The Universal Social Charge (USC) is a great tax. Many progressives were critical of its introduction and rightfully so. In replacing the Income and Health Contribution levies, the USC ended up increasing tax on low income earners – at a time when the economy was still melting down, people were losing their jobs and income was falling. That was inequitable and economically irrational.
However that is a criticism over rates and thresholds – elements which can be easily changed. The reason the USC is great tax is because it is simple, transparent and, most of all, no matter how many tax accountants you hire, you can’t escape it. The tax has almost no exemptions, reliefs, or allowances – unlike the income tax system.
Dr. Tom Healy of the Nevin Economic Research Institute made an interesting observation:
‘Perhaps there is a case for abolishing income tax as we know it, replace it with USC, make the rates more progressive (e.g. by introducing three or even four bands) and then re-term it as ‘income tax’! . . You see - the beauty of USC is that, it applies to many different kinds of income, it is not riddled, to the same extent as ‘income tax’ with all sorts of reliefs and exemptions, it is reasonably simple to understand and operate.’
Now that's blue-sky thinking. Check out this little stat: income tax– with tax rates of 20 percent and 41 percent - raises €11.4 billion in revenue. The USC, with a tax rate of 7 percent raises €3.9 billion. At a much lower rate, it raises over a third of the entire income tax system.
To raise the same amount as income tax, the USC would need to be raised to 20 percent (with the lower rates rising proportionally). A tax rate of only 20 percent would raise as much as income tax. That’s pretty effective and efficient.
This is not an argument for a flat-rate tax. Dr. Healy points to the potential of introducing three or four different tax bands. In fact, in the EU-15 only Ireland and Germany have two tax rates. Other countries have three or more:
- Austria and the UK have three rates while Sweden has two central tax rates and one local
- The Netherlands has four tax rates
- Belgium, Finland, France and Italy have five tax rates
- Spain has seven central tax rates and four regional rates
- Luxembourg has 18 tax rates (yes, 18)
So a number of tax rates can be used, rather than an essentially flat-rate.
Moving to a USC-based income tax system would mean the end of personal tax credits and a number of reliefs, allowances and exemptions. The system would be entirely individualised (that is, there wouldn’t be different thresholds for single and couples). It would result in an administratively simple system. And it would mean that tax rates and thresholds could be lowered without reducing tax revenue. In other words we could reduce tax rates, extend thresholds and still maintain current tax revenue.
Be warned: the following is my own back-of-an-Excel-sheet estimate, using Revenue income distribution figures. Unfortunately, these treat ‘married couples’ as one tax unit; further, there can be double-counting where someone has two jobs. So, I’ve tried to make adjustments but this is all very ball-park.
Currently, income tax and USC combined raise approximately €15.3 billion. To raise a similar amount, what could a USC-based income tax system look like?
- Keep the lower tax rates of 2 and 4 percent up to €16,000
- A standard tax rate of 20 percent extended to €40,000 (the current tax threshold is €32,800)
- An intermediate rate of 35 percent between €40,000 and €55,000
- And a top rate of 45 percent on income above €55,000
This would dramatically reduce the marginal tax rate (the rate of tax applied to the next Euro you earn). Excluding PRSI, for someone currently on the standard tax rate, the marginal rate would fall from 27 to 20 percent. For someone on the average wage, the marginal tax rate would fall from 48 percent to 20 percent. Even at the very top, the marginal tax rate would fall from 48 percent to 45 percent – and you only reach the top rate of tax €55,000 (currently it is €32,800).
So marginal tax rates are slashed but tax revenue is maintained. That's because the overall 'effective' or average tax rate stays the same. The idea is that most of the impact would be absorbed by higher income groups which avail of more reliefs and allowances. I’m not recommending this particular model of rates and thresholds, just showing the potential.
The above doesn’t provide for any tax reliefs. Certainly, we would need tax credits for dependent adults (where there is one person working). We could introduce a number of other credits – mortgage interest relief, health insurance and pension contributions – but for each credit introduced, we’d have to increase the tax rates or lower the thresholds or both.
However, moving towards a USC system would allow us to revisit the way we provide resources for particular households. Take the Blind Persons’ Tax Credit. The implication of moving to a USC-based system would be to remove this credit (don’t forget, the reason marginal rates fall and thresholds rise is because almost all the credits and reliefs are removed from the system). This credit is worth €1,650 (or approximately €32 per week). There is an additional relief for guide dogs worth €165. Removing the tax credit from Blind Persons would seem, at first glance, inequitable.
But let’s look at what the Commission on Taxation says about this credit when it recommended that it be abolished:
‘We consider it inequitable that this tax expenditure only benefits blind persons who are liable to tax and with sufficient income to absorb the credit; blind persons on lower incomes or those dependent on social welfare obtain no benefit from this credit. We recommend that the appropriate level of State support be provided to blind persons through the direct expenditure route and that the tax credit be discontinued. However . . direct expenditure support at the appropriate level should be put in place first; only then should the tax credit be withdrawn.’
So those on social protection and those at work, but whose income is so low that they don’t pay income tax, do not benefit from this credit. This is not equitable. The Commission’s proposal would mean that all people with visual impairment would benefit – regardless of their employment or tax status.
We could go one better. We could increase the direct payment and tax it. This would mean that those on low incomes would benefit even more while those on high incomes would receive only a proportional benefit, commensurate with their income. This would turn the payment into a progressive one.
There are a number of tax expenditures that could be turned into direct payments with progressive effect. Another one is the credit for households with an incapacitated child. This is a valuable credit for households with real needs; however, those on low incomes do not benefit. Again, the Commission on Taxation proposes the credit become a direct expenditure equivalent to the same amount – and then abolish the credit.
So moving to a USC-based system is not just about tax rates and thresholds – it also includes the way we deliver support to households. This is about reforming both our tax and social protection system.
Such a system could facilitate a move towards a strong social insurance system. Ireland is an above-average income tax system in the EU but a real bottom-dweller when it comes to social insurance – especially employers’ social insurance. Moving to a USC-based income tax system could facilitate a rebalancing between income tax and social insurance, between the contribution of employees, self-employed and employers.
We would need more detailed data and an assessment of the impact on different income groups – especially those that rely on crucial tax reliefs to make ends meet. And transforming the tax system is harder when the economy and incomes are stagnating. So care has to be taken at each stage and would probably have to be phased in.
But this approach can put progressives in the driving seat. The Government is promoting a crude tax-cutting agenda – which will have a negative impact on public investment, public services and income supports. They can drive this agenda by focussing on the marginal rate. Progressives must ground themselves in the ‘effective’ tax rate. You can have a seemingly progressive system with high marginal rates but if the system is stuffed with tax reliefs and exemptions which high income groups can use, this means that the average tax paid is much lower.
The key issue is reform. Should we ‘abolish income tax’ and substitute a USC-based system? It is a reform worth debating – and progressives should lead that debate. Dr. Healy suggests a car bumper-sticker campaign, highlighting the benefits of the USC. If I had a car I would put one on. It would read:
I ❤ the USC.