This report is downloadable as a PDF here.
Fiscal consolidationJeffrey Owens
Former Director of the Centre for Tax Policy and Administration, OECD
Governments need to raise revenues in ways which citizens perceive as being fair. Better tax compliance has a key role to play here.
Government debt to GDP ratios are at unprecedented levels and in many countries are now approaching 100% or more of GDP.
There is now a broad consensus that these levels are unsustainable in the medium term since left unchecked they will negatively affect the growth of our economies. Where there is less agreement is on how quickly governments should go about reducing their deficits. There are those who favour rapid action since they see this as the only way to reassure financial markets (the UK and Germany are in this camp). Others favour a more gradualist approach since they are concerned at depressing demand too quickly which could hinder the recovery (many continental European countries and the USA are in this group).
Countries also differ in what the balance should be between expenditure cuts and tax increases. Although there are some extreme views that the whole adjustment programme has to be achieved on the expenditure side in most countries, the debate is over what the balance should be. Some countries like Germany and the UK have decided that the main adjustment must come on the expenditure side, with tax increase accounting for between 15–20% of the adjustment programme. Many continental European countries prefer a more balanced approach with expenditure cuts being matched by tax increases.
As recent experience shows, in most countries these fiscal consolidation programmes have required an increase in tax revenues, which raises the question of how this can be achieved without constraining economic growth. Work at the Organisation for Economic Co-operation and Development (OECD) suggests that this requires a shift in the tax burden away from taxes on income and profits towards taxes on consumption and on real property and towards environmental taxes. These taxes have less of a negative effect on decisions to save and invest and are less likely to discourage participation in the labour market.
OECD work also suggests that better tax compliance can make a major contribution to fiscal consolidation programmes. Better tax compliance, and especially offshore compliance, is an integrated part of the revenue raising programmes of many countries. Work undertaken for the G20 Cannes Summit showed that a group of 20 countries have raised over €14bn of extra revenue from offshore compliance initiatives since 2009. Over 100,000 wealthy individuals have come forward to declare their offshore assets to tax authorities. All the evidence suggests that this is just the tip of the iceberg and that there are trillions of euros of assets that continue to be hidden from tax authorities in offshore accounts.
These offshore initiatives are not only raising more revenue, they are also improving the fairness of the tax system. Most of the money held offshore belongs to the richer segments of society and in some ways better tax compliance is perhaps one of the most effective ways to respond to the Uncut and Occupy Wall Street movements to tax the rich more. Honest taxpayers must see that the costs of exiting from the crisis are being fairly shared.
At the same time that governments are cracking down on tax evaders they are also examining more closely the compliance strategies of large MNEs, especially in the area of transfer pricing and aggressive tax planning.
We are also seeing a willingness on the part of governments to move beyond bilateral co-operation towards a more multilateral approach. Over 30 countries, including all the G20 countries, have endorsed the Multilateral Convention on Administrative Assistance in Tax Matters. This is a powerful tool to counter cross-border tax evasion since it provides for all forms of assistance: in the assessment and collection of tax and in the servicing of documents. It also covers all taxes and provides a framework for joint audits.
This move from international co-operation to international coordination is being led by the OECD's Forum on Tax Administration which brings together Commissioners from more than 40 of the most advanced tax administrations around the world.
To conclude, governments must take advantage of the current crisis to redesign their tax systems so that they raise the revenues needed to achieve a consolidation of budgets but in ways which do not harm long-run growth prospects and which citizens perceive as being fair.
Changes in direct taxes Chris Morgan
Partner, KPMG
The trend in Europe is for low headline corporate tax rates paid for by a widening of the tax base, and a continuing shift to indirect taxes.
While headline tax rates have generally not been rising across Europe (some have been falling) many governments have been finding other ways to increase tax yields as they try to reduce national debt levels. Especially in those countries where financial problems are most severe, a trend is apparent of a general widening of the tax base particularly by restricting interest deductions and loss carry-forwards, as well as the increase or introduction of tax surcharges and the increase of withholding taxes. This trend is on top of the continuing shift to indirect taxes such as property taxes and stamp duties.
Starting with Greece, the headline corporate income tax rate actually reduced from 24% to 20% in 2011 but was accompanied by a significant broadening of the tax base including the abolition of an exemption for gains on the disposal of listed shares (from 1 April 2012), a restriction on the deductibility of expenses paid to low tax countries and the abolition of exemptions for individuals in certain professions. Ireland has famously kept its headline-grabbing corporation tax rate at 12.5%, but has instead focused on increasing direct tax revenues from individuals through broadening the tax base subject to the universal social charge and reducing entry levels for income tax and the universal social charge. In Portugal we see a new limitation on the carry forward of tax losses which can now only be offset up to 75% of the taxable profits of subsequent years. There has also been a rate increase of the State surcharge from 2.5% to 3% and the introduction of a new State surcharge of 5% for taxable profits higher than €10m.
Moving onto countries that entered the spotlight more recently, we see a similar tightening of the tax loss carry forward rules in Italy where losses can only be offset up to 80% of the taxable profits of subsequent years. Spain has seen a temporary increase (2012 and 2013) in the taxation of individuals with income tax rates, in some regions, reaching 56% for the highest earners and capital gains tax rates reaching 27%. In France there have been a number of changes including new restrictions on interest deductions related to acquisitions, the introduction of a 5% corporate income tax surcharge for large taxpayers, a change in the participation exemption for capital gains on shares from a 95% to a 90% exemption, increased withholding tax rates on certain investment income and tighter restrictions on losses carried forward and back.
This trend is not restricted to those countries we have been reading about in newspapers. Finland is considering introducing thin cap/earnings stripping rules; there are proposals in Belgium to restrict the corporate tax exemption for capital gains on shares, to tighten the thin cap rules and to rewrite the general anti-abuse provision; and in Austria there are proposals to limit the use of foreign losses and a restriction on interest deductions related to acquisitions has been introduced.
However, a number of countries are showing no evidence of this trend including Germany, the Netherlands, Luxembourg and Malta. As these are not countries with high deficits this is perhaps not surprising.
VAT in Europe Sarah Halsted
UK VAT Senior Technical Manager, PKF
VAT rates in Europe have nudged upwards, with the rises noticeably more pronounced in Member States outside the Eurozone.
Since the current financial crisis began to bite in 2008, VAT rates have been on the rise around Europe. The table opposite compares the standard rates in the 27 Member States of the EU at the end of 2007 with those in place at the time of writing. These points in time, which can perhaps be referred to as ‘pre-credit crunch’ and ‘austerity’ respectively, give a good idea of the changes that have come along as the financial crisis has developed.
Perhaps surprisingly, European VAT rates have not gone up a great deal in this period – just 1.5% on average, with the average standard rate now lying at 21%. Eleven countries have not seen fit to change their standard rate at all since 2007 (although out of these, France has pencilled in plans to increase its rate to 21.2% this October). A further five have only nudged VAT up by a single percentage point. Rate cuts have barely featured during this time.
This suggests that most countries have wanted to use VAT as a revenue raising measure as far as they can but have shied away from radical increases for fear of killing off retail spending and stifling growth. Perhaps tellingly, the steepest rises within the Eurozone have been in Portugal and Greece, two of the countries that have received bailouts from the EU and IMF. A bold rate rise is at least a high-profile statement of intent to address the serious deficits in those territories.
The table also shows a clear division between the 17 Member States in the Eurozone and the ten who have so far kept their national currencies. The average rate rise for non-Eurozone countries since 2007 is 2.35%, where for those using the Euro it is less than 1%.
Among the non-Eurozone countries, Hungary stands out – its rate going up from a very average 20% four years ago, via 25%, to an eye-watering 27% – the highest standard rate Europe has ever seen (although there is no EU maximum rate). Hungary has one of the larger public deficits in the EU. However, Romania, which does not have an unusually large debt, has been almost as drastic, adding 5% to its rate in one fell swoop in 2010. Along with Latvia, with the next highest rise of 4%, these nations are relatively new members of the EU and may still be experimenting with how to balance the yields of VAT, a tax operating on an EU level, with local taxes that are entirely within their control.
The raw figures point towards VAT being a small rather than a major part of Member States’ austerity packages, with countries outside the Eurozone feeling a little less inclined to stay in close line with their neighbours. But with no end in sight to the global economic gloom, it will be interesting to see how the picture has changed in the next four or five years.
Is a Financial Transaction Tax the answer? Geoff Lloyd
Tax Director, Ernst & Young
There are real doubts over the claimed revenue benefits of the FTT proposal.
The European Commission’s headline estimate of revenues raised from its proposals for a Financial Transactions Tax (FTT) is around €57bn per year. But this estimate comes with a considerable number of health warnings, with the Commission making clear that any estimates for new taxes, especially those designed to influence behaviour, are highly uncertain. In addition, directly compensating reductions in other transactional or capital taxes have not been taken into account at all.
The Commission's impact assessment points out that an FTT would depress GDP by approximately 0.5%. Ernst & Young's most recent Eurozone financial services forecast shows that, even in a best case scenario, it would result in a reduction of corporate tax and other revenues by around €39bn. Using less optimistic assumptions, the Ernst & Young forecast suggests that the net loss to public finances would stand at €116bn. Other studies have also suggested that, using realistic assumptions, the Commission's projections of any net revenue from the FTT quickly evaporate.
So why is there such ‘bad news’ from a tax that is supposed to be skimming off the ‘super profits’ of the banks?
As always, the devil is in the detail. Although the Commission suggests that the Directive will be ring-fenced to the financial sector, a closer look at its terms should set alarm bells ringing for non-financial businesses (and non-EU businesses) as well. As currently drafted, all major corporate treasury companies undertaking hedging activities, as well as corporate pension funds involved in dealing and managing risk on their investment portfolios, will be liable to FTT in their own right on transactions with EU financial institutions. This is regardless of whether they are in the EU or not.
The real economy will also be hit indirectly. Tax imposed on financial businesses is likely to be passed on to the real economy through higher borrowing and hedging costs, lower returns on pension assets and higher energy and consumer costs to consumers.
Before concluding that an FTT can raise billions of Euros from the financial sector, it is essential to take a long, hard look at how the proposals will affect non-financial sector businesses as well.
New tax measures introduced in selected Member StatesAs with many other countries in Europe, France has recently been under the spotlight of the rating agencies for the state of its public accounts, and tackling the State deficit has become an even more pressing matter as debate among candidates running in the 2012 Presidential elections is centering around budget policy.
Most of the reforms enacted target large companies to increase their overall contribution to public resources, while cracking down on tax loopholes is also a top priority.
1. Restrictions on loss utilisation: French former rules governing the use of tax losses were seen as too generous by Parliament when compared with other European jurisdictions. In September 2011, these rules were amended to align them with the German ones, providing for a capped offset on profits exceeding €1m. Beyond this amount, carry-forward losses can only be used to offset up to 60% of taxable income, leaving a 40% tax base for minimum taxation.
While the carry-back period was shortened from three years to one, the carry-forward period remains unlimited, so that the ultimate effect for companies should be timing.
2. 5% surtax for large taxpayers: In addition to the rules on minimum taxation, the 2012 Budget provided for an extraordinary 5% surtax for those large companies or groups with revenues in excess of €250m per annum, between 2011 and 2013. Combined with the existing surtax on taxpayers with a high tax liability, the maximum effective rate for French companies in those years can now reach up to 36.10%.
3. Participation-exemption on capital gains: In an attempt to increase the contribution of private equity and investment companies to the French budget, the participation-exemption regime applicable to certain sales of a controlling interest was amended in September 2011. Capital gains are now 90% exempt from corporate tax, as opposed to 95% previously. Capital losses remain unallowable. Along with this increased taxation of gains, new anti-abuse measures were introduced, targeting financial expenses on share acquisitions.
These are only the major measures in a general attempt to increase the overall contribution of multinational companies, which had been highlighted as enjoying an effective rate of about half that of small and medium-sized companies. Further reforms, namely on interest deduction, amortisation and business tax, are anticipated following the release of the Green Paper on Franco-German tax convergence on 6 February. These reforms would lead to a significant broadening of the corporate tax base in exchange for a decrease in the corporate tax rate. Whether these reforms will be implemented in their current form is likely to depend on the outcome of French Presidential elections and continued co-operation with German tax officials.
Nathalie Aymé, Partner, Taj
The Greek debt crisis began in 2010. The Socialist Party that won the election in October 2009 had promised throughout its campaign that it would find the money needed to finance public expenditure. At that time, the government hoped that it could raise more funds from tackling the ‘black economy’. However, this is not a tactic that produces instant results.
It was very hard to change the rhetoric and start cutting spending. At that time it seemed easier to impose new taxes.
1. VAT: VAT rates were increased twice in 2010. The standard rate was first increased from 19% to 21% and then from 21% to 23%. The reduced rate was also increased from 9% to 11% in two steps. After this increase, in 2011, many services which were previously exempted from VAT became subject to VAT and other services which were subject to the reduced rate (such as restaurants) were transferred to the standard rate.
2. Income taxes: New special income taxes were imposed on legal entities, as well as individuals. The special tax on legal entities was progressive and amounted to 4–10% of profits. The special tax imposed on individuals amounted to 1–4% depending on the individual’s total income (1% for income between €10,000–20,000; 2% for €20,001–50,000; 3% for €50,001–100,000; 4% for €100,001+). In addition to this, the high income tax factor was increased in 2010 from 40% to 45% and the tax-free amount was reduced in 2011 from €12,000 to €5,000.
3. Special taxes: Further special taxes were also introduced in July 2011:
4. Special tax on buildings: Despite the measures described above, tax revenue did not actually increase (€47bn in 2008, €45bn in 2009, €46bn in 2010) because national income fell and therefore there was less revenue to tax. When all the above measures proved to be inadequate, the government decided in October 2011 to impose a special duty on property owners. This tax will be paid in addition to the existing property tax, which is paid every year by legal entities as well as by individuals. The new tax will be paid on buildings only and will be calculated on the basis of the building’s total area, as well as on the zone price and the building’s age (eg, for a ten-year-old building comprising 100m2, which is located in a zone where the price per square metre is €2,500, the new tax amounts to €920). The tax will be paid twice a year at the same time as the electricity bill.
The result of all these measures is still not satisfactory. It is gradually understood that tax measures alone are not enough to stop the deficits. Greater cuts in expenditure must be made.
Alexandros Sfarnas, Partner, PKF Euroauditing SA
Since 2009, the Hungarian government has continually introduced new taxes aimed at reducing the country’s budget deficit. Those include:
1. Special sector taxes: A temporary, ‘special’ tax was introduced on each of the following sectors: financial services; telecommunications; energy; and commercial retail. Although the tax base of each ‘special’ sector tax differs, each such tax is levied based on the net turnover of sector players. For example, for commercial retail activities, the tax rate is: 0% for the first HUF 500m; 0.1% above the first HUF 500m, up to HUF 30bn; 0.4% above HUF 30bn up to HUF 100bn; and 2.5% above HUF 100bn of the taxpayer's annual tax base.
2. New ‘accident’ tax: Due to the increased risk of accidents from vehicle use, car owners are subject to a so-called ‘accident tax’. It is levied upon the payable mandatory liability insurance fee paid by the vehicle owner, at a rate of 30%.
3. Public-health product tax: On 1 September 2011, a ‘public health’ product tax was introduced. It is levied on pre-packaged food products containing an amount of sugar, salt or caffeine which exceeds the amount stipulated in the relevant law. The tax rate is based on the quantity of sugar, salt or caffeine in the product.
4. Increase of VAT and excise duties: On 1 January 2012, the general VAT rate increased from 25% to 27%. As a result, Hungary has the highest VAT rate within the European Union. Excise duties on tobacco and alcohol products were also increased.
5. Increase of the company car tax: The tax brackets for company cars were modified, resulting in a higher tax payment obligation in almost every tax bracket based on the engine power and environmental classification of the car.
6. Restrictions on the use of carry-forward losses: From 1 January 2012 loss carry-forward restrictions make such losses deductible only up to 50% of the corporate income tax base. Also, carry forward losses might be entirely lost upon the acquisition of the company in certain cases.
The Hungarian government seems to seek balance between needed budget revenue increases for deficit reduction, and avoidance of measures directly enhancing the tax burden on private individuals. Countering the VAT increase, the government started phasing in a flat 16% personal (employment) income tax system.
The potential long-term effects of these measures are unclear. The special sector tax in particular has brought immediate results, significantly contributing tax revenue to the budget. It has also caused investors in the affected sectors to re-evaluate the creation of any further direct investment in Hungary.
Gergely Riszter, Attorney/Partner, Kajtár Takács Hegymegi-Barakonyi Baker & McKenzie, Budapest
To address the budget deficit caused by sharply declining tax revenue, the domestic banking crisis and as a consequence of receiving financial assistance from the EU/IMF, Ireland has had to introduce many austerity measures to reduce the budgetary deficit.
1. Personal income tax: The marginal rate of income tax increased from circa 46% in 2009 to 52% and 55% (for individuals with non-employment income in excess of €100,000) by 2012. This is largely as a result of the introduction of the new Universal Social Charge (USC) and social security contribution changes.
2. High earners restriction: This limits the amount of certain property based tax reliefs ‘high net worth’ individuals can claim. The minimum effective rate of tax was circa 20% for these individuals in 2008. This has now risen as high as 44% when changes to income tax and USC are taken into account. Expatriates can benefit from a significantly lower tax burden.
3. Indirect tax: The standard rate of VAT increased from 21% to 23% in 2012. In 2010, a new carbon tax was introduced on petrol, natural gas and solid fuels.
4. CGT and capital acquisitions tax (CAT): The rate both of capital gains tax and CAT has increased to 30%, from 20% in 2008. The CAT tax-free thresholds have also been significantly reduced.
Similar rate increases apply to bank deposit interest (DIRT), income/gains from life assurance policies, foreign life policies and offshore funds.
5. Pension changes: There have been many accumulated pension changes over the past three years, including:
Higher income categories have been significantly affected in respect of the introduction of new taxes and the restriction of reliefs that were available.
Although there have been many incentives introduced to create jobs in Ireland and to attract foreign direct investment, the tax measures introduced above are a means to an end to reduce the budget deficit down to 3% of GDP by 2015. Importantly all political parties are committed to the 12.5% corporation tax rate and indeed further incentives to attract inward investment have been introduced such as enhanced R&D credit and a special expatriate income tax regime.
Declan Butler, Partner, Deloitte Ireland
In December 2011, the new Monti government passed an austerity plan called the ‘Save Italy Decree’ (Law Decree n 201 of 6 December 2011, which became Law n 214 of 22 December 2011). This included a number of tax measures aimed at restoring financial stability to Italy. The main measures are as follows:
1. Corporate capital increase benefit: A tax allowance is granted to Italian companies (and Italian permanent establishments of foreign companies) for certain eligible increases in their corporate capital. For fiscal years 2011/2012, this allowance equals 3% of the increase registered in the end of year accounts (excluding their profit for that year), as compared with the previous year.
2. IRAP deduction: Starting from 2012, it will be possible to deduct in full the Regional Income Tax on Productive Activities (IRAP) paid on labour costs from corporate income tax. Before the Decree, such deduction was limited to 10% of the IRAP paid.
3. Disclosure of financial details: From 1 January 2012, all financial intermediaries must periodically file details of the transactions performed by their clients with the Italian Anangrafe Tributaria. This will allow the tax authorities to create a specific record upon which they will structure their tax investigations.
4. Traceability of payments: Payments exceeding the €1,000 threshold may now only be performed through traceable means (ie, credit/debit card or cheque).
5. Extraordinary tax on ‘shielded assets’: Foreign financial assets and investments held by Italian tax residents in breach of the Italian tax monitoring obligations (and regulated under the 2001 and 2009 tax amnesty regimes) will be subject to a yearly 'stamp duty' to maintain their secrecy vis-à-vis the Italian tax authorities. This will be levied on the value of such assets at 1% in 2012, 1.35% in 2013 and 0.4% thereafter. In 2012 only, an additional 1% extraordinary tax shall also be levied on shielded assets no longer covered by this secrecy regime.
6. New property taxes: Each municipality shall levy a real estate tax on the cadastral value of domestic properties, at rates which vary according to the nature of the property. Furthermore, properties located abroad but owned by Italian residents will be subject to a fixed 0.76% tax, levied on their purchase or market value.
The new measures pursue three main targets: promoting economic growth, increasing taxation on individuals and firmly combating tax evasion. The growth-enhancing measures are welcomed as they may help Italian enterprises to overcome the structural problems in the Italian economy. The anti-evasion measures may help rightfully to increase the revenue produced from taxation.
However the measures based primarily on tax increases may be less effective as they may trigger a decrease in consumption, especially when considered in conjunction with the increases in VAT and excise duty.
Fulvia Astolfi, Partner and Federico Donelli, Trainee, Hogan Lovells, Rome
Portugal is struggling in the Eurozone. Low productivity, growing indebtedness derived from the government’s efforts to boost the economy, the pressure of the international creditors resulted, as usual, in the traditional usage of tax revenue raising measures.
The tax policy for 2012, in a context of strong austerity, includes several revenue raising measures designed to meet tough fiscal goals under the international bailout agreement.
1. General increase of taxes: Across the board to levels that go far beyond the strict compliance with the impositions of international creditors, setting a new historic landmark. Under the international bailout agreement, Portugal should reduce the CT and personal income tax (PIT) deductions, special regimes and benefits in order to obtain a yield of at least €300m in 2012. However, this yield may be significantly higher with the measures introduced by the 2012 Budget Bill, such as the CT loss carry-forward regime new limitation of the amount deductible to 75% of taxable profits, the new 30% final withholding tax on investment income paid to black-listed jurisdictions, the increase to 25% of the PIT applicable to investment income and capital gains, as well as with the measures mentioned in 2, 3 and 4 below.
2. Removal of reduced corporate tax rates: Elimination of reduced 12.5% rates of corporate tax for very small companies.
3. The CT Surtax: Increase of the CT Surtax to 3% of taxable profits exceeding €1.5m, and to 5% on profits exceeding €10m.
4. Overall increase of personal income tax: Increase of the PIT rate applicable to investment income and capital gains to 25%; significant cuts in deductions of health, education and private residence expenses and increase of the maximum PIT rate from 46.5% to 49%.
5. General increase of VAT rates: Review and amendment of the goods and services subject to the lower (6%) and intermediate (13%) VAT regarding a large number of items.
The above measures, allied with other variables such as the reduction of available financing and public investment, will certainly deepen the recession and will not result in additional tax revenue, as the tax asphyxia of companies and families is a strong incentive to tax planning, fraud and tax evasion.
It will probably take Portugal into a negative spiral already seen in other countries which were and are subject to equivalent measures.
This revenue-oriented tax policy is strongly affecting the weak tax competitiveness of Portuguese companies. The elimination of reduced CT rates, together with the most profitable being surprised with a brutal increase of the CT Surtax, will make survival of most SMEs even more difficult, thus boosting an unwanted centralisation of wealth and an escalation of unemployment (SMEs represent well over 90% of Portuguese companies, and generate nearly 75% of employment).
The increase of PIT, the cut in public salaries and of all pensions, as well as the general increase of VAT rates has already significantly reduced consumption, thus contributing to a contraction of the economy.
In this context, budget policies that are mainly focused on tax revenue raising measures, rather than on the reduction of public expenditure and promoting efficiency in public spending, together with the lack of economic stimulus packages leave but a very thin hope that the sacrifices now imposed will not be in vain, that the objectives of fiscal consolidation may be achieved, and that the economy may recover, new investments may be attracted, and human values and social cohesion may be preserved.
Miguel C Reis, Tax Partner, and João Velez de Lima, Tax Associate, Taxand Portugal
The difficult economic climate in Spain, with massive public deficit and high unemployment figures, motivated the new government to announce €8.9bn of cuts across the board, and €6bn of tax rises aimed mainly at the upper echelons of earners, at the end of 2011. The measures announced are, generally, intended to be temporary, mostly applicable from 2011 until 2013. Additionally, the government has given itself the right of approval over the budgets of the Autonomous Regions.
1. Corporate income tax (CIT): The use of tax losses carried forward has been temporarily restricted. Companies with turnover in excess of €60m can only offset 50% of taxable income with losses, while those in the €20m–60m range are limited to 75%. This retains a base of taxable income for minimum taxation.
The CIT prepayments rate has been increased to 21% to 24% for companies whose turnover ranges from €20m–60m and 27% for companies whose turnover exceeds €60m. This cost to companies will be as a result of the change in timing of their tax payments.
The rate at which financial goodwill can be deducted (available on certain acquisitions of foreign entities) has been reduced from 5% to 1%.
2. Personal income tax (PIT): A ‘complementary tax’ of up to 7% has been added temporarily to the general PIT. This takes the maximum rate up to between 52% and 56%, depending on the Autonomous Region and makes Spain’s income tax rate one of the highest in Europe.
A similar increase has been introduced for savings income, which includes dividends, interest and capital gains, with the temporary rates ranging from 21% to 27%.
3. Personal net-wealth tax (PNWT): PNWT has been reintroduced from 1 January 2011, although not all Autonomous Regions have chosen to apply it. The minimum exempt amount is €700,000 and the maximum tax rate is 2.5%.
4. Non-residents income tax (NRIT): NRIT rates have been increased for certain types of income:
5. VAT increases: With effect from 1 July 2010, the VAT rates were increased from 16% to 18% (standard rate) and from 7% to 8% (reduced rate). The VAT rate on new housing acquisition remains at 4% until 31 December 2012.
Additional tax measures are expected, although no announcements have been made as to what these will entail or when they might be approved.
Brian Leonard, Partner, Deloitte Spain
Lessons for the UK? Bill Dodwell
Head of Tax Policy, Deloitte
The UK’s tax efforts have focused on income tax and consumption tax, with a cut in corporate tax. There are doubts about the effectiveness of the 50p income tax rate, but the politics of removing it look tricky.
Every European country has been affected by the financial crisis and Jeffrey Owens outlines the broad economic measures chosen to cut deficits (see above). The UK has decided that tax rises will be 20–25% of the total deficit reduction measures. However, as the Institute for Fiscal Studies pointed out in its Green Budget, almost all the tax rises are already in the system, whilst 90% of the spending cuts have yet to take effect.
In a world looking for money, it’s clear that expediency may take precedence over the economic tenets of simplicity and neutrality. The OECD advocates consumption taxes and recurrent property taxes, in preference to the more distortive income tax and corporate tax.
The UK’s tax efforts have focused on income tax and consumption tax – with a cut in corporate tax. The biggest element of the fiscal package is the £12bn raised by lifting VAT to 20%. Sarah Halsted shows that many EU countries have followed the same path (see above). The UK shows no inclination to reform the structure of VAT, despite calls for it in the Mirrlees review. Politicians no doubt fear that voters would not take kindly to being asked to pay VAT on food. The UK has also suffered from greater inflation than the Eurozone, partly due to currency depreciation, which means that increasing VAT is highly unlikely.
Many EU countries have put up income tax. There is considerable controversy in the UK over the 50% income tax rate which, combined with the 2% NIC rate, the withdrawal of the personal allowance for those earning more than £100,000 and the cut in the deductions for pension contributions, has focused the rises on the top 5%. Asking those with the highest incomes to make the largest contribution demonstrates fairness. However, it ignores taxpayer psychology and the much greater mobility of high-income people. There is some public evidence of relocation in the finance sector, but much relocation is not easy to spot. Money will be raised from the pension allowance cut and the personal allowance withdrawal – but the actual yield from the 50% rate is very unclear. The psychology is also terrible: at a time when the corporate tax policies are designed to encourage investment in the UK, setting income tax in such a way that decision-makers may be tempted to put personal interest first conflicts with the overall objectives.
Property taxation is quite high in the UK, which suggests that there is limited scope for increases. There are only 154,000 houses in the top council tax band but for some the current annual charge is lower than it might have been under the old ‘rates’ system. Could a council tax rise provide air cover for abolishing the 50% rate?
The wider economic outlook for the Eurozone David Smith
Economics Editor, The Sunday Times
The Eurozone’s problem is not its overall budget deficit and debt situation but the loss of fiscal control among some of its members. A fiscal union is one potential response to this but the problem of generating growth in the heavily indebted and uncompetitive economies of the single currency will remain.
These are torrid times for the 17 members of the Eurozone. The region’s gross domestic product fell by 0.3% in the final quarter of 2011, and only the optimists expect a bounce in the first quarter of 2012. Many say the best the single currency area can look forward to is a period of stagnation.
The European Commission, in an interim assessment published in late February, put it bluntly. ‘The EU is set to experience stagnating GDP this year, and the euro area will undergo a mild recession,’ it said. ‘The growth momentum seen at the end of 2011 has weakened more than previously expected, while the global economy has softened.
‘Moreover, negative feedback loops between weak sovereign debtors, fragile financial markets and a slowing real economy do not yet appear to have been broken.’
I shall return to those negative feedback loops in a moment. Two things, however, are worth noting. The first is that at one time EU politicians believed that the Eurozone would escape the kind of difficulties it is currently experiencing. When the global financial crisis began to emerge nearly five years ago, many of them argued that it was an ‘Anglo-Saxon’ phenomenon, likely to hit America and Britain very hard but more muted in its effect on a euro area huddled together for protection and cocooned from the worst of the instability.
The second thing, fast forwarding to more recent times, is that it could be a lot worse. Last autumn the Eurozone appeared to be on the brink of a damaging break-up. Jacques Attali, a former senior adviser to France’s President Mitterrand (and head of the European Bank for Reconstruction and Development), wondered publicly if the euro would make it through to Christmas.
The fact that it has, and that the Eurozone economy, while weak, is not falling off a cliff, is down to the European Central Bank (ECB) and its new president, Mario Draghi. Its long-term refinancing operation (LTRO), launched in December, and repeated in February, has pumped more than €1trn (£830bn) at ultra low interest rates in the direction of grateful European Banks: more than 800 of them. This exceptional funding operation has succeeded in calming fears of imminent collapse, though it has also brought warnings that the ECB is storing up problems for the future and that the euro’s underlying problems had yet to be tackled.
What are those underlying problems? The Eurozone, as everybody knows, is in the middle of a sovereign debt crisis, with Greece having had to be rescued twice and large-scale rescues also instituted for Ireland and Portugal.
The problem, perhaps surprisingly, is not the overall debt or deficit position of the Eurozone. Taking all its 17 members together, the International Monetary Fund (IMF) says the budget deficit peaked at 6.5% of gross domestic product in 2009, slipping to 6.3% in 2010, 4.3% in 2011 and a predicted 3.4% this year. That compares favourably with America, with a budget deficit of 13% of GDP in 2009 coming down only to a predicted 8% this year, and Britain, where the corresponding numbers are 10.4% and 7.8%.
Nor is it the overall level of government debt. On IMF figures, the Eurozone’s debt of 88% of GDP is lower than America’s 102% and only a little above Britain’s 81%.
The problem, of course, is that Europe’s debts and deficits are not uniformly distributed and nor are they pooled. Europe may have a single currency but countries in the euro have independent fiscal policies, and their own fiscal problems.
Official detailed deficit figures are only available for 2010 but they illustrate it well. Ireland, thanks to having to rescue its banks, topped the table with a budget deficit of a whopping 31.3% of GDP, followed by Greece (10.6%), Portugal (9.8%), Spain (9.3%), Slovakia (7.7%) and France (7.1%). In contrast, Luxembourg had a deficit of just 1.1% of GDP, Finland’s was 2.5% and Estonia ran a budget surplus of 0.2% of GDP.
A similar picture exists for debt. Figures for the third quarter of last year show government debt ranging from as little as 6% of GDP in Estonia, 18% in Luxembourg and 42% and 44% respectively in Slovakia and Slovenia. At the other end of the scale, Ireland’s debt is 105% of GDP, Portugal 110%, Italy 120% and Greece a huge 159%.
This is why many people see fiscal union as a necessary condition for putting the Eurozone on a firm footing. By pooling debt and deficits, and issuing common euro bonds as opposed to individual government bonds, Europe could take advantage of its underlying budgetary strength. Countries with strong fiscal positions will only concede this if they think the others will be subject to binding budgetary discipline, of course. This is why the proposed new EU treaty contains tough fiscal rules.
The Eurozone needs budgetary discipline. It also, however, needs growth. The prospect for this year, as the European Commission says, is not greatly encouraging. The challenge over the medium and long term is just as great. The economies in difficulty in the single currency area have, as well as budgetary problems, another unfortunate thing in common. They have all lost between 20% and 30% competitiveness vis-à-vis Germany since the late 1990s, when the euro was launched.
Their challenge is to recover against the backdrop of tough, growth-reducing fiscal measures, at a time when they are handicapped by this loss of competiveness. Some may do so. The Irish economy is in a bad way but Ireland has already clawed back some competitiveness. Others will find it much harder. Some, like Greece, may be unable to stay the course.
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