An Oifig Buiséid Pharlaiminteach Parliamentary Budget Office

Value Added Tax: Overview and Issues for Budget 2019

Briefing Paper 7 of 2018

Séanadh

Is í an Oifig Buiséid Pharlaiminteach (OBP) a d’ullmhaigh an doiciméad seo mar áis do Chomhaltaí Thithe an Oireachtais ina gcuid dualgas parlaiminteach. Ní bheartaítear é a bheith uileghabhálach ná críochnúil. Féadfaidh an OBP aon fhaisnéis atá ann a bhaint as nó a leasú aon tráth gan fógra roimh ré. Níl an OBP freagrach as aon tagairtí d’aon fhaisnéis atá á cothabháil ag tríú páirtithe nó naisc chuig aon fhaisnéis den sórt sin ná as ábhar aon fhaisnéise den sórt sin. Tá baill foirne an OBP ar fail chun ábhar na bpáipéar seo a phlé le Comhaltaí agus lena gcuid foirne ach ní féidir leo dul i mbun plé leis an mórphobal nó le heagraíochtaí seachtracha.

Disclaimer

This document has been prepared by the Parliamentary Budget Office (PBO) for use by the Members of the Houses of the Oireachtas to aid them in their parliamentary duties. It is not intended to be either comprehensive or definitive. The PBO may remove, vary or amend any information contained therein at any time without prior notice. The PBO accepts no responsibility for any references or links to or the content of any information maintained by third parties. Staff of the PBO are available to discuss the contents of these papers with Members and their staff, but cannot enter into discussions with members of the general public or external organisations.

Executive summary 2

Introduction 5

The Irish VAT system 6

Recent developments in Irish VAT policy 7

European VAT requirements 7

VAT and economic theory 8

Efficiency 8

Distributive impact 9

VAT and support for low income households 9

Analysis of Irish VAT revenue 10

International comparisons 12

Developments in European VAT policy 14

European Commission’s Action Plan on VAT 14

Impact of Brexit 15

Selected policy options 16

Fiscal impact of changes to VAT rates 16

Restructuring VAT to a single rate 17

Programme for a Partnership Government commitments 17

PfPG Commitment: 9% VAT on Residential Construction 17

PfPG Commitment: Work with the EU to reform VAT rates on goods such as defibrillators 18

PfPG Commitment: Retain the 9% VAT rate on tourism 18

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Value Added Tax: Overview and Issues for Budget 2019

Contents

Introduction

Value Added Tax (VAT) is a key element of Irish Exchequer funding. VAT is a tax on consumer spending. Taxes of this

nature can broadly be described as ‘consumption taxes’. In 2017 VAT revenue contributed €13.3 billion to the Exchequer.

This was equivalent to 26% of total tax revenue in 2017. The Stability Programme Update 2018 forecasts VAT receipts

of €14 billion in 2018. This would make VAT receipts 26% of total forecast tax revenue for 2018.

The aim of this Parliamentary Budget Office publication is to provide an overview of the VAT system and selected VAT

policy options in advance of the publication of the 2018 reports of the Tax Strategy Group and Budget 2019.

The Irish VAT system

VAT is generally collected from the entity providing the goods or services rather than the consumer. The standard rate of VAT

is 23% although lower rates of 13.5% or 9% are applied to selected goods and services. Furthermore, a 0% rate is applied

to certain goods and services. Businesses with a turnover of under €75,000 in goods or €37,500 in services are not

obliged to register for VAT. Goods from inside the EU will pay VAT at the Irish rate, unless the merchant has sales of under

€35,000 (the Irish Distance Sales Threshold) per annum. In this case, they will pay VAT at the rate in their jurisdiction.

European rules impose certain restrictions on Member States’ VAT policies. A minimum standard rate of 15% is required.

Member States may also apply two reduced rates. These rates must, at a minimum, be 5% and may only be applied

to certain goods and services. Member States are permitted to retain historic VAT rates which were in place before

1 January 1991. However, these rates cannot be extended to additional goods and services and they cannot be reapplied

once they have been increased.

Economic theory

VAT is a form of consumption tax. This is a tax on the consumption of goods and services. VAT can be considered

an indirect tax as it is not levied on the person who bears the burden of the tax. This is because although it is paid

to the Government by traders, it is people purchasing goods and services that pay the tax.

VAT, and consumption taxes in general, are generally considered to be among the less harmful and distortionary taxes.

While some commentators have suggested that lower rates of VAT be applied to some goods and services to lower

the burden on low income households, international experience suggests that applying different rates of VAT is an

ineffective way of supporting poorer households. Applying a standard rate and using the increased yield to fund

supports for those on low income would be more effective.

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Value Added Tax: Overview and Issues for Budget 2019

Executive summary

Analysis of yields

The VAT take in 2017 was €13.3 billion. This is equivalent to 26% of total Exchequer tax revenue for 2017. A slight

majority of activity (by value) is taxed at the standard 23% rate, however, this accounts for 72% of the revenue derived

from VAT. The largest sector in terms of VAT yield in Ireland is the retail and wholesale trade sector. This sector accounts

for 45% of VAT revenue.

International comparisons

Ireland’s standard VAT rate of 23% is relatively high. Only six EU Member States have a higher standard VAT rate and two others

apply the same rate of VAT. The average standard EU rate is 21.5%. Within the OECD, the average standard rate of VAT is 19.2%.

However, Ireland applies a greater number of lower rates and exemptions than other countries. This lowers the overall burden of

VAT on the population. Ireland’s VAT Revenue Ratio was 0.49 in 2014. The VAT Revenue ratio is the share of actual VAT revenue

compared to the hypothetical amount of revenue if all goods and services were taxed at the standard rate. This compares to an

OECD average of 0.56. This suggests that the Irish standard rate is not applied as broadly as in other jurisdictions. The OECD

average for VAT revenue as a percentage of GDP is 6.8% while Ireland’s VAT revenue accounts for 6% of GDP.

Developments in European VAT policy

The European Commission has proposed the creation of a single EU VAT area as a means of simplifying the VAT system

for businesses, combating fraud and reducing the administrative cost of collecting VAT. The Commission has outlined

a number of short term reforms including reforming obstacles to e-commerce in the single market, measures to ease

the burden of administering VAT on SMEs, measures to tackle VAT fraud and improve cooperation between national

tax administrations. In the medium term, the Commission aims to move towards a robust single European VAT area

and a more flexible rates policy for Member States.

The Commission have also outlined further proposals to support small-to-medium sized enterprises (SMEs) and to

increase the flexibility available to Member States when setting rates. The proposed rates regime would continue to

require Member States to apply a minimum standard rate of 15%, two further rates between 5% and 15%, a 0% rate

of VAT and another rate between 0% and the reduced rates. To protect revenues Member States would be required

to maintain a weighted average VAT rate of at least 12%.

As VAT is not paid on exports to outside the EU and can, in certain circumstances, be reclaimed by tourists who live outside

the EU, the withdrawal of the United Kingdom (UK) from the EU has the potential to present challenges to businesses

(especially in border regions); the VAT yield to the Exchequer; and to the collection and administration of VAT on cross-

border trade with the UK. In the absence of an agreement between the EU and the UK, the withdrawal of the UK from the

EU exposes Ireland’s VAT system to tax competition and the possibility of fraud and evasion relating to cross-border

trade with the UK and in particular Northern Ireland.

Selected policy options

Table 1 overleaf summarises the policy options considered by the PBO in this paper. These options are based on the

Tax Strategy Group paper on VAT from 2017 (with updated figures where possible) and the Programme for a Partnership

Government. This is not an exhaustive list of possible VAT reforms but does provide a range of available options.

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Value Added Tax: Overview and Issues for Budget 2019

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The Revenue Commissioners’ tax ‘ready reckoner’ outlines a number of scenarios for modifying the various main rates of VAT by

1 percentage point. This could have a yield/cost of between €115 and €436 million, depending on the rate to which it is applied.

Removing the 0% rate could yield between €506 and €2,197 million, depending on which rate is applied instead. If a single VAT

rate was to be applied in a revenue neutral manner the rate of VAT would be 16.2% (or 18.2% if the 0% rate was kept).

While the Programme for a Partnership Government has indicated that it is the intention of the Government to retain the 9% rate

of VAT applied to tourism services with periodic reviews, a number of political parties and commentators have proposed that

these goods and services be returned to the 13.5% rate. It has been estimated by the Revenue Commissioners that had this

been applied in 2018 it would have yielded €527 million.

Table 1: Summary of policy options

Option Impacts on Yield Further Impacts

Change 9% rate by +/- 1pp +/- €115 million* Increase/decrease in costs of goods and services.

Change 13.5% rate by +/- 1pp +/- €211 million*

Change 23% rate by +/- 1pp +/- €436 million*

Increase 0% rate to 5% + €506 million* Increase in cost of 0% rated goods.

Government not able to revert goods to 0% rate.

Increase 0% rate to 9% + €860 million*

Increase 0% rate to 13.5% + €1,290 million*

Increase 0% rate to 23% + €2,197 million*

Change VAT rates to 0%, 5%, 13.5% and 25%

+ €685 million* Items at 9% to 5%.

Items at 13.5% to 15%.

Items at 23% to 25%.

Change VAT rates to 5%, 15% and 25% + €2,230 million** Items at 0% to 5%.

Items at 9%/13.5% to 15%.

Items at 23% to 25%.

Merge all rates into a single rate Revenue neutral* VAT levied at 16.196% on all goods and services.

Merge rates into a 0% rate and a flat rate of VAT

Revenue neutral* VAT levied at 18.231% on most goods and services.

Goods currently at 0% remain at 0%.

Restore the 9% tourism rate to 13.5% + €527 million† Could make Irish tourism less competitive

9% VAT on residential construction - €270 million‡ Would spread benefit across entire market, rather than in a targeted manner

Difficult to administer and could potentially enable fraud

Change VAT rates on community goods Not estimated Will lower the costs to goods in question.

Is currently not possible under EU law

Possible alternative of providing subsidy

Allow charities to reclaim VAT €5 million allocated

Source: * Revenue Ready Reckoner May 2018 / ** Tax Strategy Group 2017 / † PQ No. 63 of 3 of July 2018 / ‡ PQ no. 83 of 21 June 2018

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Value Added Tax: Overview and Issues for Budget 2019

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Value Added Tax (VAT) is a key element of Irish Exchequer funding. VAT is a tax on consumer spending. Taxes of this

nature can broadly be described as “consumption taxes”. In 2017, VAT contributed €13.3 billion to the Exchequer.

This was equivalent to 26% of total tax revenue in 2017. The Stability Programme Update 2018 forecasts VAT receipts of

€14 billion in 2018. Various VAT reforms have been considered by the Cross-Departmental Tax Strategy Group in advance

of budgets. The report produced in advance of the Budget 2018 (in July 2017) discussed changes to VAT on residential

construction, maintaining the tourism VAT rate, assisting SMEs and broader changes to the rate and bands.

The aim of this Parliamentary Budget Office Briefing Paper is to aid members in their deliberation as part of the pre-

budget scrutiny process and to analyse a number of options for reform that have been proposed.

This paper:

n Outlines the current VAT system;

n Provides a brief overview of the economic logic of consumption taxes such as VAT;

n Discusses the VAT requirements imposed by European law;

n Compares Irish VAT policy to that in other jurisdictions;

n Highlights potential developments in European VAT policy;

n Examines the yield of VAT and the impact of adjusting the rate or bands; and,

n Finally, considers some other issues and policy options that have been proposed with respect to VAT.

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Value Added Tax: Overview and Issues for Budget 2019

Introduction

VAT is generally collected from an entity providing the goods or services. It is added to the cost paid by their customers

and passed on to the Revenue Commissioners. It is charged on all transactions of eligible goods and services. However,

as it intended to be a charge on consumption rather than a charge on transactions, it is possible for registered traders

to claim back the VAT on goods which they have bought and later sold.

Box 1: The Operation of the VAT System

For example, a manufacturer sells €100 worth of goods to a retailer. The retailer is charged €123, assuming the

goods are covered by the standard rate. The retailer is entitled to claim back the €23 that they paid in VAT. When the

goods are resold to the public they will have VAT applied to their retail price. In most cases this can not be reclaimed.

In this manner, VAT is applied on the consumption of the good and not on transactions prior to its final sale.

Businesses with a turnover of under €75,000 in goods or €37,500 in services are not obliged to register for VAT.

VAT is also applied to goods of over €22 in value which are imported into Ireland by private individuals from outside

the EU. Goods from inside the EU will pay VAT at the Irish rate, unless the merchant has sales of under €35,000 (the

Irish Distance Sales Threshold) per annum. In this case, they will pay VAT at the rate in their jurisdiction. This also

applies to Irish businesses trading within the EU. Registered traders are permitted to reclaim VAT paid in other

European jurisdictions. Exports to outside the EU do not incur VAT.

Ireland applies a number of different rates of VAT and exempts certain categories of goods and services from VAT.

These are outlined in Table 2. There are also a number of measures intended to simplify the administration of VAT

for small businesses such as the Flat Rate Addition1 for small farmers and the Cash Basis Threshold.2

A comprehensive list of the VAT rate applied to goods can be found on the Revenue Commissioners’ website.3

1 The Flat Rate Addition is a mechanism for VAT registered farmers to reclaim a portion of the purchase price from goods purchased from non-VAT registered farmers as if the non-registered farmer had paid VAT.

2 Below certain thresholds businesses may pay VAT on the basis of payment rather than of invoices issued.

3 Revenue Commissioners’ VAT rates database.

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Value Added Tax: Overview and Issues for Budget 2019

The Irish VAT system

Table 2: Irish VAT rates on sample goods and services

Rate Sample Goods and Services

23% All goods and services that do not fall into the reduced rate categories

13.5% Fuel, electricity, veterinary fees, building and building services, agricultural contracting services, short-term car hire, cleaning and maintenance services

9% Tourism-related activities including restaurants, hotels, cinemas, hairdressing and newspapers

4.8% Agricultural Products, including livestock (excluding chickens), greyhounds and the hire of horses

0% Basic groceries, books, children’s clothes and shoes, common medicine for humans and animals and various disability aids

Exempt4 Financial, medical or educational services and live theatrical and musical performances

Source: Revenue Commissioners’ VAT Rates Data

Recent developments in Irish VAT policyRecent changes to VAT policy include:

n Jobs Initiative May 2011 - introduction of 9% rate for tourism related services

n Budget 2012 - increase in standard VAT rate from 21% to 23%

n Budget 2013 - increase in cash basis threshold from €1 million to €1.25 million; flat-rate farmer addition

reduced from 5.2% to 4.8%

n Budget 2014 - increase in cash basis threshold from €1.25 million to €2 million; flat-rate farmer addition

increased from 4.8% to 5%

n Budget 2015 - flat-rate farmer addition increased from 5% to 5.2%; e-services now charged VAT in the Member

State of the consumer

n Budget 2017 - flat-rate farmer addition increased to 5.4%

n Budget 2018 - VAT rate on sunbeds increased to 23% from 13.5%; VAT refund scheme introduced for charities.

European VAT requirementsEuropean rules impose certain restrictions on Member States’ VAT policies. These rules are set by the VAT Directive.5 VAT

is required by EU law to promote transparency in the total cost of tax to the consumer, stop Member States selectively

applying taxes on downstream transactions to illegally subsidise industry and to protect competition within the Single

Market through the application of common rules. EU rules also mean that VAT rates on specific products and services

must apply universally i.e. rates on a good cannot be varied for different types of companies or different regions, etc.

The Directive requires a minimum standard rate of 15%. Member States may also apply two reduced rates. These rates

must, at a minimum, be 5% and may only be applied to goods and services outlined in Annex III of the Directive.

Member States are permitted to retain historic VAT rates which were in place before 1 January 1991. However, these rates

cannot apply to new goods and services and they cannot be reapplied once they have been increased. This limits the

ability of policy makers to lower VAT below 5%. Unless a good is already on the 0% rate it is not possible for VAT to be

charged on it at this rate. Ireland and the UK both apply a 0% rate to a relatively high proportion of goods, although

there are discrepancies between the goods the 0% rate is applied to between the two jurisdictions.

4 The difference between 0% rated goods and exempted goods is that suppliers of exempted goods may not reclaim VAT.

5 Council Directive 2006/112/EC of 28 November 2006 on the common system of value added tax.

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VAT is a form of consumption tax. This is a tax on the consumption of goods and services rather than a tax on income

such as the Universal Social Charge, a tax on business profits like Corporation Tax or the gains on the value of assets

such as the Capital Gains Tax. As opposed to Income Tax or the Local Property Tax, VAT can be considered an indirect tax

as it is not levied on the person who bears the burden of the tax. This is because although it is paid to the Government

by traders, it is people purchasing goods and services that pay the tax.

The key considerations when considering a tax, aside from the yield required, are its “efficiency” and its distributive

impact. In an economic context, the “efficiency” of a tax refers to how little it encourages people to change their

behaviour.6 It is presumed that a tax which changes how someone behaves makes them choose an option which

would otherwise not have been their first choice.

Distributive analysis considers whether the tax will mainly fall on those who are already well off or will be paid by those

who are poorer. Taxes that impact the wealthy more are considered “progressive”, while those that have a greater

impact on the poor are considered to be “regressive”.

EfficiencyIn theory, VAT is an efficient tax.7 As it is applied to consumption rather than to production it does not directly discourage

people from working. It impacts the consumption of goods and services rather than discouraging earning. Income taxes

work in the opposite manner as they disincentivise the earning of additional income. However, while it does not directly

reduce the amount that a person earns, increasing the cost of the goods and services a person may wish to buy reduces

the relative value of a person’s earnings. This indirectly lowers the incentives to earn.

If applied evenly across all goods and services, VAT does not make any particular item more or less attractive than

any other. However, VAT is not applied in this manner in Ireland. This damages the efficiency of VAT as it makes goods in

lower VAT bands relatively cheaper and more attractive to consumers. This may result in consumers choosing products

and services that they would not if a single rate of VAT was in place. It is a matter of public policy if these distortions are

a benefit or a disadvantage of the VAT system.

Compared to the other major sources of Government revenue, consumption taxes are considered relatively efficient.

Research by the OECD suggests that “taxes on immobile bases, such as property, and consumption are less distortive

than those on factor income (such as personal and corporate income).”8

6 Provided that changing behaviour is not one of the goals of the tax. This analysis presumes that the tax is being levied solely to raise funds for the Exchequer. In the principles of taxation, efficiency refers to the cost of collecting the tax.

7 Johansson, A et al (2008), Taxation and Economic Growth, OECD Economics Department Working Paper No 620.

8 Ibid.

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Value Added Tax: Overview and Issues for Budget 2019

VAT and economic theory

Distributive impactThe distributive impact of VAT has been considered by the OECD.9 The OECD has found that consumption taxes are regressive

when measured as a proportion of income (i.e. that they consume a larger proportion of poorer people’s income). However,

when measured against expenditure they have been found to be broadly proportional or somewhat progressive. This is

to say that people who spend large amounts in a year spend a greater proportion of their yearly expenditure on VAT. The

difference is driven by savings rates. As poorer people save a lower proportion of their income than richer people, more

of their income is exposed to consumption taxes. Poorer people may spend a greater portion of their expenditure on

goods and services (such as basic groceries or fuel) that have lower rates applied. However, a greater proportion of

the income of higher income people is not exposed to any consumption tax as it is not spent in the year it is earned.10

When considering the immediate impact of the tax and benefits system, measuring VAT against income may provide a clearer

picture. When trying to consider the lifetime implications of VAT, measuring against expenditure may be preferable. This is

because in general savings will ultimately be spent. Expenditure incurring VAT in any given year may be funded by income

earned that year, by savings from previous years or by borrowings against future income. For example, a pensioner with a

relatively low income may be using significant savings, earned while working, to fund current expenditure. This would distort

the picture of the progressivity of VAT as their low current income would mask their high expenditure and corresponding

high VAT bill. Therefore, the long run impact of VAT may better be represented as a proportion of expenditure.

In an Irish context, research published by the ESRI11 in 2011 suggests that the overall Irish VAT system, as a proportion

of disposable income, to be regressive even accounting for lower rates on certain goods and services. They found that

the increase to the standard rate of VAT as part of the National Recovery Plan was regressive. A later paper published by

the Nevin Economic Research Institute12 also found the increase in the standard rate to be regressive. However, it should

be noted that these papers expressed VAT as a proportion of income (rather than expenditure) and that changes to VAT

rates must be considered as part of a wider package of taxes and benefits.

VAT and support for low income householdsGiven the perception that VAT is regressive, especially in light of findings discussed above, it is a common practice

to apply different VAT rates to different goods and services in an effort to reduce the impact of VAT on low income

households. For example, in Ireland VAT on many staple foodstuffs (bread, milk) is zero rated.

The OECD highlight that applying different rates of VAT to basic goods and necessities is an ineffective way of alleviating

the burden on low income households. This is because wealthier households will also derive significant benefit from

these lower rates. Wealthier households will, at a minimum, benefit to the same absolute degree as poorer households.

This is the case for necessities such as food where demand does not change significantly with price and where these

goods make up a larger proportion of poorer households’ expenditure. In the case of goods where the larger incomes of

wealthier households allows them to purchase more of the goods, the benefits accrue significantly more to the wealthy.

The OECD suggest that applying a standard rate of VAT with minimal lower rates and using the additional funds to directly

support the income of those on lower incomes would be more effective. While poorer households would pay more of their

income in VAT as a result of this policy change, it would be potentially more than counterbalanced by an increase in social

welfare payments to vulnerable groups. This would maintain the support to lower income households and limit the availability

of the subsidy to wealthier households. As such, if implemented in a manner that left poorer households no better or worse

off, it would increase the funds available to the Exchequer which could be used to increase spending or lower other taxes.

9 OECD/KIPF (2014), The Distributional Effects of Consumption Taxes in OECD Countries, OECD Tax Policy Studies, No. 22, OECD Publishing, Paris.

10 For a detailed discussion of this debate see OECD/KIPF (2014) pp. 32-38.

11 Leahy, Eimear, Seán Lyons, and Richard SJ Tol. “The distributional effects of value added tax in Ireland.” The Economic and Social Review 42.2 (2011): 213.

12 Collins, Micheál. “The Distributive Effects of Recent VAT Changes in the Republic of Ireland.” (2014).

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The VAT take in 2017 was €13.3 billion. This is equivalent to 26% of the total tax take for 2017. The contribution of VAT

to the overall take has fallen since the economic crisis, although it remains a significant contributor to the Exchequer.

As a share of total revenue VAT peaked at 33% in 2008.

Figure 1: VAT Contribution to the Exchequer

VAT Take (€ million) Total Take less VAT (€ million) VAT % of Total

0

10,000

20,000

30,000

40,000

50,000

60,000

201620152014201320122011201020092008200720062005200420030%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Source: Revenue Tax Receipts Statistics

A slight majority of activity is taxed at the standard 23% rate (Figure 2), however, this accounts for 72% of Revenue

derived from VAT. A total of 11% of activity is taxed at the 0% rate..

Figure 2: VAT rate % of activity and VAT receipts

23% rate

13.5% rate

9% rate

0% rate

23% rate

13.5% rate

9% rate

0% rate

% of Activity% of VAT Receipts

72%

21%

7%

51%

13%

25%

11%

Source: Revenue Commissioners Ready Reckoner

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Value Added Tax: Overview and Issues for Budget 2019

Analysis of Irish VAT revenue

The major driver of VAT yield in Ireland is the ‘Wholesale and Retail Sector; [including] repair of motor vehicles and

motorcycles’. This sector accounts for 45% of VAT returns. This is to be expected as VAT is a tax on the final consumer

of the goods or services in question and should fall mostly on this sector as it is the main sector that sells goods to

final consumers.

Figure 3: VAT Contribution by Economic Sector

Accommodation & food services (6%)

Information & communication (6%)

Professional, scientific & technical activities (14%)

Real estate activities (6%)

Wholesale & retail trade; repair of motor vehicles & motorcycles (45%)

Others (23%)

6%6%

14%

6%

45%

23%

Source: Revenue Tax Receipts Statistics

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Ireland’s standard VAT rate is relatively high. Only six EU Member States have a higher standard VAT rate and two others

apply the same rate of VAT. Within the OECD, the average standard rate of VAT is 19.2%.

However, Ireland applies more lower rates and exemptions than other countries. This lowers the overall burden of VAT

on the population. A measure of the extent to which consumption is not taxed has been developed by the OECD which

is known as the VAT Revenue Ratio (VRR).13 The VRR shows the relationship between the theoretical maximum yield of

a country’s VAT applied at the standard rate to all of a country’s consumption as recorded in the national accounts and

compares it to the actual VAT yield. For example, a VRR of 1 would indicate that a country applied the standard rate of

VAT to all consumption. Ireland’s VRR was 0.49 in 2014. This compares to an OECD average of 0.56. This suggests that

while the Irish standard rate is high, it is not applied as broadly as in other jurisdictions. Figure 4 compares Ireland’s

VRR to a number of comparable OECD countries.

Figure 4: VAT Revenue Ratio 2014

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

OECDAverage

BelgiumIreland DenmarkCanada Finland UnitedKingdom

Netherlands

Source: OECD Consumption Tax Trends 2016

13 OECD (2016), Consumption Tax Trends 2016: VAT/GST and excise rates, trends and policy issues, OECD Publishing, Paris.

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Value Added Tax: Overview and Issues for Budget 2019

International comparisons

OECD data indicates that as a percentage of GDP, Irish VAT is lower than most comparable countries.14 The OECD average

is 6.8% of GDP while Ireland’s VAT accounts for 6% of GDP. However, it would appear that this is a function of Ireland’s

over all lower tax burden15 as VAT is in line with the OECD average as a percentage of total taxation.

Figure 5: VAT/Equivalent Sales Tax as a % of GDP and total taxation 2014

0%

5%

10%

15%

20%

25%

OECDAverage

BelgiumIreland DenmarkCanada Finland UnitedKingdom

Netherlands

% of GDP % of total taxation

Source: OECD Consumption Tax Trends 2016

14 The Canadian figure only includes the national “Goods and Sales Tax”. Most Canadian Provinces levy a further sales tax. This is also the case in the USA where, although no national sales tax exists, many States levy their own form of sales tax.

15 OECD Revenue Statistics – Ireland 2017.

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European Commission’s Action Plan on VAT

On 7 April 2016 the European Commission adopted an Action Plan on VAT16 (COM (2016) 148). This proposed the

creation of single EU VAT area as a means of simplifying the VAT system for businesses, combating fraud (estimated

to cost €170 billion annually)17 and reducing the administrative cost of collecting VAT. The European Commission

outlined a number of short and medium term reforms to the VAT system within the European Union. The short term

reforms proposed included reforming obstacles to e-commerce in the single market, measures to ease the burden of

administering VAT on SMEs, measures to tackle VAT fraud and improve cooperation between national tax administrations.

In the medium term, the Commission aims to move towards a robust single European VAT area and a more flexible rates

policy for Member States.

Since the publication of the Action Plan, progress has been made at a European level on a number of the priorities

highlighted. The rules regarding goods sold online were simplified and definitions were amended to extend provisions

that applied to physical books to ebooks and other digital equivalents.

The Commission have also outlined further proposals to support SMEs and to increase the flexibility available to

Member States when setting rates.18 The proposed rates regime would continue to require Member States to apply a

minimum standard rate of 15% and allow two further rates between 5% and 15%. However, Member States would also

be allowed apply a 0% rate of VAT and another rate between 0% and the reduced rates. Furthermore, the current rules

where lists of goods that are permitted to be taxed at the lower rates are maintained would be inverted. The rules will

mandate that the standard rate must apply to certain goods, such as weapons, alcohol and tobacco, and the taxation

of all other goods is at the discretion of national Governments. This would increase the flexibility available to Member

States while protecting the Single Market and making transactions between Member States administratively easier.

To protect revenues Member States would be required to maintain a weighted average VAT rate of at least 12%. Member

States would continue to be allowed maintain pre-existing rates. This proposal was presented to the Council of Ministers

for their agreement at the Council meeting of 23 January 2018.19 The proposal is currently in the preparatory phase in the

European Parliament.20

16 European Commission, COM(2016) 148 Final: Towards a single EU VAT area – Time to Decide.

17 A 2015 study estimated that this cost Ireland €1.3 billion annually.

18 European Commission (2018), ‘VAT: More flexibility on VAT rates, less red tape for small businesses’.

19 Council of the EU Economic and Financial Affairs Council, Public Session 23 January 2018.

20 European Parliament Legislative Observatory COM(2017) 0566.

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Developments in European VAT policy

Impact of Brexit

As VAT is not paid on exports to outside the EU and can, in certain circumstances, be reclaimed by tourists who live

outside the EU, the withdrawal of the UK from the EU has the potential to present challenges to businesses in border

regions, the VAT yield to the Exchequer and to the collection and administration of VAT on the border with the United

Kingdom. The European Scrutiny Committee of the Parliament of the United Kingdom has raised this issue in their report

“Value Added Tax: EU proposals for reform and the implications of Brexit”.21 The report notes that if the UK Government

does not reach an agreement with the EU on the administration of VAT it will create significant barriers to trade and that

the arrangements for the administration of VAT on goods entering the UK from Ireland in the absence of physical

infrastructure requires further detail.

The EU has proposed that the administration of VAT on goods on the Island of Ireland be dealt with by Northern Ireland

remaining within the EU’s VAT and excise area as part of the wider Withdrawal Agreement and ‘backstop’ deal.

In the absence of an agreement between the EU and the UK, the withdrawal of the UK from the EU exposes Ireland’s VAT

system to tax competition and the possibility of fraud and evasion relating to cross-border trade with the UK and in

particular Northern Ireland.

21 UK Parliament European Scrutiny Committee, Value Added Tax: EU proposals for reform and the implications of Brexit (HC 2018-04, 301-xxii).

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Fiscal impact of changes to VAT ratesThe Revenue Commissioners Ready Reckoner for May 201822 has outlined the estimated budgetary impact of changes

to the rates of VAT charged. This analysis provides a high level overview of the likely impacts from the changes to VAT

rates but must not be considered conclusive. The analysis appears to be a static assessment of the impact of these

changes and does not account for changes in behaviour prompted by changes in the relative price of goods. The impact

of increasing or decreasing the 9%, 13.5% or 23% rate by 1 percentage points (pp) is outlined in the table below.

Rate Budgetary increase of a change of +/- 1 pp

9% +/- €115 million

13.5% +/- €211 million

23% +/- €436 million

The ready reckoner also outlines the impact of removing the 0% rate and moving the goods currently covered by it to

one of the higher rates. It must be emphasised that, due to European law, any goods removed from the 0% rate cannot

be placed back at that rate. While this provides an estimate of the additional revenue that such a change could bring in,

it should be acknowledged that such a change could provoke a large behavioral response. It is also likely that such a

change would be phased in gradually rather than introduced as a single measure.

0% Rate Increased to: Yield

5% €506 million

9% €860 million

13.5% €1,290 million

23% €2,197 million

The Tax Strategy Group’s VAT paper23, which was prepared in advance of Budget 2018, explored two scenarios

for streamlining VAT rates. The scenarios considered and the resulting yield can be found in the below table.

New Rates Yield Changes

0%, 5%, 15% and 25% +€685 million Items at 9% to 5%

Items at 13.5% to 15%

Items at 23% to 25%

5%, 15% and 25% +€2,230 million Items at 0% to 5%

Items at 9%/13.5% to 15%

Items at 23% to 25%

22 Revenue Commissioners(2018), Ready Reckoner (Post Budget 2018).

23 Department of Finance (2017), Selected VAT Issues.

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Selected policy options

It is clear, given the large size of the base, that increases to the rate of VAT or changes to the bands have the potential

to raise significant funds for the Exchequer. However, increases to VAT rates have a very broad impact. They increase

the cost of goods and services in Ireland, with implications for purchasing power, quality of life and competiveness.

The effects would be particularly keenly felt in the border region, where businesses are in direct competition with traders

in another jurisdiction who operate under a different VAT regime. Conversely, when considering a reduction in VAT, the

above benefits must be balanced against the funds lost to the Exchequer. EU rules mean that this is not a significant

issue with respect to online sales as these are generally charged in the jurisdiction of the customer, unless the trader

does very little business in their country.

Restructuring VAT to a single rate

The Ready Reckoner also outlined what would be required if the Government wished to streamline the VAT system

into either an entirely flat rate of VAT or a system of one flat rate and one 0% rate in a revenue neutral manner. If the

Government wished to simplify VAT rules by applying one single rate which covered all goods and services in a revenue

neutral manner, the rate of VAT would be 16.196%. Maintaining the 0% rate but merging all other rates in a revenue

neutral manner would require a flat rate of 18.231%.

Rates being merged Revenue neutral rate

0%, 5%, 13.5% and 23% 16.196%

9%, 13.5% and 23% 18.231%

Programme for a Partnership Government commitments

A number of commitments relating to VAT have been proposed in the Programme for a Partnership Government.

These relate to the VAT charged on the sale of residential properties, flexibilities within the EU and the retention

of the 9% VAT rate for tourism related goods and services.

PfPG Commitment: 9% VAT on Residential Construction

Consistent with our existing deficit reduction targets, we will ask the Oireachtas to consider the merits of a temporary

targeted reduction of the rate of VAT from 13.5% to 9% on new, affordable houses and apartments, both public and

private, timed to generate the maximum impact on supply and to target principally the purchasers of affordable homes.

The Oireachtas Committee on Housing and Homelessness reviewed the proposal to reduce the VAT rate on residential

construction.24 They ultimately did not recommend that the VAT rate on residential construction be reduced. The

Committee decided it would be more efficient to target support for people seeking to buy residential property through

the income tax system. This support was ultimately delivered through the “Help to Buy” scheme which offered income

tax rebates to help first time purchasers fund the deposit required for their first home.

24 Joint Oireachtas Committee on Housing and Homelessness Final Report, June 2016.

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In response to a parliamentary question,25 the Minister for Finance has indicated that a relief of this nature would cost

€270 million. It would also be difficult to administer and open to fraud.

PfPG Commitment: Work with the EU to reform VAT rates on goods such as defibrillators

We recognise the difficulties faced by community groups in relation to VAT rates on certain products (e.g. defibrillators).

While this is an EU competency we will work with our EU counterparts in seeking to reform this area.

The reforms proposed by the European Commission as part of the Single VAT area action plan would allow the Government

the flexibility to apply a 0% VAT rating to selected goods. It should also be noted that while European law restricts the

ability of the Government to apply lower VAT rates, it would be permissible to apply subsidies to these goods equal to

the value of VAT, provided that it does not breach State Aid rules or other provisions.

In Budget 2018 the Government introduced a scheme to allow charities to reclaim a portion of the VAT that they paid

in the previous year on their inputs. This scheme has had €5 million assigned to it and will be introduced in 2019.26

PfPG Commitment: Retain the 9% VAT rate on tourism

We will work towards achieving the ambitious tourism policy goals set for 2025. These include increasing revenue

from overseas visitors to €5 billion, growing employment in the tourism sector to 250,000 (from 200,000

currently) and increasing the number of visits to Ireland to 10 million. We will do this through the national tourism

policy and through specific measures like the maintenance of the 0% Airport Travel Tax and the retention of the

hugely successful 9% VAT rate on tourism related services, providing that prices remain competitive.

The Programme for a Partnership Government indicated that the Government intends to retain the 9% rate of VAT for

services related to tourism providing that prices remain competitive in the industry. In response to a parliamentary

question,27 the Minister for Finance indicated that placing good/services currently covered by the 9% rate on the 13.5%

rate would raise €527 million in extra revenue. The lifetime cost of the 9% rate between its introduction in 2011 and

end-2016 is €2.2 billion.

The impact of increasing the 9% rate must be considered in the context of wider trends that impact the industry. If the

rate was increased to 13.5%, a bill which had previously been €100, including the 9% VAT rate, would now be €104.13.

While this is not insignificant, it must be viewed in the proper context. For instance, volatility in the Euro – Sterling

exchange rate meant that in 2017 a tourist from the UK could have paid between £83.53GBP and £93.04GPB for a

€100 bill. A tourist from the USA could have paid between$103.85USD and $120.60USD for the same bill.

25 Written response to PQ 83 of 21 June 2018 [27313/18].

26 Department of Finance (2018), VAT Compensation Scheme for Charities.

27 Written response to PQ 63 of 3 July 2018 [29091/18].

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The tourism industry has stated that the retention of the 9% rate is necessary to maintain the industry’s competitiveness

in light of a weaker Pound Sterling and the uncertainty surrounding Brexit.28 However, other commentators have

suggested that the support provided through the lower tax rate is no longer needed and that the additional funds

provided from applying a higher rate could allow additional investment.29 The removal of the 9% rate, in some capacity,

has been proposed in the 2018 pre-budget statements/alternative budgets of a number of parties.

28 Irish Tourism Industry Confederation (2017), Pre-budget Submission.

29 Irish Congress of Trade Unions (2017), Scrap Reduced VAT Rate, Invest in Public Services, Tackle the Housing Crisis.

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Commentaries

Quarterly Economic and Fiscal Commentary (Q2 2018) 10 July 2018

Quarterly Economic and Fiscal Commentary (Q1 2018) 16 April 2018

Quarterly Economic and Fiscal Commentary (Q4 2017) 23 January 2018

Post-Budget 2018 Commentary for the Committee on Budgetary Oversight 24 October 2017

Quarterly Economic and Fiscal Commentary (Q3 2017) 5 October 2017

Pre-Budget 2018 Commentary for the Committee on Budgetary Oversight 25 September 2017

Briefing Papers

Briefing Paper 6 of 2018 Potential Output, the Output Gap and Associated Key Issues for Fiscal Policy-making in

Ireland 11 May 2018

Briefing Paper 5 of 2018 An overview of Public Private Partnerships in Ireland 16 March 2018

Briefing Paper 4 of 2018 The Gender and Equality Budgeting pilot in the Revised Estimates for Public Services 2018

27 February 2018

Briefing Paper 3 of 2018 Revised Estimates for Public Services 2018 20 February 2018

Briefing Paper 2 of 2018 Local Property Tax: Issues to be considered with the revaluation of the base 15 January 2018

Briefing Paper 1 of 2018 European Semester 2018 and how it interacts with Ireland’s Budget 2019 15 January 2018

Briefing Paper 3 of 2017 Rainy Day Fund 19 December 2017

Briefing Paper 2 of 2017 Supplementary Estimates 2017 4 December 2017

Briefing Paper 1 of 2017 The role and functions of Ireland’s Parliamentary Budget Office (PBO) 24 November 2017

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Selected PBO Publications

Contact: PBO@oireachtas.ie Go to our webpage: www.oireachtas.ie/PBO Publication date: 24 July 2018

Houses of the Oireachtas Leinster House Kildare Street Dublin 2 D02 XR20

www.oireachtas.ie Tel: +353 (0)1 6183000 or 076 1001700 Twitter: @OireachtasNews

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