Wednesday, October 14, 2015

14/10/15: There isn't Ireland without MNC Inc.: Budget 2016


Budget 2016 went in like a circus convoy entering a sleepy town: all pomp and all the excitement with little substance of change in tow.

Budget 2016 is a political budget and not an economic one. The point of all the smaller taxation measures in it, relating to people working for living, is simple: get those voters, vulnerable to swing Left to stay Centre. Sinn Fein got punched, few independents too; Labor got cookies to hand out. But even on this count, Budget 2016 was a fizzle of a firecracker with mostly smoke to show in the end:

  1. Much lauded idea of exempting from USC all earners
  2. Virtually all net gains for low income earners from this Budget do not accrue from Michael Noonan spending tax revenue or Government cash, but from minimum wage increase. Just how exactly does minimum wage hike (a mandated cost imposed onto employers - rightly or wrongly is not the point here) qualify as a fiscal policy measure (aka, Government fiscal management of the economy) beats me. Proper economics have no room on fiscal policy side for the scenarios where Government spends not its own money on stimulating its own votes. Note: Employer PRSI change is virtually immaterial, costed by the Department of Finance at only EUR7 million over full year. Where this might help somewhat is in alleviating pressure on employers to cut working hours.
Besides the above aberrations, the Budget was a net positive for current consumption spending, and was a net zilch for investment. Now, here the Government logic is completely off the charts. We are borrowing money to fund the Budget 2016 measures. And we are channeling this borrowed cash into activities that are not expected to generate a return, since these are non-investment activities. Multipliers for current consumption are miserable - most of the stuff we will be buying with the few quid we got in Budget 2016 is stuff made elsewhere and all we can collect in this economy from it is a small gross payout on labour in the retail and logistics sector. Whatever the social imperatives can be for such a 'stimulus' (and they are quite sound in some cases), it is poor economics and poor strategy.

When it comes to economics: Budget 2016 continues with a well-established theme of doing everything possible to demolish productive entrepreneurship spirit in the country. This time around, it is doing it with a flavour of simultaneously pretending that we are pro-entrepreneurs. 

Take the following post-Budget 2016 numbers:
  1. Income tax: What maters here from entrepreneurship and modern economy activity is the upper marginal tax rate, not the base rate. Why? Because people do not choose to become entrepreneurs to earn EUR34,000 a year. It is that, brutally, simple. So in Ireland post-Budget 2016 we have a 40% upper rate kicking in at EUR33,800. Across the pond, in the UK, this happens at EUR59,900. Get it? Forget entrepreneurs, we are talking about school teachers being high earners according to our tax codes.
  2. Dividends taxation: You get dividends on your investments (rare, but happens in normal economies). Your upper tax on these is 55% here in Ireland, whilst in the UK it is 38%. Darn, those rich retail investors who carefully select better quality long-term non-speculative shares (majority of which pay dividends). Whack them hard, shall we?
  3. Capital gains Tax: We are a basket case. We have general rate of CGT of 33% which is higher than UK's 28%. We have now a new measure that allows for some reduced CGT on the first EUR1 million at 20%. Minister Noonan thinks that is a great way to reward successful entrepreneurs. In the UK, they think a reward should involve 10% CGT for such investors. For investment returns of up to EUR13 million 'entrepreneurship Island' reserves an effective (reduced by Budget 2016) rate of 32%. In the UK it is 10%. There is no CGT exemptions for qualifying investors and no CGT rollover for reinvestment in Ireland, whilst both measures are available in the UK. Case closed.
  4. Capital gains structural incentives: For years Irish policymakers and Enterprise Ireland have been struggling with the fact that majority of Irish entrepreneurs opt for early exits from companies - in other words, instead of building large Multinational Enterprises, our entrepreneurs too often opt for a sale of company early on. It has been an explicit objective for Irish development agencies to stimulate growth of companies beyond certain thresholds in size in the past. And Budget 2016 just created an added (albeit small) incentive to exit earlier, rather than later (the cap on preferential rate being set at EUR1 million). Classic example of incentives contradicting objectives.
  5. VAT: in Ireland, post-Budget 2016, this stays 23% and the crazy situation of charging VAT on services provided to non-VATable entities remains in place. In the UK, VAT is 20%. Thresholds: in Ireland VAT accrues for traders with revenue of >EUR37,500, but in the UK the threshold is Stg82,000. Get that, all of you self-employed and sole traders.
Of course, there is one, just one, area where Irish Government continues to impress the world: Multinationals-linked Tax Optimisation schemes. Ireland now has a Knowledge Development Box bestowing 6.25% corporate tax rate on... err... we don't quite know what. Promise is - it will apply to 'certain' patents and software copyrights. Which is just a tiny sub-set of actual business innovation and knowledge acquisition. And it is the subset that MNCs dominate. The Department of Finance estimate this measure to cost the Exchequer EUR50 million. Which really tells you just how much real activity this Knowledge Development Box is going to generate (answer is: very little) as opposed to how much of the old tax optimisation loopholes it is expected to absorb (answer is: plenty).

NY Times headline from yesterday says it all, really:

Our Knowledge Development Box is 'boxier' than that of the UK - our 6.25% tax beats their's 10% one. Case closed: MNCs win, and there is no economy beyond that which matters.

Anyone noticing that the world around us and the world inside Ireland is shifting toward supporting human capital-centric growth (yes, not labour or PAYE or specific sector, but Human Capital-centric)? Well, over 40 submissions from various bodies and individual analysts to Budget 2016 did. They also spelled out that this shift entails two key things:
  • The need to recognise the risks assumed by workers and entrepreneurs working in this New Economy; and
  • The need to recognise the fact that human capital-endowed workers are higher earners (not the rich, but well above the average).
People like myself have been drumming this beat for ages now. Still, Budget 2016 does nothing to resolve discriminatory taxation of human capital under the USC system, discriminatory taxation of human capital in self-employment under the USC system and broader income tax system, and it has done nothing in terms of even considering asymmetric risk loadings that entrepreneurs and self-employed carry compared to PAYEs. The Budget does help by introducing Earned Income Tax Credit to offset, partially (by 1/3rd) the glaring discrimination against self-employed inherent in the PAYE tex credit system. But this is hardly a measure to fully address the problem of the taxation system vastly out of tune with realities of modern economy.

Time to ask that pesky question, thus: Does this Government understand modern economy or do we still have leadership that thinks in terms of early 20th century proletarian world?

The sop of the 'entrepreneurship' measures unveiled in Budget 2016 is illustrative to the above question:
  • Corporation tax exemption for start ups for the period of 3 years has been extended. The measure 'costs' the Exchequer EUR2 million per annum (per Budget 2016 estimates) same as the estimate for the measure in Budget 2015. Apparently, even by Department own figures, there is zero growth in uptake of this measure year on year. 
  • The Knowledge Development Box - which is for all intents and purposes is about useful for entrepreneurs and start ups as the Beats by Dre headphones are to the donkey.
  • The EIIS scheme to incentivise investment into start ups has been 'fixed' (by increasing company limit from EUR5 million to EUR15 million). Except, the fix addresses non-existent problem and the real problems remain not tackled. You see, you gotta be a fabled unicorn (in Irish market terms) to raise EUR15 million as a start up. Majority of entrepreneurs need far less capital than EUR5 million. So the old ceiling was not a barrier in EIIS scheme. However, EIIS is excruciatingly  bureaucratic and difficult to navigate, which it remains such after Budget 2016. And EIIS is not suitable for raising small funding that majority of start ups really need up front - EUR100,000-200,000. Which, once again, Budget 2016 left unaddressed.
And that's it. Entrepreneurs and the self-employed, high Human Capital-endowed workers, start ups, their directors and advisers, as well as their key employees - all can now send their 'Thank You' cards to the Minister for all the love and support extended to them yesterday. Or they can continue to send their business to the UK and Northern Ireland, where quietly, without labelling themselves to be the 'Best ... Country to Do Business In' the fiscal powers are trying to run a more benign environment for investors, entrepreneurs and start ups.

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