Ronan Lyons | Personal Website
Ronan Lyons | Personal Website

Can Ireland afford to increase its corporate tax rate?

Two weeks ago, I suggested that Ireland should look at two of its taxation policy sacred cows, as the country attempts to plug a hole approaching €25bn in its tax receipts with a mixture of tax increases and spending cuts. The first sacred cow, introducing a residential property tax, was discussed in more detail last week. The second is increasing the statutory corporate tax rate.

As was pointed out in comments two weeks ago, despite (or actually because of) its low rate, Ireland actually takes in a reasonable proportion of its taxes from company profits. In 2005, for example, Ireland took in just over the OECD average, relative to GDP – you can check out the full figures at Table 4.04 on page 79 of the Annual Competitiveness Report.

However, corporate tax receipts have fallen 13% in the last two years. Therefore, what got us our success in times of peculiarly benign global forces cannot be relied upon to deliver the same to our coffers in a changed economic environment. That is not, of course, to say that we should abandon the policy of an attractive business environment, as Accenture’s announcement that they will relocate their HQ to Ireland shows. We just need to be more aware of the increasingly complementary nature of capital and skilled labour.

Are Irish corporate tax rates low? And what capacity do we have to increase them? Charles Swenson and Namryoung Lee of the Marshall School of Business have estimated not just the statutory rates changed by central government but also the ‘effective tax rate’, i.e. what taxes companies actually pay, taking into account differences in the tax base (worldwide versus territorial), differences in incentives and tax credits, etc. The map below shows the effective tax rates for each country. (Incidentally, for those curious about the new mapping tool, I’m trying out Google Fusion, which is their data visualization counterpart to IBM’s Manyeyes.)
As you can see, taking account of all the finer points of taxation in each country, Ireland is still a low tax country for business – but not as low as taking the statutory rates alone. Of the 70 countries surveyed, Ireland has the 7th lowest official tax rate but the 15th lowest effective tax rate. Countries such as Hong Kong, Hungary and Iceland, which have higher official rates seem to have other incentives than just low tax rates – their effective rate comes out at less than Ireland’s (or indeed the UAE, Bermuda or the Cayman Islands). What is interesting – as shown in the second map below – is that Ireland is one of the few countries to have a higher effective rate than the statutory rate. The map below is back in Manyeyes – choose Eff/Stat gap from the menu top left to see how few countries have an effective tax rate higher than their headline rate. The typical country has an effective tax rate that is 4.3% below the headline rate. Ireland’s is 3% higher.
The capacity to increase the headline rate of corporate taxation from 12.5% depends on two things: (1) how smart you think big business is and (2) who you think Ireland’s competitors are. On the first, if business is drawn in by headline rates and carries on oblivious to the effective tax rates it starts to observe once it’s set up in a country, then an increase to 15% will be a lot less effective than other under-the-radar measures that would push Ireland’s effective rate towards 18%. It would seem from the typical country’s discount under headline rates that the opposite is the case. Business certainly likes lower tax, and doesn’t seem to mind too much if they happen on the headlines or under the radar. A clear and open increase to 15%, discussed with big business already in Ireland, should not have an impact on business here, particularly if it prevents Ireland from becoming less attractive to skilled labour through higher income taxes.

Secondly, who are Ireland’s competitors? As Ireland acts as an EMEA headquarters for many US firms, the EU is a natural grouping to compare ourselves too. We can go one better and compare ourselves to the rest of the OECD – which includes Switzerland as well as our Anglo-Saxon offshoot cousins. Among the OECD, we have the third lowest effective tax rate at 15.5%. Were we to increase that by 1.5 percentage points, we would still have the third lowest – ahead of Chile and Turkey, hardly major competitors for the same types of projects as Ireland. (One potential stickler, for those paranoid about Singapore, who are not in the OECD, is that their effective rate was 18% in 2006 and 16% in 2007.)

A well-communicated one-off increase in our corporate tax rate to 14%, therefore, would be most unlikely to price us out of the types of mobile foreign direct investments that we target. It may actually enable us to keep in the hunt for FDI projects seeking skilled labour, if it means we don’t have to increase our income tax rates above where they are currently. As we look for €10bn in tax increases – as well as €10bn or more in expenditure cuts – I don’t think we should ignore the €1.5bn or so such as measure could give us. The question posed at the start should nearly be flipped around: can we afford not to increase our corporate tax rate?

  • Gerard O'Neill ,

    “A well-communicated one-off increase in our corporate tax rate to 14%, therefore, would be most unlikely to price us out of the types of mobile foreign direct investments that we target.”

    Em, I think you mean ‘other things being equal’ Ronan. But what about second order effects? We are the only country in the OECD that is pushing up tax rates at present. Think vat.

    So we might just find more than Chile and Turkey joining the club of countries with lower tax rates than Ireland. A subset of that much bigger club of countries with much lower costs of doing business overall.

    And once you move away from the ‘sacred cow’ of low corporate tax rates what signal does that say about the future of corporate tax rates to any would be investor/emea head office relocator?

    • Ronan Lyons ,

      Hi Gerard,
      The argument that I’m making is precisely taking into account your two points.
      (1) What are the second order effects? Who is anywhere close to our 15.5% tax burden? In 2006/2007, the six closest economies that could be perceived as competitors (Switzerland, the UK, Austria, Denmark, Canada and the Netherlands) were all between 20% and 25%. A one-off inch upwards, maintaining an overall perspective of how attractive we are or are not, is certainly possible in that environment. Don’t be fooled by headline rates (which incidentally put even further distance between us and our ‘competitors’) – look at the real rates paid.
      (2) You talk about signals – but we’ve been here before. We increased the rate from 10% to 12.5%. That was because of economic necessity, and the business community understood – the fundamental maths of coming here still added up. We now an even greater economic necessity, and we need to make the business community understand again. This isn’t slippery slope/thin end of the wedge stuff, and business can surely understand that, namely a full economic plan outlining sustainable taxation and spending policies and the need for a one-off increase that still makes Ireland one of the best locations to set up shop.

      It is my opinion that business would prefer – and set up more meaningful operations in – an Ireland with slightly higher corporate tax rates, but with a supply of skilled labour, than in a shell of an Ireland, similar to a tax haven, which is unable to attract skilled labour here because of prohibitively high income tax rates. Personally, I would also prefer that Ireland, and I think most people here would too, if it’s possible. This is the choice we face, and I think it’s possible.

      • karl deeter ,

        there are some other factors though, in some countries in the continent a start up business has VAT relief for the first 5yrs (or something like that – i heard this from a tax guy i know who said that they find other ways of making business cheaper on the mainland). what i would also say is that raising a tax because it is possible is different than raising a tax because you should, i’d rather see targeted spending cuts come before widening the tax base via businesses when companies are already shutting down left and right.

        • Ronan Lyons ,

          Hi Karl,
          Thanks for the comment. I agree on the expenditure cuts – but bar taking out one third of the entire public sector, we’re also going to have to look at our tax base. Also, businesses go under when they’re making no profits. This is a tax on profitable business.
          R

          • Ronnie O'Toole ,

            Ronan,

            The increase from 10% to 12.5% in 1998 wasn’t from ‘economic necessity’, but was a massive tax lowering exercise, as it merged the 10% (manufacturing and IFSC) and 40% (other) rates. I think the sigalling problem is a massive issue.

            Further, we have a far higher coproration GDP than other countries. Given the rates you showed, we are possibly very close to our peak earning capacity from corporation tax. you would certainly have to prove the case that raising taxes (even without signalling problem) would increase revenue significantly.

            Ronnie

            • Ronan Lyons ,

              Hi Ronnie, thanks for the comment. I would argue that 1998 was economic necessity, because essentially all FDI was on 10% and went up to 12.5% because something much worse was the outside option. I’m arguing that the outside option – an Ireland not attractive to skilled labour – is just as unsatisfactory now.
              On your second point, we don’t actually have a far higher corptax/GDP ratio than other countries – table B here (http://www.oecd.org/dataoecd/48/27/41498733.pdf) shows that in 2006 we were below 9 OECD counterparts: Australia, New Zealand, Japan, Czech Rep, Denmark, Luxembourg, Norway (the outlier), Spain and the UK. We were on a par with South Korea, Canada, Belgium and Sweden and not that much ahead of the USA, Finland, Italy and the Netherlands.
              My argument is that by increasing the effective rate from 15.5% to 17%, we do not endanger our relative position (OECD ranking stays the same), i.e. inelastic response. I would love to get the thoughts of someone from the IDA who deals day to day with the companies, but I think those conversations are probably held at a higher and more discrete level than a blog!

              • Ronnie O'Toole ,

                This doesn’t answer the point: The ‘signal’ in 1994/7 for Ruari Quinn was that we had to change our whole taxation system. No equivalent exists today. I don’t understand way saying someting is of ‘economic necessity’ would give any investor any confidence that it is once off. Will we not have any ‘economic necssity’ in 2012 or 2015 or 2020? There is alway pressures on finances. Even domestically, the idea that this is now an option will increase the political pressure to use it in the future. Even if we are well meaning in saying this is a once off, we can’t answer for what fuiture politicans/voters choose to do.

                MNCs (particularly pharma) make very heavy cpaital investment decisions when they come to Ireland. Any signal that corproation tax rate is ‘now on the table’ would be incredibly dangerous.

                • Ronan Lyons ,

                  I think we’ll have to agree to disagree! IMO, the change needed in our entire taxation system now is vastly greater than the need in the late 1990s. A 10% tax rate for all business was – truth be told – an option, they just knew they could get away with 12.5%.
                  I do agree with you that an arbitrary increase in corporate tax rates would be self-defeating, but as part of an overall strategy in relation to actually revamping our tax system, and our expenditure, to plug the €25bn gap in a sustainable way, it’s my opinion that it could work.
                  The alternative, incidentally, is to keep the rate at 12.5% but just increase the effective tax rate, through indirect means, from 15.5% to 17%, and not tell anyone. Overcomes your signalling problem, but I prefer the clarity of message of the former.

                  • Ken ,

                    US cies in Ireland (with really few exceptions) had only provided short term low skilled jobs (admin & call center types) so it will not be a big loss if the ‘bluff’ from the US chamber of Commerce advocating that cies will leave if the corp. rate is increased..is not a bluff. US cies had started to leave the country before the crisis to relocate in eastern europe (mainly Poland…which for info has a corporate rate of 19% ). Ireland should rely on its own indigenous development and strenghten its links with its real partners..the European countries rather than importing an elusive short term economy that is now in Poland then in 15 yrs time will move to india then in another 15 yrs to Africa (where it cannot be cheaper to be). To the next Taoiseach : Spend the next paddy s days here and invite Cameron or Sarkozy but do not go to Washington..it is really pathetic.

                    Leave a comment