Budget 2015 is five months away, but rumours of income tax cuts have not been dampened by the Government parties in recent weeks. Indeed, the wider debate has been more about where, rather than whether, to deliver tax reductions. In forming the budget, the Minister for Finance will need to consider a number of issues before making any decision. Affordability, challenges within the tax system and our medium- to longer-term personal tax strategy all require thought.

Are tax cuts affordable?

The Government has already committed to a balanced budget by 2018. The next step in bridging our €4.8 billion budget deficit was expected to be through reducing

Government spending by €2 billion in 2015. Tax cuts now could compromise these plans.

However, exchequer figures for the first four months to April 30th show total tax receipts at €222 million ahead of target. While income tax receipts beat target, VAT receipts were behind target. The former fuels the argument that reducing the income tax burden is affordable. Additionally, the VAT position has also led to fresh calls, including from Retail Ireland, to reduce income tax on the basis that higher net take home pay should increase spending.

On balance, modest income tax cuts appear achievable for 2015.
How might income taxes be cut?

Potential avenues to reduce income tax were explored last year by the Government’s Tax Strategy Group, an internal Government team. These include:

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per cent reduction in the top rate of income tax to 40 per cent would cost the exchequer €195 million annually. A cut in 2015 could certainly help encourage key talent to remain in or move to Ireland over the next few years. Politically, it may be divisive for the two Government parties.

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per cent reduction in the standard rate of income tax to 19 per cent would cost €460 million annually. This would benefit almost all taxpayers but it may be too blunt to allow the Government meet its stated objective of focusing cuts on middle-income earners.

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per cent cut in the top rate of USC to 6 per cent would cost €450 million. It would be difficult for Government to target such a reduction at a specific segment of society.

Increasing the PAYE tax credit by €100 to €1,750 would cost €130 million. Increasing the personal tax credit by €100 to €1,750 would cost €185 million. Neither option is likely to make a big impact on

take- home pay.

Introduce some other form of tax credit (e

g a tax credit for each child has been mooted by some Ministers in recent days). Costs are unclear.

€100 increase to €32,900 of the standard-rate band would cost €15 million. Most Ministers have identified this band as the most appropriate area for adjustment.

It would benefit middle- and higher-income earners primarily.

Introducing a middle tax rate. This may appeal to the Government and is more likely to resonate with middle-income earners.

It may come as a surprise to many that with 2,173,500 income earners in the economy, 39 per cent of those are exempt from income tax. Furthermore, those on low incomes also have access to certain means-tested supports from the Department of Social Protection – many are exempt from income tax and all are exempt from the USC. A water charge exemption may follow.

Forty four per cent of income earners pay income tax at the standard rate only. International comparisons looking at a single person on average earnings (€32,626) indicate Ireland has the lowest tax wedge (including PRSI) of all 21 EU members of the OECD. This implies Irish standard-rate taxpayers have relatively low income-tax charges.

Bearing this in mind, the Government could decide to target tax cuts at the 379,400 (17 per cent) of income earners who are subject to the 41 per cent rate and who qualify for little or no social transfers or exemptions.
Medium- to longer-term income tax strategy:

It is clear that the headline tax rates in Ireland are high by international standards. A 48 per cent effective rate applies on income above €32,800, made up of income tax

. In Germany, a 42 per cent rate applies to earnings over €52,882 and the top 45 per cent rate applies on income over €250,731. The UK has a similar approach with income between £31,866 and £150,000 taxed at 40 per cent and any excess over £150,000 taxed at 45 per cent.

The UK experience is interesting. UK chancellor George Osborne cut the 50 per cent top income tax rate to 45 per cent from April 6th, 2013. The rationale was partly explained in a UK government study from March 2012 which concluded that “high tax rates in the UK makes its tax system less competitive and . . . a less attractive place to start, finance and grow a business”.

The Minister has created a little leeway for the Government by suggesting the income tax cuts will be completed over a two-year period. It may be that his appetite for change will be more evident in budget 2016 when the impact of any tax cuts could be fresher in the mind of voters at the next general election.

However, tinkering around the edges is not likely to have any meaningful effect. Other countries are looking at medium- to longer-term implications of high headline tax rates and we need to do likewise. It would be reassuring if strategic considerations for Ireland remain uppermost in his mind when the Minister does finally decide on where to direct policy on income tax cuts.

Pat Mahon is Employment Tax Partner, PwC