Budget 2017: the crunch points

Every Budget is difficult. But some are more difficult than others. The political backdrop to Budget 2017 was already tricky, with a minority government relying on support from Fianna Fáil and the Independent Alliance. And that was before Brexit.

All this comes a few months after a general election campaign which saw promises ranging from major new spending programmes in health, education and elsewhere, to the phased abolition of the USC.

When you only have a net €1 billion to play with in tax cuts and spending increases, it does not leave a lot of room for manoeuvre. There is always the choice, of course, to raise taxes or cut spending elsewhere. And there will indeed be some tax hikes – higher diesel prices and cigarettes – but the row over water charges means there will be no significant tax increases. And in a political environment where everyone is falling over themselves to say the priority must be more spending, there won’t be any cuts there either.

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No doubt a few euro will be found down the back of some sofa to make it the “billion and a bit” Budget.

There has been some comment – from the Irish Fiscal Advisory Council – that this is absolutely as far as the Government should go, with the economy already growing strongly. And the ESRI has said that the Budget should not add spending power to the economy, which it says is already growing at full capacity. The Central Bank in its quarterly bulletin on Thursday said much the same.

The reality of the numbers is that any addition of spending power will be modest – amounting in net terms to no more than €3 per worker in tax cuts and a modest boost to spending. This is not a Budget which is going to turbo-charge the economy, not by a long shot.

In fact, in the wake of all the election promises, it is more likely to be one that leaves the public distinctly underwhelmed.

KBC economist Austin Hughes has put the position of the punter in perspective. Having fallen sharply, average wages are only now returning to levels seen in 2008/09.

However, the average income tax paid per worker, including Universal Social Charge (USC), has jumped from €6,000 per annum in 2008 to about €9,400 in 2016. No wonder the political atmosphere is so nervous.

The Government’s strategy might have been to give a bit this year and promise – on the basis of Budget forecasts for future years – to give more later. But even this “jam tomorrow” strategy is now under threat.

The UK economy may have escaped a major hit to date from the Brexit vote, but Theresa May’s announcement that formal exit talks will be triggered in spring has brought the whole issue back into sharp focus.

Sterling has fallen in response, highlighting the threat to jobs and incomes in Ireland and casting significant uncertainty over forecasts for future years. Sources say there is now significant Government concern on the issue and feedback from backbenchers of worries across the country, particularly in exposed sectors such as food and tourism, and in the thousands of businesses who compete with British companies on the home market.

Suddenly all the talk is now of a Brexit-proofed Budget – as well as one which will meet wider political demands. But what on earth will it look like?

Brexit

There is no simple Budget answer to Brexit. But there is a lot for the Government to consider. The first thing is the obvious – it must leave some leeway in its financial sums in case a bigger than expected hit to growth appears in the UK, and affects us. We are reaping huge savings from being able to raise money cheaply on international markets, so continuing to hit our financial targets is vital to the Budget outlook in the next few years.

But the Brexit conundrum goes way beyond this. The Government is already under pressure to take direct action to support jobs under threat from sterling’s fall. And a whole host of other issues are also relevant to the Budget. How should we respond to the risk that Britain will take a much more active approach to attracting inward investment? And what about the argument that Britain could attract smaller businesses to relocate from Ireland? And the opportunity of attracting financial services firms here?

All these point in a similar direction, in terms of the need for Budget policy to underpin competitiveness here – and not to allow personal taxes to go further out of line with Britain. All the business measures in the Budget will thus be seen through the lens of Brexit.

There will be specific responses, some of them already flagged. There will be no change in the 9 per cent VAT rate, any talk of increasing is gone with the threat to tourism from the UK. There will be extra money for Enterprise Ireland to boost exports to markets beyond Britain. And there will be specific financial measures, including a promised scheme to provide finance to exporters targeting new markets and possibly some temporary supports for companies hit by sterling’s fall. There will also be the extension of small business lending supported by the state-backed Strategic Banking Corporation of Ireland.

In light of the Apple ruling, the Government will make the traditional recommitment to maintain the 12.5 per cent corporation tax rate and will signal a study of future corporate tax options.

And there will be specific measures to support entrepreneurship, via a reduction in capital gains tax for entrepreneurs selling businesses to 10 per cent, subject to certain restrictions and significant measures to support so-called “share-based remuneration”, share options and other mechanisms through which companies reward employees via a stake in the company.

The overall theme will be supporting business through Brexit. Some useful measures are likely, but it remains to be seen how business will react to the terms and conditions which will apply, traditionally a difficulty, particularly in areas such as supporting entrepreneurship. And the underlying fact remains that there is only so much the Government can do when confronted with the kind of massive change which Brexit will bring.

– Cliff Taylor

Housing

If there is one issue Ministers Paschal Donohoe and Michael Noonan can't avoid addressing, it is housing. While some measures have been introduced recently to help alleviate the crisis, the situation has continued to worsen. Supply is still declining, and rental costs and asking prices for the few homes that are available to buy, are rising.

Ireland needs to build at least 25,000 homes a year to meet a Government pledge to provide at least 125,000 homes by 2021, but only about 14,000 are expected to be completed by the end of 2016.

Given that the main problem is a lack of supply there are no quick fixes available that the Government can introduce in Budget 2017. Moreover, with the Central Bank in no rush to relax the stricter lending rules it brought into force early last year, the options are somewhat limited.

Still, there is plenty of speculation on steps the Minister is considering. These include measures to placate first-time buyers, many of whom face the double whammy of needing to find more for a deposit at a time when they are paying record rents.

A new scheme introducing an income tax rebate aimed at enabling first-time buyers to accumulate cash to cover a deposit is on the cards with the refund expected to be in the range of €5,000 to €15,000.

The scheme, which is expected to be linked to the price of a home, rather than earnings, has already come in for criticism as it is likely to be limited to new builds. The thinking behind this is that it will encourage more developers to enter the market as well as assisting prospective homeowners.

However, developers will probably be more excited by the prospect of a reduced VAT rate of 9 per cent (down from 13.5 per cent) on new affordable houses and apartments, which Mr Noonan is also reported to be weighing up as a way to encourage increased building.

The Irish Property Owners’ Association estimates that 40,000 private landlords left the rental sector between 2012 and 2015. While property funds are stepping into the breach, the departure of landlords has added to the rental crisis. The Government will hope to persuade many of them to stay in the game by reducing taxes in Budget 2017 with the controversial cap on tax-deductible mortgage interest expected to be reversed.

For other existing home owners, a significant number of whom remain in negative equity lest we forget, the situation is less clear. Mr Noonan has a range of options that could make life easier for them, including freezing property tax rises, extending the home renovation scheme and even allowing them to rent out rooms or their entire homes via Airbnb without paying most of the gains back in tax. Whether any or all of these options are followed-up remains to be seen, but housing will certainly be a key part of Budget 2017.

– Charlie Taylor

Closing loopholes

With Irish commercial property having delivered an average 25 per cent return in each of the past three years, following a slump during the financial crisis, the use of tax-efficient vehicles by overseas buyers of property has been thrown into sharp focus this year.

Minister for Finance Michael Noonan moved early last month to close down a tax avoidance device in special purpose vehicles (SPVs), set up under Section 110 of the Irish Taxes Consolidation Act, 1997, holding Irish properties.

While the tax laws were originally set up to make Ireland an attractive location for international debt securitisation and promote professional services employment in the IFSC, SPVs became a favourite vehicle for so-called vulture funds to stuff loans bought in Ireland during the financial crisis – virtually tax-free.

Private equity and investment firms that used SPVs to house Irish loans include Lone Star, Oaktree Capital affiliate Mars Capital, Davidson Kempner and Goldman Sachs.

As a result of mounting political pressure, Noonan decreed that profits on Irish property in such vehicles would incur a 25 per cent tax from September 6th. However, interest payments on loans from other companies in the investor’s empire will be deductible against tax, provided the lending company is based in Ireland or, subject to some conditions, the European economic area.

Now Noonan’s focus is on other funds beloved by vulture funds and their tax advisers: Qualifying Investor Alternative Investment Funds (QIAIFs), used by companies such as Californian property group Kennedy Wilson, and Irish Collective Asset Management Vehicles (ICAVs), deployed by the company that bought Clerys department store in a controversial €29 million deal last year.

Noonan hinted last week that he is considering applying a tax to income sent to overseas investors on Irish property held in QIAIFs and ICAVs. Currently, only Irish residents invested in these vehicles face withholding taxes, of up to 41 per cent.

The law changes are being planned for the Finance Bill, which is to be published weeks after the Budget is unveiled. It is understood that a number of exemptions will apply to any withholding tax due from non-residential investors in QIAIFs and ICAVs, with sources suggesting the funds which have multiple owners, of an as-yet undetermined level, may avoid the levy.

Noonan said in the Dáil on September 29th that any measures “will be targeted to ensure that they do not adversely impact on the wider funds industry, which is of great importance to the broader international financial services sector”.

Irish domiciled funds held a total of €1.94 trillion of assets across 6,284 entities at the end of July, according to the Irish Funds Industry Association. Over 13,000 people are involved in the industry, Noonan has said.

– Joe Brennan

Infrastructure

The strength of Ireland’s recovery has highlighted significant infrastructural bottlenecks in transport, housing, education, water and broadband.

The situation is exacerbated by decades of underinvestment and demographic pressures, with Ireland still having the fastest growing population in Europe.

To address the problems, the Government has added €5 billion to its current capital investment plan “Building on Recovery”, bringing the total spend to €32 billion for the period 2016-21. However, this only equates to around 2.5 per cent of gross domestic product (GDP) per year, which is the second lowest in the EU.

Even with interest rates at historically low levels, the Government is constrained from deploying additional funding by EU fiscal rules, which critics maintain focus governments on short-time horizons inadequate for big infrastructural projects.

Department of Finance officials are attempting to negotiate some flexibility with Brussels while there is a possibility that some of the Irish projects could be developed under the so-called Juncker plan, which allows for strategic capital investment outside of the fiscal rules. However, the scale of the problem may require more than just wriggle room.

Employer’s group Ibec believes the Government will have to spend an additional €1 billion a year on social housing on top of Minister Simon Coveney’s recently announced housing plan if the shortfall in supply is to be addressed.

Two big pieces of the road network infrastructure – access to the northwest and the Cork to Limerick motorway – have also still to be planned and budgeted for while public transport in Dublin is now considered woefully inadequate for a modern European capital.

Minister for Transport Shane Ross this week reaffirmed the Government’s commitment to Metro North and Dart Underground projects but they are unlikely to arrive before the middle of the next decade and the funding arrangements have not been fully worked out.

Funding for the planned overhaul of the State’s water infrastructure is now also in doubt following the debacle of Irish Water while demographic pressures alone necessitate another major school building programme.

Minister for Public Expenditure Paschal Donohoe announced an additional €1 billion in capital spending in the Summer Economic Statement on top the additional €4 billion included in the Partnership for Government.

Whether he will add to the pot in next week’s Budget is unclear but most interested parties want to see at least a firming up of existing commitments and perhaps a pledge to re-assess the overall capital spend in light of the current pressures.

In recent pre-budget submissions, Engineers Ireland and the Association of Consulting Engineers of Ireland also called for the establishment of a single entity charged with prioritising integrated infrastructure development – something along the lines of a national infrastructural council.

– Eoin Burke-Kennedy

Minister for Public Expenditure and Reform Paschal Donohoe and Minister for Finance Michael Noonan can’t avoid addressing housing in Budget 2017. Photograph: Brenda Fitzsimons