Treasury Committee launches Tax after Coronavirus report
The House of Commons Treasury Committee has published its much-awaited report on Tax after Coronavirus, the most ambitious parliamentary report ever produced on tax reform.
The Committee concludes that:
- Now is not the time for tax rises or fiscal consolidation, but significant fiscal measures, including revenue raising, will probably be needed in the future
- The Government’s tax lock manifesto commitment (not to increase rates of income tax, national insurance or VAT) will come under significant pressure
- A moderate increase in corporation tax could raise revenue without damaging growth
- The Government should prioritise reforming stamp duty land tax
- A major reform of the tax treatment of the self-employed and employees is long overdue
- The Government should introduce temporary three-year loss carry-back for trading losses and increase investment incentives for business
The report was launched by committee chair Mel Stride and his colleague Dame Angela Eagle at an online event hosted by the CIOT this morning (click the link to view the event).
The report in summary
Key conclusions: Now is not the time for tax rises or fiscal consolidation, but significant fiscal measures, including revenue raising, will probably be needed in the future. There is also a need for tax reform
This section of the report deals with the fiscal legacy of coronavirus, the long-term fiscal gap and the scope for raising additional tax revenue. It does not make proposals for specific tax changes.
The committee conclude that, while the pandemic will leave behind a large increase in the public debt, now is not the time for tax rises or fiscal consolidation, which could undermine the economic recovery. But significant fiscal measures, including revenue raising, will probably be needed in future. They re-iterate their previously expressed view that “the Chancellor should, at the next fiscal event, set out an initial roadmap of how he intends to place Government finances on a sustainable footing.”
The public finances are on an unsustainable long-term trajectory, due primarily to projections of rising age-related spending based on existing government commitments, say the committee. The Government should routinely produce a more extensive response to the Fiscal Sustainability Report than previously, setting out a strategy for how and at what level the public debt could and should be stabilised. To support this process, the Committee intends to carry out full scrutiny of the biennial Fiscal Sustainability Report in future, as it did for the first time in 2020.
The public finances are on an unsustainable long-term trajectory that has been exacerbated by the coronavirus pandemic. Additional tax revenue could make a contribution to addressing this. But the tax measures that are most politically palatable in the short term are often not those that minimise distortions to economic activity in the longer term. This is a large-scale and long-term challenge that requires taking a view of the whole tax system, how it can be reformed, and how it can raise revenue in a way that minimises economic damage as well as effectively supporting public services, which can in turn promote growth. As part of its recovery from the coronavirus pandemic, the UK has an opportunity for a comprehensive review and reform of the tax system.
Key recommendations: The Government should introduce temporary three-year loss carry-back for trading losses and increase investment incentives for business
The committee notes that, in its written evidence, CIOT made the point that continued uncertainty about the Annual Investment Allowance is damaging: “Tinkering constantly with rates and allowances in unexpected ways undermines the principles of stability and certainty that taxpayers need, and reduces the international competitiveness of the UK’s tax system. For example, in just over ten years, the level of Annual Investment Allowance (AIA) has changed five times, to amounts ranging from £25,000 to £500,000. The right level for AIA is a matter of political judgment but it is damaging if it is repeatedly altered, and causes complexity where a business’s accounting period spans changes in the AIA.”
The committee concludes that: “The Annual Investment Allowance is valued by business and it appears well targeted to promote growth in small and medium-sized enterprises. As with all tax reliefs there is likely to be some deadweight cost; but we urge the Government to look favourably on further extension and possibly permanency at the existing level, which would provide welcome certainty to small and medium-sized enterprises.”
The committee also endorses another measure supported by CIOT – temporary three-year loss carry back. It notes comments about the benefits of such a measure from Annie Gascoyne, the CBI’s Director of Economic Policy, and Chris Sanger, Global Government Leader at EY and Chair of the Tax Professionals Forum, during the committee’s hearing on business taxes.
The committee concludes: “We recommend that the Government should do as its predecessors have done during previous crises and support businesses by introducing a temporary three year loss carry-back for trading losses in both incorporated and unincorporated businesses. This would help those businesses which have shown that they are previously profitable recover from losses imposed on them by the impact of the pandemic.”
Key conclusion: introducing a windfall tax on pandemic-related profits would be problematic, but not impossible, if that was the political choice made
The committee notes that some firms and sectors have seen a significant increase in turnover as a result of the pandemic, and that some witnesses made arguments in favour of a windfall tax on the profits which have resulted. A Resolution Foundation report and evidence from Alex Cobham, CEO of the Tax Justice Network, are cited. However they also note the downsides to a windfall tax, including its potentially retrospective nature. “There would also be complexities, including the difficulties of identifying sectors to which any such tax should apply, ensuring that such a tax is fairly targeted at firms which have benefited excessively within those sectors, and identifying the element of a firm’s profits which could be reasonably attributed to excessive profits generated by the pandemic.”
The committee cites concerns from Tom Clougherty of the Centre for Policy Studies and Chris Sanger of EY, and adds that: “The Chartered Institute of Taxation was also not convinced that a conclusive case had been made, and it told us that “It is easier to say who has lost out as a result of COVID than who has unexpectedly benefited, and it is difficult to see a convincing tax base being identified which would yield worthwhile revenues”.
The committee concludes that, for these reasons, “introducing such a tax would be problematic, but that is not to say that it would be impossible to introduce a windfall tax in certain circumstances in the future, if that was the political choice made. The Treasury would clearly need to conduct a thorough assessment of its feasibility and of the revenue which it might raise.”
Key conclusion: The committee do not recommend an annual wealth tax but note ‘more support’ for a one-off wealth tax (though they stop short of endorsing it)
The committee held a lively session in November debating wealth taxes, including two of the commissioners of the recent Wealth Tax Commission. Wealth taxes can be a polarising issue, even more so than other taxes, and it is impressive that any consensus was reached by the cross-party committee, even the cautious, carefully-worded one in the report.
On an annual wealth tax the committee note the case made by Robert Palmer of Tax Justice UK that it could both raise revenue and tackle inequality, but also note the practical difficulties identified. They cite the view of Emma Chamberlain, one of the Wealth Tax Commissioners (and joint chair of the CIOT’s Private Client (International) Committee) that: “In practice, I am doubtful … about whether you could improve inequality or deliver revenue.”
They conclude: “We believe that the development and administration of an annual wealth tax would be extremely challenging, and we note that other countries have abolished such a tax in recent years. We would not recommend an annual wealth tax. It is recognised though that were the wealth to income ratio to increase considerably, the political arguments for some form of wealth tax would become stronger.”
The committee’s verdict on a one –off wealth tax is more open (perhaps indicating disagreement among members of the committee). They note that the final report of the Wealth Tax Commission was favourable to the idea. It notes the Commission’s assessment that a one-off tax could raise £260bn if based on a rate of 5% on net wealth over £500,000 per individual or £80bn if at a rate of 5% over £2m per individual, payable over 5 years, without offering a view on whether that should be the level.
The committee concludes: “Though those who gave evidence were sceptical of an annual wealth tax, there was more support for a one-off wealth tax. It could be used to raise significant revenue. However, amongst witnesses there were significant reservations that a tax imposed once can be imposed again, and that such a tax might be seen as retrospective.”
The major contributors to tax revenues – income tax, national insurance and VAT
Key conclusion: The Government’s tax lock manifesto commitment (not to increase rates of income tax, national insurance or VAT) will come under significant pressure
This section of the report focuses on revenue-raisers rather than reform.
Raising tax revenue quickly and at a large scale is likely to require higher contributions from one or more of income tax, national insurance, and VAT, says the Committee. Any increases in the rates of these taxes were ruled out in this Parliament by the Conservative Party’s ‘tax lock’ manifesto commitment. It is clear to the Committee that this commitment will come under pressure under the current circumstances. Committee chair Mel Stride indicated at the report launch that his view is that current circumstances constitute force majeure where the manifesto commitment could reasonably be over-ridden.
The Committee conclude that income tax “is more efficient than some other taxes and we do not see a pressing need for reform at this time. The Government’s manifesto commitment not to increase the rate of income tax does not preclude it from adjusting income tax thresholds. The Committee notes that the Government could raise revenue simply by freezing income tax thresholds, and that such a change would cause minimum economic distortion.”
Increases in national insurance contributions (NICs) may be especially difficult given the probable impact on jobs, at a time when increasing employment is likely to remain an economic priority, says the Committee. They also offer the view that NICs reform will create increased distortions – “a structural problem which needs structural reform”, which is addressed later in the report.
The committee make no recommendations on VAT at this stage of the report, discussing only how the UK VAT rate compares internationally. It notes that, in his oral evidence to the committee, Alan McLintock, Chair of the Indirect Taxes Committee at the Chartered Institute of Taxation, commented on international comparators: “The median VAT rate in at least the European Union is 21%, with about half the member states being at 20%, 21% and 22%. At 20%, we are slightly below the median rate, so we think there is room to move up a little without being outside the pack. Germany is at 19%, so there would be a bit of a difference there. Moving our rate up and down is probably less open to challenge than dealing with the exemptions.”
The major contributors to tax revenues – rate of corporation tax
Key conclusion: A moderate increase in corporation tax could raise revenue without damaging growth
The report notes that at 19 per cent the UK corporation tax rate is one of the lowest in the G20. It notes the view of Chris Sanger (EY) that the statutory rate is a ‘shop window’ and anything that goes higher than 20 per cent ‘would send all the wrong signals’. But they also note that, on the other hand, John Cullinane (CIOT) said: “I do not think that multinational companies try to fine-tune shavings on the rates exactly like that. There is a lot of evidence that most of their investment planning is pre-tax in most cases, with specific exceptions, and then they look to make sure there is not a fundamental tax problem. Then, okay, they do their tax planning on the back of their commercial investments”.
The Committee concludes: “The UK has a lower corporation tax rate than other major economies, and we believe that a moderate increase in rate could raise revenue without damaging growth, especially if balanced with fiscally appropriate measures to help business, such as enhanced loss relief and capital allowances. However, it is clear that a very significant increase in the rate would be counterproductive.”
The major contributors to tax revenues – Tax relief on pension contributions
Key recommendation: The Chancellor should urgently reform the entire approach to pension tax relief
CIOT evidence is also noted in the section on pension tax relief. The Committee notes that there was a range of views expressed: some supportive of the relief while others called for it to be restricted. “The Chartered Institute of Taxation was cautiously positive about the idea of reform: “These are politically and economically sensitive matters in which it will be difficult to achieve consensus and in which technical issues of various disciplines interact with political choices. People have expectations developed over many years and it is clearly undesirable to ‘chop and change’ too often. However comprehensive, public, consultative review seems overdue …”
The Committee adds that CIOT went on to say: “This does seem worth revisiting in current circumstances. It may also offer a way of addressing the absolute tax breaks inherent in the current system, without needing to ‘attack‘ one or more of them on an isolated basis. No doubt there were good reasons for the thumbs-down given to the earlier consultation but since then we have had the COVID crisis and the partial retreat in the 2020 Budget from the piecemeal complex measures taken over the last 12 years to reduce the weighting of benefits in the system toward the higher paid.”
In one of the most forceful recommendations in the report, the Committee concludes: “Given the regressive nature of the benefits accruing to individuals from the current arrangements on pension tax relief, especially those in the top earnings decile, the Chancellor should urgently reform the entire approach to pension tax relief.”
Priorities for tax reform – Taxing income from work
Key recommendation: A major reform of the tax treatment of the self-employed and employees is long overdue
This was one of the key areas of focus of the inquiry, with a full evidence session spent on it in October, with witnesses from the CBI, IPSE, OTS and Professor Judith Freedman of Oxford University.
The key question considered by the inquiry was whether the income of the self-employed should be taxed at the same rate as employees. The report cites evidence from Freedman and from Charlotte Barbour for ICAS in support of taxing them at the same rate, and from Derek Cribb of IPSE justifying a differential. Bill Dodwell of the OTS said there was ‘definitely a case for looking at evening up that burden’.
The report also cites the oral evidence given by CIOT’s John Cullinane. Cullinane, says the report, “recognised the principle that the self-employed should be taxed the same as employees but also saw difficulties with removing the differences. He said: “it is very hard to justify these differences. If you had a blank sheet of paper, you would probably design something where either they were somehow paying the same tax or, even if there were different taxes for different legal situations, the overall balance was better.”” Cullinane told the Committee that “the elephant in the room is the employer’s national insurance of 13.8%, which is being taken out of the system by having somebody move off payroll, whether they are incorporated or not.”
The committee concludes: “We strongly believe that a major reform of the tax treatment of the self-employed and employees is long overdue. The current system is confused, unfair and unsustainable. The review should incorporate the benefits which accrue upon payment of NICs and other taxes as well as the level, the incentives and the interaction of such taxes. It should look as far as is possible to eliminate the so-called ‘three person problem’ altogether.”
This section of the report also considers the position of limited companies and their directors. Owner-managers, the report notes, are taxed less overall than employees or the self-employed.
The report notes the evidence of Cullinane that the incentives to set up as a limited company are currently even stronger in Scotland, where income tax on employment is devolved but national insurance contributions, corporation tax and income tax on savings (including dividend taxation) are not.
The Committee concludes: “We believe that if the tax advantages of self-employment were to be reduced, then the tax advantages of running a limited company should be considered for reduction relative to the taxation of employees under PAYE.”
The report also briefly looks at whether NICs and income tax should be merged. It notes the evidence of Freedman that was supportive of this while also recognising the practical difficulties. It notes the implications of merger (eg higher tax bills for pensioners) identified by the OTS. Ultimately the Committee regards the case for a wholesale merger as unproven but they say that the Government “should consider what can be done to remove the distortions gradually over time”.
Finally, the report notes – drawing on evidence from Paul Johnson of the IFS – the implications for taxation of pension of reform in this area. The Committee concludes that, “when reviewing the burdens of taxation for the employed and self-employed and limited companies, the Government should also review the taxation of pensions and the tax relief applicable to pension payments.”
Priorities for tax reform – Digital services tax
Key recommendation: That the Government provide the Committee with an annual report on the DST yield and effects, and progress towards reaching international agreement in this area
While identifying risks of deterring investment (citing Chris Sanger of EY) and of US retaliation (citing Tom Clougherty of the CPS) the Committee are broadly supportive of the digital services tax, describing it as “a useful step towards capturing some of the profits made in the UK by digital companies. We strongly approve of the Government’s approach in seeking international agreement on taxation of companies providing digital services and, where international agreement is reached, maintaining its commitment to abolishing the digital services tax in favour of any such agreement.”
The Committee’s only recommendation is “that the Government provide this Committee with an annual report on progress towards reaching international agreement on the taxation of digital services, the yield of the digital services tax and the effects of the tax on digital companies and the wider economy.”
Priorities for tax reform – Capital gains tax and inheritance tax
Key conclusion: We believe that there is a compelling case for the reform of capital taxes
The report cites oral evidence in favour of reform of CGT and IHT, and against the idea of a wealth tax, from Sir Edward Troup, Former First Permanent Secretary at HMRC. It notes Troup’s description of CGT as “a bit like Churchill’s description of democracy. It is the worst way of taxing capital gains except every other one that has been tried.” The report also notes that the Government commissioned the OTS to look at both taxes, but they (the Government) have yet to respond to either report.
“Based on evidence to the Committee, we believe that there is a compelling case for the reform of capital taxes,” is the Committee’s conclusion. While not explicit about the direction this reform should take there is a strong implication that the OTS reports should be the starting point.
Priorities for tax reform – Alternatives to, and scope of, VAT
Key recommendations: No significant changes to the scope of VAT, but the Government should set out principles and objectives for the VAT system
The Committee took evidence on whether a sales tax should replace VAT. However, “We did not hear or receive any evidence in favour of replacing VAT with a retail sales tax. Any contemplation of such a change must be accompanied by more evidence as to the effects it would have, not least on our trade with the EU, which would continue to levy VAT.”
The evidence the Committee did hear was from the IFS and CIOT. The report notes that Stuart Adam of the IFS told them that, “If you were starting from scratch, either [VAT or a sales tax] would be potentially a reasonable option… but, given that we have a VAT system up and running, I would not go near the upheaval of scrapping one and introducing the other with a bargepole.”
Alan McLintock, Chair of CIOT’s Indirect Taxes Committee, agreed. He said: “If you look over the last 20 to 25 years, almost every country in the world has implemented a VAT system. None of them is implementing sales at purchase tax systems. The US is pretty much a standalone. I would not look at that as a model of good tax.”
The Committee also looked at changes to the scope of VAT including reduced and zero rates. They note the support of both Paul Johnson (IFS) and Gemma Tetlow (Institute for Government) for a broader VAT base. They note the evidence of CIOT’s McLintock about the opportunities and challenges of changing the base: “For things like healthcare and particularly financial services, it feels far more difficult technically to apply a rate of VAT. It would get very complex. You would probably have to do very narrow things, such as applying VAT to motor or contents insurance, rather than taxing it as a generality. Technically, food and passenger transport are the easy ones because you just apply VAT rate.”
The report notes “agreement amongst tax professionals that the VAT regime is complicated, and that reliefs and exemptions need reform. John Cullinane said that “ … the whole area of exemptions, zero ratings and reduced ratings costs a great deal of money and, at the same time, is a source of complexity, compliance issues in the system and ongoing disputes.””
Concluding this section, the Committee “welcome the increased flexibility that the UK Government has to set VAT rates… We recognise that the VAT system is complicated and that the zero and reduced rates, together with the exemptions, create economic distortions. We also recognise, however, that in political terms simplification through removing exemptions and zero rates is likely to be very hard to deliver. We do not recommend any significant changes to the scope of VAT.”
However, they argue, the Government should, following consultation, “set out principles and objectives for the VAT system now that VAT is free from EU law. This should include a framework within which new reliefs can be assessed or existing ones withdrawn. The Government should ensure that the principles balance revenue raising, economic growth and other objectives, such as improving the quality of the environment and “levelling up”.”
Priorities for tax reform – Greening the economy
Key recommendation: The Government should develop a tax strategy to meet net zero
Drawing on evidence to this inquiry and a previous one, the Committee agree with witnesses that tax has a part to play in achieving the goal of net zero. “However, carbon taxes are unlikely to form a major part of the long-term tax base or stabilisation of the public finances, as they are designed to complete the transition to net zero.”
The Committee concludes: “The Government should develop a tax strategy to meet net zero. This should include tax measures to incentivise the behavioural changes needed to achieve net zero while at the same time providing short term support in the tax system for pump-priming green innovation and balancing the need to protect those on low incomes.”
Priorities for tax reform – Property taxes
Key conclusions: SDLT, Council Tax and Business Rates all need reform. SDLT should be set at a level that optimises revenue while encouraging home ownership
SDLT does not come out well from the report. The MPs observe: “There was widespread agreement among witnesses that stamp duty land tax is economically inefficient, causing damage to the economy by affecting when and how often people buy homes. This in turn has implications for the flexibility of labour markets and for economic activity: a reduction in the volume of house transactions leads to a corresponding reduction in associated economic activity, such as home renovation and refurbishment.”
The Committee’s conclusion is that: “The Government should treat stamp duty land tax as a priority for reform and should set the tax at a level that optimises revenue while encouraging home ownership. Any review should take into account the impact of any UK changes on equivalent devolved taxes.”
The Committee heard strong arguments in favour of reform of council tax, notes the report, citing evidence from the Local Government Association, Tax Justice UK and the IFS. They encourage the Government to consider how best to reform local taxation, taking account of recommendations from the Housing, Communities and Local Government Committee (among other things that committee recommended new bands at the top and bottom of the scale), and draw the Government’s attention to evidence submitted to this inquiry.
The Treasury Committee held an inquiry in 2019 into business rates, and the current government review of business rates was announced in response to that inquiry. On this occasion the Committee limit themselves to repeating that the business rates system needs reform, and encouraging the Government to use the current review to “make significant reforms to improve the overall functioning of the business rates system for the long term”.
Key recommendation: The Government should set out a tax strategy for what it wants to achieve from the tax system and identify high level objectives
The final substantive chapter of the report looks at the tax system and tax policy-process. The key recommendation is for an overarching government tax strategy. The starting point for this is a proposal in the Institute for Government (IfG) report on Overcoming the Barriers to Tax Reform, which argued that such a strategy would help the Government with explaining tax reform to the public, with long-term planning, with inter-departmental engagement within government, with parliamentary accountability, and with building cross-party consensus.
The Treasury Committee praise the use of road-maps, quoting a number of witnesses’ endorsement of the first Corporate Taxes Road Map. They cite the evidence of CIOT’s John Cullinane that the Government “should set out broad objectives in advance. More than that, they should be prepared to float options publicly on much more of a blue skies basis, so that public opinion could have time to assimilate what problems they are trying to deal with and what the possible options are”.
The Committee conclude that “a tax strategy setting out what the Government wants to achieve from the tax system and identifying high level objectives would have much merit. We recommend that the Government should draw up a draft tax strategy for consultation.”
They propose that any such strategy should include principles for:
- The role of the tax system in meeting fiscal goals
- Securing a neutral tax system which treats similar activities in similar ways, including fair taxation of different structures of work
- Ensuring that taxation is progressive and fair to future generations
- Meeting climate change goals for net zero and other environmental objectives whilst giving consideration to those who are on lower incomes
- Ensuring growth of business and employment, including a new business tax roadmap to provide investment certainty for business and a five to ten-year strategy for corporation tax rates
- Reducing the tax gap
- Indirect taxes such as VAT which were previously covered by EU law which no longer applies
- Reducing compliance costs, especially through appropriate tax simplification.
The Committee also look at the tax policy-making process, broadly praising the process instituted by David Gauke in 2010, but identifying a number of concerns. The 2020 consultations on the VAT Retail Export Scheme and Notification of uncertain tax treatment by large businesses are given as examples of when government has not stuck to the process. On the latter Law Society, CIOT and ICAS criticisms are mentioned.
More generally the Committee notes that CIOT’s John Cullinane told the inquiry: “At the moment, everything pretty much comes as a surprise on Budget day. The consultation is at a later stage on the details when most of the people who take part feel, “We would not have started from here.”
The Committee concludes that while the tax policy making process seems sensibly designed the Government “does not always adhere to it and so risks losing the confidence of stakeholders. If the process cannot be followed, for example because there is not enough time to cover all the stages before a change needs to be implemented, the Government should be open about it and should set out its reasons for doing so.”
The Committee also considered the case for an overarching ‘tax commission’, another IfG recommendation, but ultimately conclude that there is no current need for such a commission. It notes the comments of John Cullinane for CIOT, that such a commission ‘may or may not be a good idea’, depending on what it would do. “Government could make a good start just by consulting at an earlier stage and more generally in accordance with their published framework,” he added. Cullinane and Charlotte Barbour of ICAS could see the case for a narrower commission to look at reliefs. The Committee agreed that commissions could usefully play this kind of role.
Key conclusions: OTS has an important role but its effectiveness needs regular review
The Committee notes the challenges in achieving the shared aspiration of a simple tax system. It notes the view of Paul Johnson (IFS) that tax policy ought to ‘aim for simplicity by default’. It also notes the comments of the Committee’s chair (Mel Stride) that, when he was tax minister, “colleagues would often say this to me in the House of Commons: “It is far too complicated.” Equally, they would then say something like, “When it comes to this particular tax, could you possibly exempt this group within my constituency who I think are rather unique? They are having a really hard time and you should make some changes,” which of course drives complexity in itself. Perhaps we are all guilty of pushing complexity as well as striving for simplicity.”
The only recommendation in this area is that the Government go ahead with its planned review of “the effectiveness of the OTS and its ability to carry out its functions” (this happens every five years).
The Committee believes that the Office of Tax Simplification (OTS) “has an important role to play in identifying how the tax system might be simplified. It is right that the effectiveness of the OTS and its ability to carry out its functions are now reviewed, and we await with interest the outcome of the review.”
Key conclusion: HMRC must have the capacity and funding it needs
In this area the report especially notes written evidence from ICAS which argued for wholesale administrative reform of the tax system. It also notes, approvingly, HMRC’s 10 year strategy ‘to digitise and improve tax administration’. “If tax reform is to be successful, it is important that HMRC has the capacity and funding to carry out reform and is not hindered by out of date systems,” say the Committee.
By George Crozier