The Cypriot tax reform raises significant concerns regarding fairness, particularly for lower-income groups. Designed nearly 25 years ago, the current tax system is increasingly seen as outdated, burdening domestic companies while favouring foreign ownership. This system, marked by its reliance on indirect taxes, is one of the least progressive in the European Union.
Systemic Issues in the Current Tax Structure
Originally intended to be competitive on an international scale, the Cypriot tax framework has devolved into a model that disproportionately affects local businesses and low-income earners. The reliance on indirect taxes, such as the value-added tax (VAT), coupled with social security contributions, places a heavier burden on those least able to afford it.
The Need for Reform
There is a consensus among economists and political analysts that a comprehensive tax reform is essential. Such reform should prioritise the principles of good taxation, as outlined by Adam Smith, which include equality, efficiency, simplification, and adequacy. Existing proposals lack a cohesive approach, with many political entities merely suggesting piecemeal adjustments rather than a holistic overhaul.
Volt Cyprus’ Vision for a Fairer Tax System
One notable exception in the reform dialogue is Volt Cyprus, which has put forth a detailed proposal aimed at addressing the regressivity of the current tax system. Their approach advocates for an increase in the tax-free allowance to €24,000 and a 33% adjustment in all other tax brackets to account for inflation since the last reform in 2002.
Addressing Cumulative Inflation
Between 2002 and 2025, cumulative inflation is projected to reach around 50%. This means that an income of €30,000 in 2025 will have the same purchasing power as €20,000 in 2002. The current tax burden fails to reflect this reality, leading to a significant decline in real disposable income for many. Volt’s proposals aim to rectify this disparity by ensuring that tax brackets are adjusted regularly to keep pace with inflation.
Increasing Tax Burdens on the Vulnerable
The government’s proposed tax reforms have raised alarms for their potential to exacerbate the financial struggles of middle and lower-income groups. Despite claims of supporting these demographics, the actual disposable income for these individuals has decreased compared to 2002 levels, largely due to inflation and rising living costs.
Impact of Indirect Taxes
As indirect taxes like VAT continue to rise, low-income households are facing even greater financial pressure. The proposed reforms fail to eliminate fiscal drag, which occurs when inflation pushes taxpayers into higher brackets without adjusting the tax scales. This results in a situation where individuals experience an increase in tax liability without any corresponding increase in real income.
Comprehensive Solutions for Equity
Volt’s proposal not only suggests adjusting tax brackets for inflation but also calls for the introduction of a ceiling of €70,000 on income exempted from life insurance contributions. This measure aims to enhance the progressivity of the tax system while ensuring fiscal adequacy.
Targeted Support for Families and Housing
Another critical aspect of Volt’s proposal is the need for targeted subsidies for families and housing. The current exemptions for children and housing disproportionately benefit higher-income groups, leaving lower-income families without adequate support. Instead, introducing direct subsidies for families and targeted housing assistance based on income levels could create a fairer system.
Corporate Tax Reforms and Their Implications
On the corporate side, the proposed tax reform removes withholding taxes on profits and reduces the special defence contribution, aiming to incentivise business growth. However, the increase in the corporate income tax rate from 12.5% to 15% raises questions about its impact on small and medium-sized enterprises.
Foreign Companies and Tax Incentives
While the reforms maintain incentives for foreign companies, such as the intellectual property rights framework, concerns have been raised that these measures primarily benefit larger, foreign entities rather than fostering local economic growth. For the reform to be effective, it must include clauses ensuring fair taxation across all company sizes.
The Stakes of Inaction
The current trajectory of the tax system, which increasingly relies on regressive taxation, poses significant challenges to equity within society. As tax revenues grow faster than the economy, the burden shifts disproportionately onto lower-income households, exacerbating inequality.
A Call for Equitable Taxation
Failure to align tax scales with actual inflation rates and continued reliance on indirect taxes is squeezing the lower-income segment of the population. High earners may benefit from specific tax breaks, while middle and low-income earners see little relief amidst rising costs. The lack of prioritisation of equity in the tax system remains a critical concern that must be addressed.
In sum, Cyprus’ tax reform presents an opportunity to rectify longstanding inequities within the system. However, without a comprehensive, fair approach, the existing disparities are likely to persist, further marginalising vulnerable groups.
