Why a 23 percent Flat Tax Leads to Inequality

An examination of the economics of flat taxes

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RENUA propose introducing a single 23% tax on any income over €8,000, including welfare payments, and abolishing the Universal Social Charge (USC) and Pay Related Social Insurance (PRSI).

 

Currently Ireland has two basic rates of income, 20% and 40%. Depending whether you are single, a lone parent or married the higher rate of tax kicks in between €33,800 and €42,800. Everything below this amount is still taxed at 20%.

 

Therefore you won’t take home less because you’ve moved into the higher bracket.

 

This is called a progressive tax system. The idea is that those who can afford to contribute more to the public system should pay more.

 

Proponents of the flat tax model argue that it is a fairer system to charge everyone the same rate, and that the progressive tax model essentially penalises those who work.

 

They also suggest that a simpler system of tax would free up resources to tackle those trading on the black market, such as under the table cash payments for services, which currently totals over €20 billion a year.

 

RENUA leader Lucinda Creighton also argues that the lower tax rate would mean that there would be 20% more in disposable income which people would reinvest back into the economy by increasing spending on goods and services.

 

However there are two specific issues with the idea of a flat tax. The first issue is the unequal impacts of having the same rate of tax regardless of earning.

Karl Whelan, an economist from UCD suggests “the headline rate proposed would radically increase inequality.”

 

Most people pay the basic 20% rate of tax currently.

 

Cormac Staunton from the TASC think-tank says “We see that ‘average earnings’ are €32,042. But half of people earn less than €23,701, 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.”

 

The same rate of tax affects a person’s basic income differently. For example, the average earner could spend most of their salary just paying rent and basic living costs like food, utilities and transport.

 

The 23% could this person’s remaining disposable income. However, 77% of a high income salary is still a lot of money.

 

The second issue is that having a 23% flat rate will reduce the overall revenue available to the State. Creighton admits that this would “result in a tax take of €12.33 billion, versus the current take of €15.84 billion.”

 

However she suggests that the extra income would come from the increase in spending and other ‘multiplier effects’ such as the creation of new jobs.

 

RENUA do not provide any evidence to back up this assertion. They also don’t have any proposal of how to deal with the resulting budget deficit.

 

Most of the additional income would go to those who are in the top 20% of earners.

 

A recent paper by the IMF found that those on higher levels of income are less likely to buy local goods and services, spending more on foreign luxury goods.

 

Countries which saw the income share increase for the top 20% of earners found that country’s GDP went down in the medium term. It is therefore unlikely there would be any multiplier effect.

 

There is certainly an argument to be made that our tax system should be made simpler. Complexity often leads to loopholes or incorrectly filed taxes.

 

The welfare trap also remains a problem. This occurs where a person cannot afford to leave the welfare system. For example, working could mean they would lose their rent supplement and they would no longer be able to afford to pay rent.Or a recent high profile example was a family in Cork who could not afford childcare costs even though both parents were working.

 

However the flat tax is not the best way to solve these issues. Low and middle income earners are unlikely to see any kind of savings from a 23% rate of tax and may even lose income while high income earners make huge gains.

 

It would also reduce revenue for public services, which these low and middle income earners are more likely to rely upon. The only result could be a huge increase in inequality. That doesn’t sound like a fair tax system to me.

Author: Liz O'Malley

Freelance journalist, sometime law student, political junkie, pasta addict.

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