47/49 Pearse Street

Dublin 2

Finance Bill 2011

Submission to the Minister for Finance

Executive Summary

1. CCAB-I recognises that the overriding imperative in Budget 2011 was to raise sufficient taxes during 2011 and that that the various tax measures already announced must be assessed within this context.
2. The curtailments of the various property reliefs will do little to raise additional revenue, primarily because of the existing limits on the overall income tax reliefs which an individual can claim. The reputational cost of the changes is very high. Property values will be even further damaged.
   We call for a phased reduction in the amount which can be claimed over a number of years rather than a guillotine approach, and the retention of offset of allowances against rents from other properties.
3. The unnecessarily secretive approach to changes such as the Universal Social Contribution only adds to business costs in applying the changes. Future long term measures with widespread effect should be flagged in advance so that those businesses charged with applying them can put systems and procedures in place in a reasonable timeframe and at reasonable cost.
4. The Corporation Tax relief for startup companies must be extended to professional services companies, otherwise it will remain ineffective. There is no justification for removing the tax incentives for individuals investing in companies. The promised Employment and Investment Incentive should be available for all companies and all types of taxpayer.
5. The restriction of tax relief for professional subscriptions should not apply where the subscription is funding state agencies or regulatory activities obliged by law.

About CCAB-I

The Consultative Committee of Accountancy Bodies – Ireland is the representative committee for the main accountancy bodies in Ireland. It comprises Chartered Accountants Ireland, the Association of Chartered Certified Accountants, the Institute of Certified Public Accountants in Ireland, and the Chartered Institute of Management Accountants.

Brian Keegan, Director of Taxation at Chartered Accountants Ireland (brian.keegan@charteredaccountants.ie, 01-6377347) may be contacted if any further details in relation to any points made in this submission are required.

Introduction

As public commentators CCAB-I has responded responsibly in the wake of the economic downturn. We consistently defend Ireland's tax record both at home and abroad and actively canvass for Ireland's fiscal interests.

The overriding imperative in Budget 2011 was to raise sufficient taxes during 2011 to meet the international covenants which Ireland has entered into to secure funding to cover the Exchequer Deficit and our Banking Sector obligations.

We make no comment in relation to these matters other than to recognise that the various tax measures already announced must be assessed within this context. The emphasis within this document is to highlight measures which we feel might be ineffective, or constitute bad or inequitable law.

Changes to Property Reliefs-Section 23 Relief and Capital Allowances

In very brief summary, from 1 January 2011, Section 23 relief is ringfenced for offset against income from the Section 23 property only. In addition, at the end of the 10-year holding period, any unused relief will be lost. If the property is sold within this period, the new owner will not get Section 23 relief while the seller will continue to be subject to a clawback of relief already given.

Capital allowances for passive investors of property and area based schemes are also restricted. With effect from Budget night, any unused capital allowances carried forward beyond the seven or ten-year period relevant to the particular scheme will be lost. Similar to the Section 23 measures, capital allowances are now ringfenced for offset against income from the property generating the capital allowances only.

Property Tax Policy

What would ultimately become Section 23 Relief was introduced in the Finance Act 1981. At Second Stage of that legislation, the then Minister for Finance commented in the Dáil:

• “As with the general proposals for increased participation by the private sector in capital development, these allowances are framed so as to provide investment opportunities for the private sector and at the same time represent reasonable value for the State.”¹

The Minister then went on to point out Government commitment to “arrangements to encourage rented housing and comprehensive redevelopment by private property funds in major urban areas”.

Section 23 relief therefore was not seen as a tax break for the welfare of investors. It was introduced as a tool of Government policy to encourage a certain type of investment behaviour. That investment behaviour would in turn lead to a greater supply of rented accommodation in urban centres.

There is an agreement implicit in such Government measures. Government wants citizens to invest in a particular way to fulfil its social objectives. In turn, the citizen can expect that the reward for such investment will be delivered upon.

There is no fundamental difference between the National Solidarity Bond launched earlier this year by An Post and a Section 23 type investment:

• Both require the commitment of a large sum of capital.
• Both are long term investments.
• Both are tax incentivised.
• Both are Government sponsored, devised to promote an investment behaviour necessary to achieve a policy goal.

What might the reaction be if, five or six years into the term of a National Solidarity Bond, the Government were to announce the removal of the tax exemption? Would anyone ever invest in a State sponsored savings scheme again? What would the reputational consequences be for the Government?

The property reliefs appear to have been abolished for no reason other than that they were no longer politically desirable. It is ironic that the sacrifice of coherent and reliable Government tax policy signalled by the abolition of the reliefs will not achieve anything in terms of Exchequer returns that would not have resulted simply by waiting a mere two years.

Poor policy direction diminishes us all; those who formulate it, those who must apply it, and those who must suffer its consequences.

Property Values

It is not overstating the case that the withdrawal of Section 23 relief, along with the associated Capital Allowances based reliefs on property, is hugely damaging. A property sector, already reeling from the downturn, is dealt another valuation blow. In the rush to remove the property reliefs, it seems that the underlying philosophy that the relief “belongs” to the property rather than to the taxpayer was completely overlooked.

Put very simply, a Section 23 property lost a further portion of its value on Budget Day 2011. Without the capacity to transfer the relief along with the title of the building, the building is devalued.

Among the immediate practical consequences are:

• Some of the larger capital allowance schemes (universities, hospitals etc) may include guarantees by the promoters on the availability of capital allowances. Accordingly, the promoter could now have a significant liability to the investors
• Many of the capital allowance schemes are structured such that rental income matches the interest on borrowings. In such cases, there will be no income from the property and thus no ability to offset the capital allowances. Thus, the allowances have effectively been abolished in these cases
• Business plans already submitted to NAMA in relation to loans secured on tax incentive properties are no longer valid
• Debt repayment schedules reliant on the availability of tax relief to provide the cashflow necessary for debt servicing are no longer valid

Scheme Structures

In recent years, a standard feature of the type of property schemes being put in place has been a warranty offered by a promoter against a tax change.

The extent of the warranty can vary. Some scheme promoters will have a requirement to compensate investors in full for the tax savings suspended. The exposure of others may be more limited to the change in the net present value now created on the money invested. Other schemes will tie the investors and promoters into a renegotiation of the terms of the arrangements.

Some promoters will face ruin.

The big winner in the abolition of these reliefs is not necessarily the Exchequer. In some cases it will be the legal profession. And in other cases, perhaps involving student accommodation or hospital facilities, there is a possibility that the public purse will lose, rather than gain, overall.

Exchequer Savings

For several years it has not been possible to establish new schemes which are either commercially attractive or viable in areas outside of child care or health care.

It appears to us that the estimated €400m annual Exchequer cost attaching to these schemes may be misleading.

The most reliable figures in the public domain come from the Revenue Statistical Reports. According to the 2008 Statistical Report here, the “assumed maximum” tax cost of property reliefs based on 2006 returns was in the order of €470m. But this was on the back of several years of stable income yields, and before the impact of the phase out of most new schemes. In particular, it was before the impact of the High Earners Restriction.

We also point out that:

• Most property schemes would have expired by 2013 without the extraordinary Budget Measures
• Annual relief claims were dwindling as schemes came towards the end of their lives, with allowances mostly already used
• The High Earners Restriction had placed a very effective cap on the degree to which claims could be made. This cap deferred the possibility of relief claims to an extent that the claims would be worthless in today's terms by the time they could be made.

Remedies

The most immediate and effective remedy available is to reverse the decision announced on Budget Day, and not abolish the reliefs. As we have pointed out, this will not be significantly to the detriment of the Exchequer either in the short or the long term.

Alternatively, and at a minimum, we must seek to contain the contractual and structural harm which is the result of the abolition of the reliefs. Should Government consider it necessary to continue to pursue a policy of curtailment, we advocate the following:

• A grandfathering clause to preserve the relief for those property incentives linked to caring and healthcare, specifically crèches, private hospitals, mental health centres, palliative care units and registered nursing homes, where projects are either complete or substantially complete
• A reduction of the percentage expenditure which can be claimed annually in regard to property incentives not linked to caring and healthcare as described above, rather than an elimination of any prospect of offset
• A more realistic guillotine date, or perhaps a serrated guillotine date, allowing a higher proportion of the tax relief due on more recent schemes to be ultimately claimed. We suggest 2018, to tie in with the abolition of Mortgage Interest Relief
• The removal of the proposed ring-fencing of available relief to the property to which it directly relates, thereby allowing existing funding undertakings and NAMA planning to stand.

Universal Social Charge and other “immediate effect” changes

We appreciate that Budget changes are best finalised after a clear picture of the November Exchequer returns is formed, and that this necessitates a short interval between the Budget announcements and the application of new Financial Resolutions from 1 January. We also appreciate that it is in the nature of some Budget announcements that they cannot be signalled in any way in advance, perhaps for fear of market distortion.

However, some longer term measures would benefit from being flagged in advance. Among such measures announced in Budget 2011 is the manner of the introduction of the Universal Social Charge.

It was announced in Budget 2010 that a two strand system to levy tax on individuals, involving an income tax and a social contribution was to be introduced to replace the four tiers of Health Contribution, PRSI, Income Levy and Income Tax “proper”. It was evident that this would have most immediate impact on employers and payroll. Nevertheless, the details of the amalgamation of the Income Levy and the Health Contribution were not fully spelled out until Budget Afternoon. This is just over three weeks (and spanning the Christmas period) to their implementation on 1 January 2011.

There is a cost to business of implementing tax changes, and especially tax changes to payroll. The unnecessarily secretive approach only adds to business costs.

We are aware that certain payroll services providers may have been made aware of the pending Universal Social Charge change, to allow them time to alter their systems. This, to our mind, merely confirms the need for more transparent approaches to change.

In the United Kingdom, details of changes to the income tax regime for the next tax year were provided almost contemporaneously with the Irish change details. The key difference is that the United Kingdom changes do not take effect until 6 April 2011.

Investing in Irish Business

Corporation Tax Relief for Startup Companies

We note the extension of the availability of this relief, and the proposal to extend its scope to cover liabilities to PRSI. These are to be welcomed.

However, the relief remains unavailable to professional services companies. The relief has not been widely availed of to date, and we consider this to be a major factor in curtailing its effectiveness as a mechanism for promoting job creation.

By continuing to exclude professional services companies, a significant constituency of small private enterprise may not avail of the relief. From a commercial standpoint, many professionals are obliged to operate through a corporate structure. This can be for insurance or professional indemnity reasons, for example engineers and financial consultants. It can also reflect industry practice – we understand that many of the major software multinationals will only hire contractors through an operating company, rather than engage individuals directly. There should be no particular tax penalty attaching to following best commercial practice.

The activities of the professions and the delivery of services generally, are important components of Ireland's ambitions to develop a smart economy. New professional enterprises should be treated in the same way as new trading or manufacturing enterprises.

By excluding certain activities from this Corporation Tax relief, professional services organisations are being discriminated against. This may have unintended implications under the EU Treaty.

As a company's after tax profits are taxed on their ultimate extraction to the shareholder normally under standard income tax rules, we see no scope for tax avoidance mechanisms arising from the inclusion of professional services companies within the relief.

Two matters would need to be addressed – the prohibition of activities of which were previously carried on as part of another person's trade or profession as being a qualifying trade for companies availing of the relief (TCA97 s486C (2)(a)(ii)) and the service company exclusion (TCA97 s486C (2)(a)(iv)).

Employment and Investment Incentive for companies

We are pleased to note the proposals for a new Employment and Investment Incentive for companies, having advocated such an incentive in our pre-Budget submission. We understand that this new incentive will require European Commission approval, and once that is obtained, it will “revamp” the existing Business Expansion Scheme.

There can be no doubt that there is a gap in the market at present regarding the funding of Irish Business, and in particular the Small to Medium Enterprises sector.

There is an underlying problem with targeting small business with any form of relief. All businesses start small. Further, of the number of SMEs in operation already in this country, only a proportion will be significant in terms of future jobs and growth opportunities. If an incentive scheme has too many conditions or restrictions imposed on it, the number of businesses which will benefit and ultimately make a real difference within their local (or eventually within the national) economy is too small.

A proper funding mechanism should not discriminate between large and small enterprise. However, we agree with the emphasis on job creation.

The Business Expansion Scheme suffered from “over-targeting” being available only to those companies which “manufacture”. In 2008, only 461 investors made BES type investments. The figure for the related relief, Seed Capital, was even worse, attracting just over 60 investors. This volume of investment is not adequate.

Capital is available within the economy, but a large volume of capital is held by Irish citizens in low risk, low interest bearing investments. We need to get this money into the wider economy.

We believe that a successful Employment and Investment initiative will have the characteristics of being open to everyone, of operating independently of the investment target, and of requiring a long term and regular commitment on the part of the investor.

Therefore, unless the new incentive is both broadly targeted and generally available to taxpayers we would not be optimistic that the new Employment and Investment Incentive will constitute a major new departure in encouraging corporate investment by private individuals.

Income Tax Reliefs for Investing in Companies

Given an apparent desire to get people investing in Irish companies, it is hard to understand why interest relief for individuals on borrowings to invest in companies is being eliminated. Also, the tax relief for employees who invest in their employing company is being abolished.

Neither of these incentives were costly in Exchequer terms. Their abolition makes no sense where a climate of fostering investment is being encouraged.

Abolition of Tax Relief on Professional Subscriptions

For many years, it has been recognised that professional qualifications are necessary to fulfil certain employments. The long term pragmatic application of Case Law in this area was expressed in legislation in Finance Act 2003 and Finance Act 2004.

Financial Resolution No.26 of 2010 will result in the position being as it was before Section 8 of the Finance Act 2004 was enacted. It means that the blanket exemption from Benefit in Kind for employed professionals whose employer pays their professional subscription is removed.

It is accepted that it does not interfere with the tax deduction under first principles. There will however be additional administrative costs both for business and for Revenue as cases are re-examined to give effect to the deduction.

Regulatory Framework for Accountants

The various Companies Acts and associated legislation, most notably the Companies (Auditing and Accounting) Act 2003 requires the CCAB-I bodies to regulate their members on pain of sanction by the Irish Auditing and Accounting Supervisory Authority (IAASA). Further, s14 of the Companies (Auditing and Accounting) Act 2003 provides that our organisations must fund the activities of IAASA.

The principle is well established in case law that regulatory activity differs from economic activity generally. One such case, Institute of Chartered Accountants in England and Wales v. Commissioners of Customs and Excise² established that “a regulatory activity carried out under a statutory power for the purpose of protecting the public by supervising and maintaining the standards of practitioners in, for example, the Financial Services field fall on the other side of the line from economic activities.”

There are strong grounds, both in equity and in the public interest, for ensuring that professional subscriptions reflecting the cost of professional regulation remain within the exemption irrespective of the circumstances in which they are paid.

Anomalous Treatments

The drafting of Financial Resolution No.26 of 2010 will give rise to anomalies where:

• The accounts period of a professional association did not match the tax year.
• Tax relief for professional subscriptions is already provided for under another relieving provision.

Never before in our country has strong and effective professional regulation been so important. It seems counter-productive to increase its cost.

Relief for Pension Contributions

In our Pre Budget 2011 submission, we stated that there is much merit in many of the proposals within the National Pensions Framework published in March 2010. We also commented that it would be extremely important that the Framework be taken on in its entirety, rather than cherry picking the revenue raising or revenue saving proposals for implementation without reference to the broader picture. A pension policy should be viewed as an approach to spreading the income earned (and the tax paid) over the lifetime of the worker, rather than merely over his or her working career.

It seems to us that several of the key issues which the National Pensions Framework was designed to tackle have been at best set aside by the Budget proposals which:

• Standard rate the relief on all pensions contributions
• Limit reliefs available to employers
• Further limit the quantum of income by reference to which pensions tax relief may be claimed, and
• Penalise funds in excess of the Standard Fund Threshold

We believe that, in particular, the following issues are particularly compromised:

• The indications that some pensioners are not attaining the replacement income target (50 per cent of pre-retirement income);
• The evidence that many pension scheme contributors are under-saving for retirement;
• The need for tax incentives to be targeted to strike a balance between encouraging pension coverage, achieving greater equity and the cost effectiveness of the existing arrangements

Limiting the tax relief available will not mean that more pensioners, irrespective of their income bracket, will attain their replacement income target, or that more individuals will save appropriately for retirement. In particular, those nearing the end of their careers will be especially prejudiced by the reduction in the income limits against which relief may be claimed.

The pensions announcements unfortunately may cast doubt on the coherence of pensions policy. The National Pensions Framework is not an historical document – it is less than one year old. Nor is it a mere position paper, nor a Civil Service discussion document, nor an item of thought leadership – it is an official Government cross departmental statement, signed by the Taoiseach and two Cabinet Ministers. In its introduction, the Framework states:

• “The inescapable fact is that for every pensioner we have now there are around six people at work to support them; by 2060 that figure will be less than two.”

There is no evidence, that we are aware of, that this has changed.

It would be credible, and indeed the Framework makes reference to it, that proposals within the Framework should be introduced over time to reflect economic circumstances. However, the Budget Statement makes the conclusion of particular policy measures identified within the Framework very difficult.

The “Big Ticket” item in this regard was the proposal to set tax relief for the individual contributor at 33% irrespective of their marginal rate of tax³. The Budget will result in relief being available ultimately at 20%, without any restriction on the application of tax charges (other than on a curtailed lump sum) as pensions savings are disbursed. This, we fear, will not lead to better pension provision by citizens.

Source: Chartered Accountants Ireland www.charteredaccountants.ie

1. Mr G. Fitzgerald, 7 April 1981

2. [1999] UKHL 19.

3. As described at Sections 4.2.1 and 5.2 of the National Pensions Frameworkpublished 3 March 2010.