#Budget2016: What’s behind the changes to business taxation?
George Osborne has cut corporation tax again. In 2020, the rate will go down to 17% – lower than the basic rate of income tax. Given the extent of the cuts being meted out to welfare spending and local government services, this choice – forecast to cost nearly £1 billion when it comes in – makes it very clear where the Conservative government’s priorities lie.
This cut might make sense if corporation tax in the UK was significantly higher than in comparable countries – or if it could be shown that further cuts in corporation tax would boost investment and thus innovation and business growth. But UK corporation tax is already the lowest in the G20 and there is no evidence that lack of cash is what is holding down business investment – uncertainty and lack of demand in the economy are likely to be much more important factors.
Capital gains tax is also being cut dramatically. The higher rate is being reduced from 28% to 20% and the basic rate from 18% to 10%. Significantly, these rates are now much lower than income tax, and there is a strong danger that this will reopen a loophole for businesses to devise ways to pay people via capital gains rather than through wages. It was precisely this that infamously led to private equity partners who were raking in millions paying a lower rate of tax than their cleaners. While it is welcome that carried interest (the means by which private equity managers often pay themselves) is exempted from the cuts to capital gains tax, carried interest is only one way that capital gains can be used as income.
George Osborne clearly has a short memory: in his June 2010 budget he said:
“I have listened carefully to everyone’s views and considered all the options. My concern has been to balance the competing demands of fairness, simplicity and competitiveness – and I believe my decision gets that balance right. Low and middle income savers who pay income tax at the basic rate make up over half of all capital gains taxpayers. They will continue to pay tax on their capital gains at 18 per cent. From midnight, taxpayers on higher rates will pay 28 per cent on their capital gains.”
The gap between the existing CGT rates and income tax already leads accounting firms to give advice such as:
The failure to align CGT and income tax rates means that capital is preferable to income where the option exists. This should be taken into account as part of your planning strategy.
There is a strong risk that this cut to CGT will see a proliferation of this kind of advice and those seeking to exploit it – while those on low incomes continue to pay tax at 20%.
On a more welcome note, the budget includes some measures to address tax loopholes in the current system. Perhaps most significantly, the government is moving to cap tax relief on interest payments on debt – something that the TUC has called for in the past. At present, the interest payable on debts can be offset against tax, which creates a tax incentive for high rates of leverage or borrowing. This has encouraged private equity buyouts funded by huge debts, created an unequal playing field between debt and equity for company finance and encouraged financialisation. The government is capping the relief for interest payments at 30% of taxable earnings. It may not be enough, but it’s a start.
In addition, the government is planning to limit the extent to which profits can be offset by past losses for tax purposes. In the future, only 50% of profits can be offset by past losses for tax payments. This will get rid of the current situation where a company can make large profits but not pay a penny in tax because of past losses on its books. For the banks, only 25% of profits can be offset by past losses.
However, the measure does not limit the losses that can be offset nor limit the number of years over which the offset can apply; so it is possible that this measure will simply extend the period over which losses can be offset against tax, and over the longer term be tax neutral. By increasing the tax paid in this parliament, however, the Chancellor is helping himself meet his deficit target reduction strategy – even if this is at the expense of future government income.
Finally, the largest sums in the budget relating business tax stem from the announcement that a measure announced in the summer 2015 budget – to bring forward by four months the dates for quarterly instalments of tax – is to be delayed by two years. This is basically cost neutral over the parliament, but has the effect of increasing costs by nearly £10 billion over in 2017-19, but then increasing revenue by the same amount in the years 2019-21. On the surface this may look like a relatively unimportant measure – but it makes a huge contribution to enabling the Chancellor to claim that he will have generated a government surplus by 2020. Could this be its purpose? In the Office of Budget Responsibility budget Report, Robert Chote says:
“the direct effect of the Government’s policy decisions has been to increase the deficit in 2017-18 and 2018-19 by £6 billion a year on average, but then to improve the budget balance by an average of £14 billion in 2019-20 and 2020-21. The contrast is dominated by the Government’s decision to delay the July Budget measure that brings forward the timing of large firms’ quarterly corporation tax payments. This shifts roughly £10 billion of receipts from 2017-18 and 2018-19 back to the surplus target years of 2019-20 and 2020-21.”