capital gains supplemented by a progressive tax on individual annual expenditure have lain in obscurity since their publication. The recommendations on tax administration, emphasising a transfer of the burden of tax collection from the State to business, were the basis for many Finance Acts since 1985 and helped frame our current system of tax collection.
Lessons learnt
The moral of that experience may be that taxation is too important to permit radical departures and experiments in the structure of the principal sources of State revenues: but the machinery of administration always needs to be updated. Evolution is safer in taxation than revolution; one step at a time risks less than giant leaps. Arguably the Culliton report which considered how to eliminate the tax wedge as a disincentive to the creation of employment and the taking up of employment, and the multi step reforms adopted by Mr McCreevey as Minister for Finance, (especially rate reductions and individualisation) were more important reforms of the structure of taxation than would have resulted from the Commission’s radical recommendations. The gradual evolution of the system that they represented was a safer approach to reform.
A radical rethink of taxation from scratch would likely be a waste of time since it would not result in recommendations that stand much chance of implementation for the reasons referred to above. Thus tightly focused terms of reference are desirable for the commission.
What might we get?
Once again, much was made in the media of a statistic contained in the recently issued Revenue Commissioner’s report that the State’s top 50 earners paid less than 5% taxation. However, less focus was placed on the fact that the vast majority of those with high incomes were effectively taxed at or close to the top rate and that the top 1.5% of income earners paid more than a quarter of all income tax in the State. Furthermore these statistics dated back to 2003. Since amendments introduced last year, nearly 40% of income earners at the lower end of the income scale pay no income tax and relief measures have been significantly restricted in respect of high earners through the introduction of what effectively amounts to an alternative minimum tax.
When announcing the results of this study, the T?naiste also noted the intention of the Government to establish the Commission on Taxation which will further examine tax reliefs and incentives in Ireland. The T?naiste noted that tax incentives were a valid and useful policy instrument, which can be very effective in influencing economic behaviour. But they had to be used judiciously and with an eye to their cost effectiveness and impact on the overall fairness of our tax system. These are all valid comments and we hope that the interests of those focussing on a very small minority of high earners who pay little taxes will not be overly represented on the Commission as any recommendations for a reversal of reductions in tax rates, and the elimination of individualisation with its encouragement to enter the workforce could be extremely detrimental to the Irish economy. Any complete removal of remaining tax reliefs would leave future governments with little ability to intervene in the economy and to influence the direction and amount of private investment.
Apart from the 12.5% corporation tax rate there are few fiscal incentives left in Ireland’s armoury to attract inward investment. The trade unions demonstrated their power two years ago in persuading the present Taoiseach to curtail remittance basis income tax, which was a major tax tool in attracting investment. There is a risk that the remains of that tax system may be put in jeopardy and that the rules governing tax residence may be changed in a way intended to make it difficult for international entrepreneurs to conduct business in Ireland.
Calls for reintroduction of certain wealth and property taxes are occasionally made by some interest groups. Taxes which decrease economic effort as one means of reducing the usage of natural resources have been mooted as possible solutions to environmental issues.
Plainly there is potential for damage to the economy if such interests were given a platform for change through the Commission.
What should the Commission focus on?
There are four principal topics which should concern the Commission:
- the attraction and competitiveness of our tax system for internationally mobile investment
- the impact of the tax system in enticing our own population to engage in economic activity, especially as entrepreneurs but also as employees
- the possibilities of reducing the cost of tax administration for business
- the unsatisfactory manner of forming tax policy, drafting tax legislation and enacting finance acts.
Why focus on these?
The maxim that normally guides a finance minister is Colbert’s oft quoted one – to pluck the goose while causing the least cackling. This could be interpreted as getting as much tax as possible to fund over inefficient services with the least loss of votes but should be interpreted as obtaining the requisite finances with the least damage to wealth creation. Unfortunately in the short term these two modern interpretations of Colbert’s maxim are not the same.
We need to imaginatively review our tax incentives for international investors. We have a relatively low corporation tax rate but it is facing competition from other EU member states. We are constrained by EU rules on state aids and the agreement on unfair tax competition in adopting new incentives. But the challenge is to find new means of getting ahead of the competition.
Our tax system does not greatly reward an employer as opposed to an employee. Both are necessary in our economy but it is from entrepreneurs our future prosperity will come. The only incentives to set up business are the BES scheme, which is mired in red tape and administratively expensive, and a tax relief for interest on investing in a trading company or partnership which relief is also a minefield of conditions.
On the other hand, the entrepreneur is denied the employee tax credit even when subject to PAYE. There are many rules which penalise the controlling director of a family company which do not apply to transactions between an ordinary employee and the same company. Family owned service companies are subject to a tax surcharge on reinvested profits. Trading partnerships can be taxed at the top marginal income tax rate even on reinvested profits, as can most farming activity. Professional services retention tax is an unreasonable cash flow burden on small companies dealing with the large state sector.
The commission should address the questions ‘do we make it attractive to become an entrepreneur and employer rather than being an employee of another person?’ Does our tax system interact with the social welfare system in a fashion that makes the transition from unemployment to employment as painless and as attractive as possible?
With high domestic inflation it is inevitable that job destroying wage increases will be demanded, despite social partnership. It is time to review our moribund profit sharing schemes and penalised share incentive schemes to see what potential they have to dampen the cost of meeting inflationary demands.
It is ironic that it is largely due to the last commission on taxation that the burden of tax administration has fallen onto business. The basic idea of ‘privatising’ tax collection on an unpaid basis is sound from the viewpoint of the state as a whole. But if tax collection is to be farmed out to business it is essential that the rules be made as transparent and clear as can be. Business should not be expected to become tax experts or to be penalised for failure to correctly interpret tax rules. Tax collection at source needs simplification.
In terms of our method for enacting taxation matters, occasionally there is a healthy exchange of views between the Department of Finance and/or Revenue and business before legislation is enacted. However, often there is no consultation and far reaching technical measures are rubberstamped through the Dail with little debate. When consultation does take place, the process can be frustratingly drawn out. It has taken ten years to achieve for the financial services industry nationwide an approximation of the tax regime that was considered necessary for that industry when confined to the IFSC and Shannon. The commission needs to consider how we can have on the one hand more openness and debate in the development of tax policy and legislation and , on the other hand, less time wasting and economically damaging procrastination.
Why the Commission?
A Commission can serve a number of purposes. Conspiracy theorists might suggest that it could usefully serve certain interests as a means of postponing politically difficult decisions or as a means of introducing controversial ideas as if they came unsolicited from an objective source.
However, it could provide a valuable opportunity for consultation and objective advice in shaping the best use of our tax system in developing our economy. We must wait and see. But a commission can have a life of its own. The only control its creators can exercise is through its terms of reference. They deserve careful attention. |
Paul McGowan is a tax partner in KPMG.
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| Article appeared in the October 2007 issue.
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