Flat Tax benefits Top 25% of earners and reduces services for everyone

Cormac Staunton: When trying to understand the impact of changes to the income tax system there are two vital bits of information that are needed: how much do people earn, and how much do they currently pay in tax.

This is especially important if we are to understand the impact of a radical change such as RENUA’s proposal for a flat tax system. Looking at RENUA’s Q&A on their “flat tax” proposal it seems that a number of myths surrounding these two important questions continue to hold sway. 

Here I will show that because people earn less and pay less tax than we think they do, the proposal by RENUA will lead to tax cuts for the Top 25% of earners, higher taxes for the bottom 75% and fewer public services for everyone. 

The RENUA proposal is for a flat tax rate of 23% on all income. A simple way to evaluate this (in the absence of more details) is to look at what people currently pay and then see who likely the winners and losers would be. For this simple analysis I’m only going to focus on taxes on income.

The ‘winners’ would be those who currently pay more than 23% tax as they would get a tax cut. The ‘losers’ would be those who currently pay less than 23% and would see their taxes rise.

So who are they?

Despite discussions of marginal rates of upwards of 50%, most people pay far less than is often believed (principally because of tax credits). Those PAYE earners who currently pay an effective rate of income tax (including USC and PRSI) above 23% are:

• Single people on €40,000 and above
• Married couples with one earner on €55,000 and above
• Married couples with two incomes on €80,000 and above

(you can check these on the Deloitte Tax Calculator). Those below these thresholds would end up paying more tax - based on my understanding of the RENUA flat tax as they have outlined it as of today.

How many people will benefit?

We can get a sense of how many people are likely to benefit from a number of sources.

The first is CSO data from their Survey on Income and Living Conditions (SILC). Below is data which has been analysed by Micheál Collins of the Nevin Economic Research Institute. It throws up this graph which surprise many people:

This is the distribution of earnings. This includes all forms of ‘market’ income: mainly wages and self-employment income. We see that ‘average earnings’ are €32,042.  But half of people earn less than €23,701 (median income) and only 20% of people earn more than €50,000.

From this we can see that people who are likely to gain from a flat tax of 23% are likely to be the Top 25% of earners – with three quarters of workers paying higher taxes.

Revenue’s own statistics give much the same result. Although these numbers are from 2012 we get a very similar picture.

Table 1

Firstly in terms of what people pay in tax, Table 1 shows that those above €50,000 pay on average more than 23% total income tax/USC/PRSI (and would get a tax cut). Those below €50,000 currently pay less than 23% and so would experience a tax increase. (NB these are tax units, not individuals. Some will be married couples. Also Revenue give a figure for tax and USC paid. I have added 4% for those above €17,000 to account for PRSI).

This compares with the Deloitte Tax calculator data above (although this data is 2012, and Deloitte Calculator is for 2015).

So how many people will benefit? The Revenue Statistics also show the numbers of tax units in each income group so we can draw the same line at €50,000 and get a sense of how many units are above and below the line (Table 2).

Table 2

This time we see at 78/22 split – again allowing for income rises since 2012 we can again assume that it is the Top 25% of earners who will see taxes fall, with the bottom 75% paying more.

Other issues

There are a number of further issues with the RENUA proposal for a flat tax of 23%.

The first is relying on tax cuts for the rich to stimulate growth. This is ‘trickle down’ economics which is being more and more discredited by evidence and experience. The fact is that those with higher incomes are less likely to consume local goods and services than those at the bottom. Indeed the IMF recently published a staff paper showing that

“if the income share of the top 20 percent (the rich) increases, then GDP growth actually declines over the medium term, suggesting that the benefits do not trickle down” 

 Secondly RENUA use the example of the PRSI step effect to advocate for a flat tax policy.

A single worker earning €17,992 (i.e. working full-time on minimum wage) in Ireland has a net take-home weekly pay of €332. If they earn €10 euro extra per week (bringing their annual gross earnings to €18,512), their net take-home weekly pay DROPS to €326

Indeed, the PRSI Step effect is a problem but it happens at one point in the tax system only. Citing one example as a means to undermine the idea of progressive taxation is misleading at best. While TASC has shown that it can be fixed, the answer is not a flat tax system. 

Finally - RENUA acknowledge that this tax plan will lead to a decline in the overall funds available to the state the run vital public services. RENUA are anticipating this flat tax scheme would 

“result in a tax take of €12.33 billion, versus the current take of €15.84 billion. Though this equates to a difference of 22 per cent in tax take”.

Given that Ireland already has one of the lowest overall tax takes in Europe this would seriously undermine our ability to provide public services that people rely on, with three-quarters of earners paying more tax to get fewer services.