What is a ‘fair’ personal tax rate?

How much of your earnings do you think it fair to give up to the exchequer in tax? Forty per cent? Ten per cent? While our obvious inclination would be to say as little as possible, that doesn’t really address the “fair” part of the question, does it?

But a new report from a UK free-market thinktank, the Centre for Policy Studies, might offer an insight. In Make Work Pay, it sets out a vision to prevent anyone "working more for the state than for yourself". It wants to see workers keep at least 51p in every pound that they earn.

Given that our top rate of personal tax remains 52 per cent – which means some people only get to keep 48 cent of every €1 they earn above a certain level, despite recent cuts in October’s budget – it’s a concept that many people would possibly like to gain traction here.

The vast majority of income earners in Ireland get to keep more of their earnings than they give up. Figures from Revenue show that 79 per cent of income earners either pay no tax or do so at the lower rate of 20 per cent (or 28.75 per cent when PRSI and universal social charge are included).

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But what of the other 21 per cent, the 576,500 individuals and families who pay tax at the top rate of 40 per cent?

Hitting this top rate of tax means that once an individual hits earnings of €35,300 (or €44,300 for single-income couples) every subsequent euro is taxed at 48.5 per cent, once PRSI and the USC are factored in.

So, that extra day’s work if you’re a part-time worker, that overtime, or the promotion that comes with a wage increase but also added stress means you’re going to be giving up almost half of that extra income in tax once you pass the tax band limits and have used all your allowances.

And once your earnings exceed €70,044, more than half, or 52 per cent, will be going straight to the exchequer.

If you’re self-employed and earn more than €100,000, it’s even worse; you’ll lose 55 per cent. Why would you bother?

Participation

Well, it seems that some people simply aren’t. Workforce participation in Ireland hovers around 60 per cent; less than the euro-zone average of about 63 per cent, and far below the almost 70 per cent reached in the Netherlands and Estonia.

But it is our low participation rates for women that may be most notable. As a report from Goodbody pointed out last week, between the ages of 45 and 60, the participation rate among females in Ireland is eight percentage points lower than the euro-zone average. Women in Ireland are not staying in the workforce at the same levels that they do in other countries.

A recent CPL survey noted that just 40 per cent of women who have children return to work afterwards – even though 90 per cent express an intention to do so. The swingeing cost of childcare is an obvious factor, as is the emotional desire to remain close to children.

What is not always considered, however, is the disincentivising impact our tax regime can have.

Consider one of our 576,500 higher-rate taxpayers, with one earner and one stay-at-home parent. If the person going out to work earns less than €44,300 a year, there is a real benefit in the partner going out to work (depending on childcare costs), as the spouse will be liable to the standard rate of tax on combined earnings of up to €70,600.

This can keep the couple’s effective tax rate lower and prevent the “working more for the State than for yourself” issue arising.

Steep tax rate

But if the partner in work already earns €44,300 or more, the other one is going to face a very steep tax rate upon their return to work. Yes, without a personal tax credit (which their spouse will have absorbed) they’ll start to pay tax on earnings of just €8,250. And once they surpass €26,300 they’ll start to pay tax at the higher rate on everything above this limit.

So, if a family is surviving with just one income, the incentives for the other partner to give up their time to work outside the home, taking on all the associated stress and expenses, may not be deemed worthwhile.

Incentivising people to work may always have been an issue. But, as the economy nears full employment, with an unemployment rate of about 4 per cent, leveraging the available “slack” in the economy by encouraging those such as the aforementioned stay-at-home parents to come back into the workforce may prove critical in keeping the economy firing.

Cutting the top tax rate won’t be cheap: Revenue estimates that dropping the marginal rate from 52 per cent to 49 per cent would cost more than €1 billion a year. But how much would it gain on the other side from having more people at work and paying taxes?