Why one in three earners pays no income tax

It is a figure that might surprise, but some 920,700 people will be exempt from paying income tax in 2017.

And no, these figures do not refer to those on State pensions or the long-term unemployed, but rather almost one million people in Ireland who earn an income but do not pay income tax on it.

As the table below clearly shows, removing people from the tax net has long been a public policy goal. Back in 2010 for example, some 45 per cent of income earners paid no income tax and, while the introduction of the universal social charge has considerably broadened the tax base, changes since 2012 mean that some 459,500 income earners have since been removed from the tax base, 42,500 in 2016 alone. So who are these “income earners” not paying income tax – and should they be?

Who doesn’t pay tax?

Revenue figures for 2014 show that some 412,519 “units” earned less than €10,000 that year, a further 74,253 earned between €10-€12,000, and 119,735 earned between €15,000-€17,000 – all below, or close to, the income tax and USC thresholds. Given that a married couple who are assessed jointly are deemed to be one “unit”, the actual number of people under the tax threshold may be considerably higher.

Surprisingly perhaps, Revenues says the figures exclude those in receipt of long-term social welfare payments, such as the State pension or long-term unemployment benefit. This means it is predominantly low-income workers who do not pay income tax, and they are clearly a significant number.

The first tax most people will encounter is the universal social charge, which, from January next year, will be levied at a rate of 0.5 per cent on the first €12,012 of income from January 2017 (assuming you earn more than €13,000 – if your earnings are below that figure, you pay no USC). At the moment, this cohort pays USC at 1 per cent.

After this comes income tax, which kicks in at a rate of 20 per cent on earnings of more than €16,501, and then comes social insurance, or PRSI, which starts at €18,304. One anomaly, however, is PRSI for the self-employed, which actually kicks in at the much lower rate of earnings over €5,000.

These figures mean that those on the minimum wage, of €9.15 an hour (€9.25 from January), would expect to earn an annual income of about €17,568 for a 40-hour week, so even at this level, they would be paying some income tax and USC. So, it’s more likely that low income workers not paying any tax are working part-time, or are self-employed (see below).

Couples, where there is just one earner, pay tax at the same levels of income as single taxpayers, although they do benefit from higher standard rate thresholds – ie €42,800 instead of €33,800 for a single person.

According to the Revenue data, there are almost 10,000 couples married or in civil partnerships, where both are earning but their combined income is less than €10,000 a year, for example, and a further 3,100 where the income is between € 10-12,000.

The self-employed

Whichever you look at it, it’s hard to avoid the fact that the figures point to many self-employed people earning very low incomes – which means that budget measures, such as increasing the earned income credit, won’t benefit them, unless their incomes rise substantially. The Revenue data shows, for example, that some 47,000 self-employed people earned under €10,000 a year in 2014 (the most recent figures available), with almost 45 per cent of these accounted for by single males. A further 15,000 couples, with just one person self-employed, were living on income of less than €10,000 and make up a further chunk of the figures.

And the tax burden on the self-employed may be heftier, as they start paying PRSI on earnings from self-employment at a rate of 4 per cent once they reach an earnings threshold of €5,000 – compared with a threshold of €18,304 for PAYE employees. Moving the income band up to €10-€12,000, you’ll find another 4,718 self-employed people, or some 12,554 people, in the €15-€17,000 income band.

Widows/widowers

The figures also show a significant number of widows earning less than €10,000 a year, with more than 2,000 widows earning less than €10,000 a year. Widowers, on the other hand, tend to fare better, perhaps, with 926 men below this threshold, but then there are also considerably fewer widowers (24,639) than there are widows (63,466), given demographic trends.

To put it in context, the greatest number of widows earn between €20-€25,000 a year (10,346); while the figure is the same for widowers (2,985). These figures won’t include a widow/widower’s pension, which increased by €5 a week in the recent budget.

The international comparison

Unfortunately, it’s not that straightforward to find a direct international comparison, given that the Revenue still counts tax cases as “units” rather than individuals. This means that a couple who are jointly assessed will be treated as a “unit” rather than two taxpayers.

In the UK, the Institute For Fiscal Studies publishes a tax survey which shows that of the 52.7 million adult population, some 29.7 million are income-tax payers, which means that 56 per cent of adults pay income tax. Another figure it throws up is that 73 per cent of UK adults live in a household where someone is paying income tax.

Is it fair to say they pay no tax?

Yes, almost one million people won’t pay any income tax on their earnings in 2017; of these, some 700,000 won’t pay any USC either. However, Micheál Collins, assistant professor of social policy at University College Dublin, is quick to point out that this does not mean that they don’t pay any tax.

“It’s wrong to say they aren’t contributing. People contribute to the State in numerous other ways. When you look at it from the perspective of counting both direct tax (income tax, USC and PRSI) and indirect tax (VAT, excise duties, levies etc), most people contribute the majority of the tax they pay to the State via the indirect system,” he says.

This “indirect” system includes VAT on getting your hair cut or the cost of your newspaper, or excise on your bottle of wine or packet of cigarettes.

Research by Collins at Neri Institute shows that people earning €9,887.07 or less give up just 0.3 per cent of their income in income taxes ,for example, but a whopping 27 per cent in indirect taxes, with VAT on goods and services and excise duties, on petrol, cigarettes and alcohol, the main expense. When direct and indirect taxes are combined, this group has a total tax burden of 27.7 per cent of income.

As a comparison, those in the top income decile, of €154,966.77, give up just 6 per cent of their income on indirect taxes, and 23 per cent on income taxes, for a combined tax burden of 29.2 per cent.

“When you look at the population as a whole, the vast majority of people – 70 per cent of people – principally contribute to the State in indirect ways,” says Collins. “It’s a taxation system rather than an income taxation system, therefore when we look at the contributions people are making, we all contribute in various different ways. We need to remember that when were judging people in terms of the contribution people are making.”

Should more people be brought into the tax net?

The question persists, however, as to whether more people should be brought into the income taxation system. One of the most dramatic impacts of the bust was the number of people who all of a sudden were dragged into the income tax net. Back in 2008, 42 per cent of the population with an income did not pay tax. Fast forward to 2011 and the figure had plummeted to 12 per cent, thanks to the imposition of the universal service charge (USC).

When it was first introduced, USC had to be paid on every cent of income, but the threshold has since risen to €13,000. However, once you cross this income threshold, you will start paying USC on all your income – the first €13,000 is no longer exempt.

Since 2011, however, the policy has been to reverse this trend and take more people back out of the net, even if October’s budget did mark a very slight change in tack. The threshold at which people start paying USC was unchanged at €13,000 but this failure to index against inflation means that, given the overall upward pressure on earnings, some 2,300 people will start paying USC next year.

As a result, the proportion of people outside the tax system will fall back from 37.3 per cent for 2016, to 36.6 per cent for 2017 – while a further 40,000 people will be pushed into the 40 per cent tax bracket.

For the Irish Tax Institute, the concern is that the income tax system has "concertinaed" the people in the middle. "The issue is with that ability to withstand the shock," says Cora O'Brien, tax policy director with the institute, noting that the tax system is becoming increasingly skewed on these middle and higher earners. "They're carrying a heavier weight of the system on their shoulders," she adds, noting that people on lower incomes are gradually paying a smaller and smaller proportion of the total tax bill.

If something happened though that would cause a large number of middle/higher earners to lose their incomes, such as a big FDI employer relocating, the system could be strained.“We’re putting all our eggs into that basket and relying on that group of people,” O’Brien says.

Indeed according to the Irish Tax Institute, in 2017 workers on €35,000 will pay 12.5 times the tax of someone on €18,000, up from 10.9 times before the budget. Workers on €75,000 will pay over 51 times the tax of someone on €18,000 - up from a multiple of 44 times the tax before to the budget.

Collins agrees that the issue needs some consideration.

“We need to think a little bit more about these policies. It does undermine the tax base,” says Collins, adding that narrowing the tax base can undermine the sustainability of the State, but wonders: “Where do we draw the line?”

The other question is, however, whether it makes sense for government to collect income tax from very low income workers.

“There’s not a lot to collect,” notes Collins, while O’Brien suggests that some behavioural analysis would be useful in determining what the potential impact on the overall tax base could be if the income tax net was broadened.