The Agenda for Tax Reform in Ireland – Tax Expenditures William H. Batt, Divisional Director,...

The Agenda for Tax Reform in Ireland – Tax Expenditures

William H. Batt, Divisional Director, William H. Batt, Divisional Director,

Indecon International Economic ConsultantsIndecon International Economic Consultants

2020thth June 2008 June 2008

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Presentation Structure

IntroductionDescription of Tax ExpendituresIssues re Review of Tax ExpendituresExamples and Outcomes from Indecon ReviewConcluding Remarks

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Introduction

Context for Commission’s work in area of tax expenditures:» Proliferation of various tax incentive mechanisms and

schemes over long period» Increased focus on need to demonstrate value for

money in usage of public resources» Absence – until recently – of timely information on usage

and costs relating to different tax expenditures» Continued scarcity of information on outputs/benefits of

tax expenditures

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Description of Tax Expenditures

Definition of tax expenditures:

“A tax expenditure can be defined as a transfer of public resources that is achieved by reducing tax obligations with respect to a benchmark tax, rather than by a direct expenditure” (OECD, 2003)

Tax expenditures, as distinct from public expenditures, may take a variety of forms, including:

»Exemptions»Allowances»Credits»Reliefs, including tax rate reductions»Tax deferrals

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Description of Tax Expenditures

A wide range of different tax expenditure schemes/mechanisms have been employed in Ireland

Some (limited) examples of schemes/mechanisms include:» ‘Property-based’ and sector-specific taxation incentive schemes,

e.g. childcare facility scheme» ‘Area-based’ taxation incentive schemes – e.g. Section 23» Tax credits – e.g. R&D credits» Pension contribution relief

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Issues re Review of Tax Expenditures

Introduction and operation of various tax expenditures over time in Ireland have reflected variety of policy contexts and rationales

Tax expenditures should be evaluated similarly to other public expenditure programmes => value for money imperative and both represent a cost to the taxpayer

Evaluation/review of tax expenditures should therefore follow Department of Finance’s guidance on evaluation of expenditure programmes:

» Relevance» Rationale» Effectiveness» Efficiency» Impact

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Issues re Review of Tax Expenditures

Particular challenges involved in evaluation/review of tax expenditures: » Tax expenditures are passive in nature» Full costs of standard public expenditures typically known ex ante;

costs of tax expenditures are only known ex post => issue of take-up impacting on costs

» Issue of information – absence, until recent change in tax return requirements, of timely information on costs relating to different tax expenditures

» Very little information available on outputs/benefits of tax expenditures

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Examples and Outcomes from Indecon Review

Instructive to consider evaluation of tax expenditures by reference to previous review work in this area

Detailed review of property-based tax incentive schemes was completed by Indecon for Department of Finance

This review considered 11 different property-based schemes across number of sectors/areas including tourism, medical, 3rd-level education, childcare sectors

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Useful, for purposes of this presentation, to focus on 2 examples of schemes reviewed by Indecon, namely:» Capital allowances for Hotels; and» Capital allowances for Childcare Facilities

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Key components of Indecon’s approach to review are set out below

Approach to and Key Components of Indecon Review

Quantification of Level of Activity, Investment/Capital Expenditures andExchequer Costs

Evaluation of Gross Economic Costs and Benefits

Adjustments for Deadweight, Displacement and Opportunity Cost ofResources Utilised

Analysis of Distributional Impacts of Benefits

Assessment of Alternatives and/or Refinements to Schemes

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Capital allowances for Hotels – key features:» Capital expenditure incurred up to 31 December 2004 on any

building or structure used as a hotel or holiday camp qualified for capital allowances

» Allowances of 15% of expenditures for first 6 years and 10% in seventh year

» Reduction to 4% per annum over 25 years on expenditure incurred after December 2004

» Finance Act 2004 provided extension of transitional arrangements from December 2004 to July 2006

» Capital allowances ring-fenced and could be offset only against rental income in case of individual, passive investors

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Number of significant changes in hotel sector in Ireland:» Considerable increase in room supply and quality since

mid-1990s (see overleaf), particularly in 4* category» Substantial increase in planning application activity

coincident with incentive scheme» Room and bed utilisation rates have fallen, however,

since 2000» Average size of hotels has increased» Evidence that incentive scheme has had significant

differential impact on supply and majority of hoteliers believe scheme has contributed to over-supply in sector

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Total Number of Hotel Rooms - 1996-2005

0

20,000

40,000

60,000

80,000

100,000

120,000

1996 1999 2002 2005

Source: Gulliver database

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Estimated Total Eligible Capital Expenditure on Hotels and Holiday Camps under the Tax Incentive Scheme

Detail Estimated Value - € Million

Total Cumulative Capital Expenditure – 2001-2005 664.4

Forecast for Future Capital Expenditure 977.0

Source: Indecon Calculations

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Exchequer Costs - Estimated Tax Revenue Foregone under the Tax Incentive Scheme for Hotels/Holiday Camps

Estimate € Million

Capital Expenditure to Date 664.4

Est. Additional/Future Capital Expenditure 977.0

Gross Tax Revenue Foregone 195.8

Estimated Economic Benefits (adjusted for opportunity cost of resources)

41.7

Tax contribution adjusted for Indirect Tax Revenues 75.2

Net Tax Revenue Foregone 120.5

Net Tax Revenue Foregone – adjusted for Deadweight 125.0

Source: Indecon calculations

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Capital allowances for Childcare Facilities:» Allowances available for expenditures on or after 2

December 1998 on construction, extension or refurbishment of approved childcare facilities

» 100% relief available in Year 1 or at 15% per annum for first 6 years and 10% in Year 7

» Clawback provision if building ceases to be used as a childcare facility within 10 years

» No termination date for incurring qualifying expenditure on this relief

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Capital allowances for Childcare Facilities – Activity:» Evidence of positive differential impact of tax relief

scheme on supply of childcare places (+37% between 1999 and 2004)

» However, demand has outstripped supply and childcare costs have continued to increase

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€95

€85

€139€126

0

20

40

60

80

100

120

140

2000 2005

Childcare Providers that have availed of the tax incentive scheme over the past 5 years

Childcare Providers that have not availed of the tax incentive scheme over the past 5 years

Av

era

ge

Co

st

of

Pla

ce

s -

€ p

er

We

ek

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Estimated Total Eligible Capital Expenditure on Childcare Facilities under the Tax Incentive Scheme

Detail Estimated Value - € Million

Total Cumulative Capital Expenditure – 2001-2005 30.7

Forecast for Future Capital Expenditure (based on planning applications in 2005)

21.2

Source: Indecon Calculations

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Exchequer Costs - Estimated Tax Revenue Foregone under the Tax Incentive Scheme for Childcare Facilities

Estimate € Million

Capital Expenditure to Date 30.7

Est. Additional/Future Capital Expenditure 21.2

Gross Tax Revenue Foregone 8.6

Estimated Economic Benefits (adjusted for opportunity cost of resources)

7.7

Tax contribution adjusted for Indirect Tax Revenues 3.5

Net Tax Revenue Foregone 5.1

Net Tax Revenue Foregone – adjusted for Deadweight 5.7

Source: Indecon calculations

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Number of general policy recommendations for future operation of property-based schemes on were issued:» Increase requirements for disclosure of key information to

Revenue and the Exchequer by investors/promoters» Decision on any new incentive schemes should be informed by

full appraisal of likely costs and benefits» Option of direct public expenditure rather than tax reliefs should

be considered» Need to specify defined lifespan for any schemes introduced» Consider potential cap on total annual allowances which can be

claimed by any one individual (distributional impacts)

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Specific recommendations re Hotels and Childcare schemes» “There should be no further extension of capital

allowances for hotels and holiday camps for projects which have not lodged a full and valid planning application before 31 December 2004”

» “Capital allowances for childcare facilities should continue subject to certain amendments”

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Concluding Remarks

Large number of tax expenditure-based schemes/mechanisms have operated in the State

Increasing emphasis on demonstrating value for money and absence of information costs have prompted review and evaluation

Overall, while many schemes have generated benefits, Indecon analysis indicated that schemes, with limited exceptions, have served their purpose

Key issue of whether direct public supports would, in majority of cases, represent more efficient, effective and targeted usage of scarce resources

The Agenda for Tax Reform in Ireland – Tax Expenditures William H. Batt, Divisional Director,...

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