Annex B

EXAMINATION OF BUDGET 2003 - INCOME TAX MEASURES

USING THE NATIONAL ANTI POVERTY STRATEGY GUIDELINES.

Background

The National Anti Poverty Strategy Unit of the Department of Social and Family Affairs has issued guidelines (the 'NAPS guidelines'), which are to be used by Departments for poverty proofing policy proposals.  The primary aim of the poverty proofing process is to identify the impact of the policy proposal on the poor so that this can be given proper consideration in designing policy.  It is not intended that poverty proofing would require that all policies be fundamentally transformed so that they are explicitly targeted at the disadvantaged.

Considerations to bear in mind

The Social Welfare measures in Budget 2003 will accrue mostly to those at the lower end of the income distribution who, without such measures, would experience a significant deterioration in their income in relative terms.  

The ESRI SWITCH [1] model was utilised to analyse the impact of the combined effect of social welfare and tax changes contained in Budget 2003.   This tax-benefit model is based on the ESRI’s ‘Living in Ireland Survey’, a survey of national incomes, which includes employees, pensioners, unemployed persons, farmers, self-employed, etc.  The model calculates the percentage change in disposable income across each income decile, as a result of Budget 2003.    This is done by comparing the 2002 tax and welfare regimes using projected 2003 incomes against the 2003 tax and welfare regimes using 2003 projected incomes.

The model (see Figure 1 on page C.30 following) shows that the most significant net income gains are to those on the lowest incomes, while much smaller gains accrue to those in middle to high-income brackets.  This analysis reflects the highly progressive nature of Budget 2003, which sees those dependent on welfare getting the greatest gains.   From a distributional point of view, Budget 2003 ensures that the lowest income groups gain progressively more from welfare payments than the higher income groups, who contribute progressively more to the cost of public service provision. 

Those at the lower end of the income distribution will also benefit from taxation measures if they become exempt because the entry point to taxation has been increased in Budget 2003 (as it has been in every Budget since 1997).  The statutory minimum wage (£4.40/€5.58 per hour) came into effect in July 2000.  In that year, less than 64% of the minimum wage annualised was exempt from taxation.  In Budget 2002, 90% of the minimum wage became exempt from tax and after Budget 2003 this position is maintained even though the minimum wage was increased in October 2002 and now stands at €6.35 (£5.00) per hour.  

The impact on poverty is one criterion for assessing the Budget.  There are other acknowledged goals and targets such as increasing economic efficiency, rewarding effort and enterprise and encouraging capital accumulation, all of which improve economic welfare generally and are additional to the fundamental role of budgeting revenue and expenditure.  Also, in terms of looking at the Budget’s impact on poverty it is necessary to consider not only the income tax measures which it contains but also: -

(a)       the additional increment of social inclusion spending provided for through specific Budget measures.  In Budget 2003, the value of these is €503 million for 2003; and

(b)       the aggregate value of social inclusion spending across all Government programmes which is provided for annually through the Estimates process and the Budget.  It is estimated that in 2003, this spending, including social welfare payments, will amount to about €16.9 billion representing almost 45% of gross total expenditure on public services.  The comparable figure at the time of assessment last year was €1.3 billion less representing almost 44% of gross total expenditure on public services.

These expenditures may be particularly relevant to, and of benefit to, those in the lower income categories referred to below who do not pay tax and are, therefore, not affected by tax changes.

Poverty Proofing of Income Tax Measures

 What is the primary objective of this policy/programme/expenditure proposal?

It is the established and generally accepted view that the fundamental role of taxation is to raise revenue to fund the provision of services by the State.  In providing these services, the State has its various policy objectives including tackling disadvantage.  In looking at the effect of changes to income tax it needs to be borne in mind that what is at issue is the change in tax paid by income earners - those in lower income categories do not pay income tax.  Just over 23% of those returning income for tax purposes pay 74% of all income tax.  Accordingly, changes to income tax affect some sections of the population more than others and do not affect those not paying tax.  

The particular policy priorities in this Budget driving the changes to the income tax regime are: to consolidate progress made in Budget 2002 towards removing those on the minimum wage from the tax net, to continue the policy of easing the tax burden on lower paid employment, and to increase the incentive to work.

Does it  . . .

 i)           help to prevent people falling into poverty ?

By increasing levels of income and increasing the reward for work, the Budget’s income tax changes help to prevent people in the target groups from falling into poverty. As indicated above, the Budget delivers progress towards the agreed policy goal of exempting the minimum wage from income tax - for a single person, the first €223 per week earnings equivalent to 90% of the minimum wage is made free of tax even though the minimum wage has increased.   In addition, the exemption limits from income tax for persons aged 65 and over are being increased by an annual sum of €2,000 single/€4,000 married bringing them to €15,000 and €30,000.  This represents an increase of over 15%.  In two years the limits have increased in value by almost 39%.

ii)     reduce the level (in terms of numbers and depth) of poverty ?

iii)   ameliorate the effects of poverty ?

Changes to direct taxation will not directly impact on those in the lowest income households, who are already by and large outside of the tax net.  Budget 2003 removes a further 37,400 taxpayers from the tax net bringing the total of income earners outside the tax net to 681,000. For a married couple, with one income (PAYE) and a carer in the home, the first €443 per week is made free from tax while for a single person the first €223 per week of income becomes free from tax.

Altogether, these measures help to improve the welfare of people on lower incomes.  Removing additional lower income earners from the tax net helps to increase disposable incomes at this level.  Similarly, the increase in the employee credit will mean that the circumstances of certain workers on lower incomes, and who continue to be in the tax net, will be improved.

iv)    have no effect on poverty ?

By taking people out of the tax net Budget 2003 will help to improve disposable incomes.

  v)     increase poverty ?

The income tax changes do not increase poverty.

vi)    contribute to the achievement of the NAPS targets ?

Insofar as persons defined as consistently poor are within the tax net, the Budget income tax measures will contribute to progress towards the overall NAPS target to reduce poverty among that section of the population.  The income tax system is not modulated on a regional basis.

vii)  address inequalities that might lead to poverty ?

viii)  as proposed, reach the target groups ?

By taking more of the lower paid out of the tax net and by reducing tax at lower levels of income, the income tax measures address inequalities that might lead to poverty.  To the extent that target groups are income earners, the income tax measures will impact positively on their welfare. The tax changes will remove 37,400 from the tax net and will reduce the burden for other low income households.

Improvements to the Family Income Supplement, Farm Assist and an increase in Child Benefit, in addition to the increases in other social welfare payments, achieve balance in the distributional effects of this Budget. Responsibility for poverty proofing of social welfare expenditure measures lies with the Department of Social and Family Affairs.

And what is the rationale and basis of the assessment (data/information) behind each of these proposals?

The basis for this assessment is the analysis by both the Department of Finance and the Revenue Commissioners of the distributional impact of the changes to income tax in Budget 2003. Examples 1 - 15 in Annex A show the net income changes for a range of incomes and family types including the impact of Child Benefit and FIS.  Figures 2 - 4 below show the net income gains for Single, Married One Earner (Two Children) and Married Two Earners (Two Children) on full rate PRSI. 

If the proposal has the effect of increasing the level of poverty, what options might be identified to ameliorate this effect?

Not applicable.

If the proposal has no effect on the level of poverty, what options might be identified to produce a positive effect?

Changes to income tax affect some sections of the population more than others and do not affect those not paying tax.  As already indicated, it is necessary to take the social welfare measures in Budget 2003 into account as well as taxation measures and direct social inclusion spending planned for 2003. 

Figures



[1] This publication includes the result of analyses conducted by the Department of Finance using SWITCH, the tax/benefit model developed at the ESRI.   The model is described in Simulating Welfare and Income Tax Changes, by T. Callan et al., Dublin : ESRI, 1998.  No responsibility for the analyses in the present document is accepted by the ESRI or by the authors of the model software