What must the Isle of Man Government do in 2016?

Monday 18 January 2016

by Phillip Dearden, Director - Tax, Equiom Solutions

The Government has gone a long way to balancing the Revenue Account and for this Treasury Minister Mr Teare and his team must be congratulated. Unfortunately the job is not finished, as I am sure Mr Teare and his team are aware. This matter is now a subject of public debate and has attracted media attention. Taxpayers and business leaders are concerned as to the state of Government finances, particularly the standard and level of public services and also about whether there are to be changes to the fiscal environment.

Balancing the books over a long-term basis will not be achieved before this year’s budget, but the Government can set out its plans and the general election in September will be a comment on those plans. It will be interesting to see what alternative suggestions opposition members and those wishing to be elected come up with.

One way of dealing with these problems, and in some ways the best method, is to raise new funds. There are a number of initiatives in their initial phases to bring new business to the Island, including attracting new technologies such as digital currency, new fundraising methods such as crowdfunding, and the setting up of funding for new business start-up schemes. It has to be hoped that these, and other ideas, bring in more revenue to Government coffers. If they do not raise sufficient funds then alternative methods must be considered. These may include raising taxes, cutting expenditure and refinancing. In order that the electorate can properly assess whatever proposals are put forward the Government needs to set out how it might approach these matters. While these methods may increase Government cash flow they all have negative side effects: raising taxes will reduce the attractiveness of the Island to new businesses and potential new residents; reducing costs could both reduce the quality of service, which in turn might make the Island a less attractive place to live, as well as reducing employment and the level of economic activity on the Island;  refinancing utility company debts may be possible and might ease cash flow in the short term, but in the long term any new debt must be serviced and eventually repaid. Thus, there are options but they all have downsides. Mature and considered judgement needs to be applied.

A big part of the Treasury Minister’s deliberations will concern the Government pension scheme. In the Government’s March 2015 accounts the Net Pension Liability provided for was £3.014bn. This is an enormous sum and unlike most business pension schemes no fund (except for the Isle of Man Post Office) has been set aside to pay for these pensions. There will never be a day when a £3.014bn bill has to be paid; instead this is an actuarial estimate of the fund that would be required to pay for the pensions as they fall due. Unlike businesses, the Government has a significant asset out of which pensions will be paid and that is future tax revenues, so the position is not as bad as a review of the balance sheet on its own might suggest. Nevertheless, the amount by which annual pensions has exceeded contributions has steadily increased and is a drain on public finances. This matter has been addressed a number of times and significant changes have been made to many of these schemes so that contributions by members have increased significantly. However, a long-term plan for dealing with the increasing annual cost needs to be a part of an overall financial plan. Some extreme suggestions have been made such as reducing the value of pensions already earned. This is not really tenable as these benefits have already been earned and for a Government to renege on existing debts to its own staff would be a serious and negative step. It would also make it difficult to attract important classes of employees, such as teachers and health workers to the Island. Less drastic steps such as increasing contributions, reducing the inflation-linkage or increasing taxation will have to be considered. Until a long-term solution is identified, this problem will fester.

In the long run, a change to a funded scheme whereby contributions by both the Government and employees are put into a fund from which pensions are paid, with no extra exposure by Government, is attractive and may be the Holy Grail. However, to achieve this Government would no longer be able to rely on current employee contributions to fund existing pension obligations – this would exacerbate cash flow problems in the short run. Thus, what may be the ideal solution may be hard to achieve.

Summary

The Government has suffered a serious financial setback as the result of a number of adjustments to the VAT-sharing agreement with the UK. This had reduced cash inflow significantly and while much has already been achieved in terms of balancing the revenue account, significant further work needs to be done in terms of replenishing the capital account, debt repayment and funding pensions. The fact that there is an election this year offers the Government an ideal opportunity to set out how it will deal with these issues and for people with alternative suggestions to put those forward. The voters will then have their say on Election Day.