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Economic activity carried out in the UK must be taxed accordingly

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Written by Lord Leigh of Hurley, co-founder and senior partner of Cavendish Corporate Finance


YOU will struggle to find a financial issue that triggers such a morally universal response as tax evasion. Recent reports suggest that the UK’s tax gap – the amount which HMRC estimates is lost through evasion – increased last year and is now £34bn, a startling figure when we acknowledge the savings our public services have been asked to find in recent years. The moral imperative underpinning taxation has evolved into a base scramble for higher profits at the cost of a fairer society.

I should declare my own position. Over 30 years ago I qualified as an Associate of the Chartered Institute of Taxation. One of the reasons for my interest in this area stems from my late Father showing his personal tax computation in the early 70s which, thanks to one modest property transaction, had him paying tax at some 92%. This shocked me. Subsequent years saw corporation tax stand as high at 52% – over half a company’s profits going in tax cannot be sustainable.

Two things have happened since then. First, capital has become infinitely more mobile as companies based here are no longer tied to the UK. Second, the idea that the government is not always the best actor when it comes to spending money has become mainstream. Businesses, through investment, research and development, wage increases and, in turn, consumption, are a more effective driver for sustainable economic growth. There is general global recognition that lower tax is essential for this.

The government’s decision to reduce corporation tax from 28% to 20% is to be welcomed. But, to use the vernacular, 20% should mean 20%. Economic activity carried out in the UK must be taxed accordingly; failure to achieve this leaves business and the whole free-market system at threat from an increasingly cynical public who have genuine cause for concern.

The government’s introduction of General Anti-Avoidance Rules (GAAR) in the 2013 Finance Act sought to counteract ‘tax advantages arising from tax arrangements that are abusive’. This has been a great success in identifying and limiting ‘abusive’ practices which seriously harm and undermine the systems of tax collection. But GAAR should be applied more widely for example to catch employee reward plans and businesses using offshore debt instruments to reduce tax. We also need to pursue loopholes like e-commerce platforms that host businesses that escape their VAT duties.

Taxing revenue as opposed to profit has been suggested. This is contentious as different industries have very different margins and UK inward investors often come to the UK knowing full well that they will not make profits for very many years so taxing them for starting up cannot be fair.

A better idea might be to tax distributions from companies to their ultimate shareholders. This is a very simple way to capture taxation without the horrendous computations which currently have to be undertaken to arrive at a taxable profit.

David Cameron’s leadership at the G20 summit resulted in the commission of the Base Erosion and Profit Shifting work from the OECD, an action fully endorsed by the G20 ministers. However, this G20 endorsement is not legally binding and relies on these Finance Ministers sticking to their word and introducing deep and meaningful reform in their own countries. New legislation will align the UK’s transfer pricing rules to match those agreed at G20, an action that should set a precedent for these countries, but the OECD must do more work to ensure that all member states deliver against what they have agreed to do on tax reform – after all these issues can only be addressed globally.

Finally, investors, increasingly active on executive pay, should encourage investee companies to include tax policies in their annual reports and ensure they stand up to scrutiny.

Unless corporations behave responsibly in tax matters and pay in cash terms an appropriate amount commensurate with the rate of 20%, they should expect aggressive pursuit by government, including the use of GAAR, even if this proves to be retrospective taxation. Businesses need to recognise, as many do, that a significant shift from adhering to the mere letter of the law, to its moral spirit, will have wide-ranging benefits for them and for society as a whole.

 

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