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Tackling complexity in the tax system

Category Technical Articles
AuthorTechnical Department
Article by Adrian Rudd of PricewaterhouseCoopers, Tax Adviser's representative on Technical Committee, on the CIOT's paper "Tackling Complexity in the Tax System" (published in the May 2000 issue of Tax Adviser). Introduction

In October 1999, the Tax Faculty of the ICAEW issued a paper entitled ‘Towards a better tax system’. It set out ten criteria which good tax legislation ought to satisfy, one of which was simplicity.

The CIOT’s response focussed on the unnecessary complexities in the UK tax system, which should be addressed as a matter of some urgency. It looked at some of the reasons for complexity in any modern tax system and then went on to consider what can be done, both to avoid unnecessary complexity, and to help businesses and other taxpayers to cope with the system.

The CIOT believes that the UK tax system is now so complex, and is increasing in complexity at such a rate, that it is in danger of malfunctioning.

Reasons for complexity

Fairness

In order to be fair, the tax system must take account of the capacity of taxpayers to pay.

For example, although the poll tax was a very simple tax, it was widely perceived to be unfair because it took no account of the taxpayer’s resources and ability to pay.

Taxpayers’ capacity is determined not only by their income and gains but also by their personal circumstances.

Having said that, excessive complexity in a tax system is itself unfair because most taxpayers, and many Inland Revenue staff, will be unable to understand the system with the result that it will not be administered correctly. Further, complexity favours those who can afford tax planning advice.

Tax avoidance

The CIOT recognised that no one likes paying tax, and that if taxpayers can escape liability by lawful means, they may try to do so. Loopholes in the legislation become apparent, and these have to be closed by new legislation. Almost every Finance Bill in the last 40 years has contained anti-avoidance legislation. Such legislation tends to be complicated because of the complexity of the arrangements which taxpayers make to avoid paying tax.

The recent attempt to short-circuit these procedures by mean of a general anti-avoidance rule was abandoned largely because of the difficulty of formulating a workable rule and resourcing a clearance system.

Increasing complexity of society

The world of industry, commerce and investment is vastly more complex today than it was when income tax in its present form was introduced 150 years ago. One example is the profileration of financial instruments and derivatives during the last quarter-century. This increase in complexity will inevitably be reflected in the tax system, but the CIOT believes that the impact on the tax system is sometimes made unnecessarily complex.

Economic objectives

Successful governments have used the tax system to encourage particular economic activity or investment. The Government recently introduced a tonnage tax regime for shipping companies, and it clearly believes that this is justified on the basis that it should create jobs for UK-based individuals. However the draft legislation runs to 53 pages, and further regulations and Statement of Practice will be required to implement the legislation in detail.

Some people might excuse this complexity on the basis that the legislation is relevant only to a small number of persons who can afford to pay for specialist tax advice. In practice, however, there are costs – for example further administrative burdens will be placed on the Revenue at a time when they are under great pressure as a result of other changes.

Social objectives

Successive governments have used the tax and benefits system as a means of re-distributing wealth. For example, the Working Families Tax Credit and Disabled Persons Tax Credit schemes have recently been introduced largely with social policy objectives in mind.

Change for the sake of change

The CIOT suggested that any new government may dislike the initiatives of the previous government simply because they were ‘not invented here’. The CIOT felt this was the only explanation for the replacement of PEPs and TESSAS by ISAs, for example. The Government could have made small changes to the existing rules – instead, it has introduced a new type of investment which is difficult for the layman to understand and whose revenue effect will be little different from PEPs and TESSAs.

Similar considerations apply in relation to stakeholder pensions. Instead of making the limits of investment more flexible and imposing restrictions on costs charged to PPS policies, the Government has decided to introduce a new type of policy which may not be any better than personal pension schemes.

Tackling complexity

As discussed, the tax system is bound to be complex and has an inbuilt tendency to become more complex over time. Therefore, conscious efforts need to be made to ensure that it does not become needlessly complex. Such efforts have not been made in the past in any systematic way.

The CIOT suggested that ‘simplification’ has become something of a spin word, which is used to justify tax changes which the Government wants to make for other reasons. In the past, attempts at simplification have taken the form of the enactment of new legislation. The result has been an increase in the total amount of legislation which the Government wants to make for other reasons. In the past, attempts at simplification have taken the form of the enactment of new legislation. The result has been an increase in the total amount of legislation. That, by itself, has increased the complexity of the system.

Spin-offs from the Tax Law Rewrite Project

Currently, the Inland Revenue and professional bodies are going through the direct tax legislation with a fine-tooth comb in an effort to rewrite it in plain English. Whilst the rewrite exercise cannot itself change the law, nevertheless the opportunity must be taken by the Government to reconsider any legislation which is complex but which does not involve large amounts of revenue, with a view to repeal or simplification.

The first rewrite Bill – the Capital Allowances Bill – has now been published. It runs to 350 pages and illustrates how complex the capital allowances legislation has become. The CIOT is persuaded that there is a strong case for abandoning the capital allowances system and allowing a deduction for depreciation charged in business accounts in accordance with GAAP.

Other, less ambitious changes would be repeal of the Schedule E benefits provisions on shared vans, and a modernisation of the rules for calculating the benefits from living accommodation provided for employees. Also, the need for the accrued income scheme should be reviewed.

The capital gains tax legislation is horrendously complicated and brings in a comparatively small amount of tax in macro-economic terms. Various attempts have been made in the past to bring about some simplification, all without success. A bolder attempt would seem to be required.

The CIOT also believes that there is a case for replacing the complicated age-related allowances and marginal reliefs with a single allowance for the over-65s which does not depend on the taxpayer’s income. A similar simplification of the married couple’s allowance is also desirable. Older people simply do not understand how these rules work.

Aligning the income tax and NIC systems

The CIOT welcomes the efforts being made to bring the two systems more closely into line with each other, in terms of both the tax base and the administration. It is an unnecessary complication that NIC system should operate as an independent system from income tax on earned income.

A complexity test for new legislation

The CIOT proposed that there should be a complexity test for all proposed tax legislation, whether it introduces a relief or imposes a charge, in addition to the compliance cost assessment. It should compare the amount of legislation required against the amount of tax at stake, and any legislation which is disproportionately complex should be abandoned.

Coping with complexity

When the tax system is so complex that the people who operate it cannot understand it, the system will malfunction and may break down altogether. The income tax and capital gains tax legislation cannot be understood by most tax officers in the Revenue, let alone by taxpayers who have to fill in complex self-assessment tax returns.

Techniques have to be devised for coping with complex legislation. Traditionally, these have included the provision of explanatory material in the form of booklets. This is only of limited use to the layman, since the rules which are being explained are irreducibly complex. New techniques include the use of computerised expert systems, and the provision of help desks and Internet facilities by the Revenue and Customs and Excise.

Clearly, the tax law rewrite project is an essential element of any strategy for coping with complexity although, due to the underlying complexity of the system, the rewrite is likely to benefit tax professionals rather than the layman. The CIOT would like the rewrite project to be expanded to include the rewrite of the main statutory instruments, including the PAYE regulations, which affect a large number of people.

Despite all the help which is available, many small businesses, especially micro-businesses, may find that the burdens being imposed on them by the tax and benefits system, plus other regulatory burdens, are simply beyond their capacity to cope with. This is where the systems breaks down and businesses are put at additional commercial risk. The CIOT would like micro-businesses to be removed from the ambit of as many as possible of the burdens recently imposed.

Conclusions


  • The tax legislation is enormously complex and needs to be simplified;
  • Existing legislation should be pruned, even if this means a small loss of tax revenues or reliefs;
  • The Tax Law Rewrite project should identify areas where the law might be simplified and should refer them to policy-makers for consideration;
  • When considering the introduction of new legislation, the Government should consider its effects on the overall complexity and workability of the tax system;
  • New legislation should itself be subject to a complexity test, in addition to the compliance cost assessment;
  • Some of the existing regulatory burdens should be removed from very small businesses;
  • The revenue authorities should continue with their efforts to provide help.

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