All this talk of a flat tax

The current political environment in Italy is one which I find very interesting, notably in how it is perceived in foreign media and presented to us through the usual media outlets. In particular, I reference the constant use of the word ‘Populism’ and ‘Populist Government’. I confess that I had to have a quick look at the definition of populism before writing this Ezine and was interested in finding out that the exact defintion, according to Wikipedia, is:

‘Populism is a political philosophy supporting the rights and power of the people in their struggle against a privileged elite’

I have a confession to make that if I can pick and choose only this broad defintion of Populism then I think I can fit myself into a part of the populist ideal. (Clearly it is more complicated than this but I am merely trying to make my point, and as a regular reader of my E-zine’s you will understand my usual approach!)

However, I think it is worth exploring the idea that the Lega and M5S coalition have put together of a flat tax. Although a flat tax for eveyone, no matter how rich or poor is completely obscene in my opinion the ‘flat tax’, proposals, which will launch at 20% for businesses as of July 1st 2018 and 15% – 20% on 1st Jan 2019 for individuals, assuming the Government holds together, actually make a lot of sense to me.

A radical reform of the Italian income tax system is about to take place, and one which is long overdue in my opinion. Not for any populist reasons, but for more practical reasons which I will expand on below.

The proposed flat tax regime
If you want to have a look at the Contratto per il Governo di Cambiamento, then you can do so HERE. It makes interesting reading, if not full of more blurb than actual facts at this stage. However, its a start.

So, going back to the issue of the flat tax. The proposal, soon to be put into force, is to reform the tax regime into 2 flat tax rates, namely 15% and 20%. This sounds very new and certainly will win a lot of those populist votes. But first let’s take a look at how income is currently spread in Italy and the following chart shows just who it would affect:

It’s quite interesting to note from this chart that 80% of the tax paying population of Italy earn up to €29000. The median declared income is €19000pa. Those may sound strange numbers but when you consider the current Italian tax rates (see chart below), you can start to form an idea that there is probably a little bit of fiddling of the figures. After €28000pa in reddito complessivo the tax rate jumps from 27% to 38%. With this in mind, the proposal of a flat tax could potentially bring in alot of, currently, undisclosed (let’s call it what it really is: ‘in nero’) money to the Government coffers.

How might it work in practice?
The new proposal is to have a flat tax of 15% on a combined ‘reddito famigliare’ of upto €80,000pa. If your ‘reddito famigliare’ is above €80,000pa then the flat tax rises to 20%.
A proposed maximum tax of €3000 would apply for every member of the family where they have a individual ‘redditto complessivo’ of no more than €35000pa. This would be limited to families where the ‘redditto famigliare’ is between €35,000- €50,000 pa.

In short, the most generous tax deductions are for those who have a ‘redditto famigliare’ between €40000 and €60000pa.

A straniero example……
This all sounds very exciting and some what overly generous for a country which has historically taxed its citizens up to the eyeballs. However, let’s use an average straniero example to see what difference it would make.

Let’s assume that we have a retired couple, with state pensions (€8000pa each) and private pensions of €18000 and €3000 respectively. They also own a property in their home country which generates a UK income of €8000pa (jointly owned). They have investments and savings, but for the purposes of this example they are not relevant as the proposed measures are for income tax only.

Under the current regime the income of each individual would be subject to taxation.

Spouse 1: €8000 + €3000 + €4000= Total €15000pa The tax rate applicable would be 23% therefore the tax would be €3450

For the purposes of this example I am not including any benefits, or credits that might be avaiable to any one individual or another

Spouse 2: €8000 + €18000 + €4000 = €30000pa Spouse 2 exceeds both band 1 and 2 and will enter the higher rate tax bracket creating a taxable liability of €7720

THE TOTAL INCOME TAX BILL WOULD BE: € 11170 per annum

Under the new proposals both spouse 1 and spouse 2 would pay a flat tax of 15% on their combined income , meaning a total tax bill of €6750

A SAVING OF €4420pa

Let’s take a breath and calm down for a moment
So, before we all start getting very excited we all know the Italian Government is not the most coherent at the best of times and we are in an unprecedented era. It may be that this proposal is watered down yet and we get a half way house offer, but I expect that simplification and lower tax rates are on the cards. In the end the country still has to balance the books and attract foreign investment. If they don’t have enough money coming into the Government coffers to keep the system running smoothly (for lack of a better word :0)) then the money will soon dry up and punitive tax rates will have to be imposed to reap that which has been lost.

My soap box moment
And so I move onto my favouritie part of this E-zine. My soap box moment. You see, I have been wanting to write this formally for a long time but never really had the opportunity to do so. I would go on record as saying that I am actually in favour of this radical overhaul of the Italian tax system and whilst I see this proposed flat tax regime as being a little unequally distributed, I do think its necessary and despite what the bankers, economists and bureaucrats tell us, I actually think it would be a good thing for Italy.

The entrepreneurial zone
I have always waxed lyrical that, what I like to call the entrepreneurial zone, in Italy, is completely dead. Any good economics book will tell you that 80% of employment and growth in a society comes from small to medium sized businesses. That is the shop that opens and gets so many customers that they need to employ a young person to manage the business in the mornings, or a new online business which grows rapidly and needs to employ 5 new people to manage operations. It’s worth repeating that 80% of growth in an economy and job growth comes from this area. Not the Vodafone’s of this world or the multitude of other multinational businesses that pop up on the high street. It’s the small businesses and one man bands that grow into medium sized firms that cumulatively turn over billions in revenue each year. This is real growth. And this is what Conte ( the new Prime Minister) talked about in his first address to Parliament when he said that he wanted Italy to grow its way out of debt and not have to impose more austerity. He is absolutely right. The economics speak for themselves.

Which brings me back to the entrepreneurial zone. This is the area which I think is the most important. To take a business from nothing: an idea, a start up, to revenue of €50,000 each year and onto €250,000 each year you need incentive. It is in the Governments’ interest to incentivize you because you are going to employ the people and pay the taxes that will contribute towards 80% of the running of that country. And from there you may have the skills to turn that business in a multi million euro revenue business employing hundreds of people and contributing back even more into the running of the society. The problem with Italy is that after €28000pa in revenue they effectively chop you off at the knees (the tax rates rise astronomically + there is the dreaded social security contributions to pay. INPS) and let you see if you can hobble along and survive whilst they come running after you to chop off your arms, and then take the rest. It’s like being chased by a mad axe man without your legs and seeing if you can hobble faster than he can catch up with you before he hacks the rest off. It just doesn’t work. In my opinion, this is one of the main problems in Italy and why I think both Di Maio and Salvini have got the right idea when it comes to taxation. (The rest of their policies are open to debate, although some of those also have a lot of merit!)).

I am reminded of the conversations I regularly have with clients who recount stories of their children who set up businesses in Italy and either struggle on barely being able to keep the businesses afloat and or eventually closing down. A young business needs all the revenue it can get in that ‘ entrepreneurial zone’, that area between €0 and €100,000 pa. If a business is going well most of that income is going to be re-invested anyway and used to employ people or purchase goods and services. Europe has to support Italy at this time and allow that zone to flourish and provide opportunities to young and old entrepreneurs alike.

So who is responsible for change
There is always a counter argument for every case and clearly in this case, given the cultural back drop to Italy’s tax collection issues there will be economists who will argue that if income tax revenue were to drop drastically by lowering rates so much then how will Italy, ‘The State’, balance its books, after all there is nothing to say that people will suddenly start declaring all their income because the tax rate is more favourable. That is why the proposed tax regime has to be followed by some hardline clampdowns on tax evasion. Otherwise, it just won’t work.

I am going to follow these proposals closely, and feed back to you, to keep you abreast of any legislation changes. (Watch out for the summer months as they like to slip new laws in whilst everyone is on holiday). I am completely in favour of a total overhaul of the Italian tax system and dispute what the media, economists, and supposed experts say (I sound like a Brexiteer). I think drastically cutting tax rates in Italy, whilst having a short term impact on Government revenue would attract foreign investment in droves ( I mean if you had the chance to set up a factory in Huddersfield or one in Umbria, which would you choose?), it could increase investment rapidly, create jobs, create subsidiary businesses servicing the bigger ones, incentivize larger business to relocate because of the tax rates and could create a new economic boom for Italy. That being said, if it isn’t put into place with some heavy Governmental supervision then it could all fall apart and Italy’s days in Europe would be numbered. And therein seems to be the folly of the whole idea. Europe, whilst I love the European project dearly, has not treated countries like Italy favourably and should it continue on its current path without allowing any kind of change and only implementing austerity, then the likelihood is that Italy would eventually decide to Italexit.

Government has to lead
Italy, like any government around the world has to take the lead in forcing through sensible change. The young business people I know who are barely making ends meet are never going to fully declare every euro they earn when they have families to feed, medical treatments to take care of and childrens schooling costs to pay. And given the choice of making a ‘few’ euros ‘in nero’ and being able to look after the family versus paying into a corrupt state which merely extracts the money from you by osmosis for its own nefarious means, the choice is simple. Most families, if not all, will take that risk. They just have to. Or they move abroad!

So I am in favour of Di Maio and Salvini’s tax plans. I hope they manage to find a solution that will help everyone, mainly the poor and the entrepreneurs who want to prosper but don’t have the ability to do so because of draconian tax measures which should have been ditched long ago. It won’t be an easy ride, but I hope it’s a success. And in the end, should it pay off it may just keep Europe together. Can you imagine Di Maio and Salvini going down in the history books as the saviours of Europe!

(You don’t need to write to tell me that my artistic licence has been abused in this article, just enjoy and let’s see what happens. I, for one, am moderately positive about the future if they can bring about positive change in the tax system in the way in which they are proposing to do).

Given the proposed changes in taxes in Italy, it will be an important time to take a look at your own tax and financial planning arrangements and make sure that they are as tax efficient as possible.