We could be on the threshold of a fundamental shift in how governments fund public spending, writes Kevin McLoughlin (pictured), EY Head of Tax

The scale of the Covid-19 economic, societal and health crisis makes it probable that borrowing will become a much greater feature of government funding in future years. The acceptance at EU level of a degree of mutualised debt and grant aid to Member States in economic difficulties indicates that this may well be the case.

This in turn may lead to countries raising 50 or 100-year debt at very low rates and employing the funds for Marshall Plan-type strategies. We could well be at a point where governments are not so much focused on paying down debt but borrowing for longer at low rates instead. Of course, inflation will need to be kept down to sustain that.

Tax will have to form some part of the equation. Debt, no matter how long dated, has to be serviced and repaid at some point. However, the most significant tax measures in the July Stimulus were the reduction in the main VAT rate from 23% to 21%; the Stay and Spend incentive which offers a tax refund of up to 20% for taxpayers that spend at least €625 in the hospitality sector; and the early carry-back of 2020 losses against 2019 profits for businesses and self-employed individuals.

While these are all welcome, the continuing role of taxation as a lever of recovery has to be seen as doubtful. Indeed, even the VAT reduction only has a six-month time horizon, and in this regard we are advising clients to urgently review their own positions such that they can optimise this short-life benefit.

Balancing Act

The government has a delicate balancing act to play in this regard. It will have to balance the books sooner or later, but attempting to do that with tax increases or simply a restoration of previous levels may threaten to derail a nascent recovery. On the other hand, the government will hope that employment growth generated by the recovery will go a long way to filling the hole in its coffers.

In Association with

The government has attempted to use taxation in order to give businesses some breathing space ahead of that hoped-for recovery. Deferrals of property taxes and the warehousing of outstanding tax bills have come as welcome reliefs for businesses since the pandemic took hold.

Like government debt, these bills will fall due at some stage. Over 70,000 employers have availed of the debt warehousing facility, an even greater number than those registered for the Temporary Wage Subsidy Scheme.

It is vital that companies file their payroll and VAT returns on time to allow them to participate in the scheme. Our advice to clients has been to monitor closely the amounts of debt accruing and where possible to set aside and ring-fence surplus income to pay off these debts. If there is a requirement to dip into this fund, there should be a plan in place for how it will be replenished and a timeline for doing so.

Spending Measures

The next step on the road to recovery will be the announcement of the National Recovery Plan, followed closely by Budget 2021, which will give effect to the funding aspects of the plan. The measures announced then will likely dwarf the spending measures announced in any recent budget. That will result in a very large deficit, which the government will be challenged to service.

With little or no scope to raise personal or corporation tax rates, and limited capacity or political desire to broaden the tax base, it would appear that the government has little option but to continue to borrow to meet its deficits for the foreseeable future.