By Jeremy Cape @jeremydcape
Tax simplification is in the news. It forms a central part of President-elect Donald Trump’s legislative programme. The IEA recently produced a report – Taxation, Government Expenditure and Economic Growth – which includes an eye-catching proposal to abolish 20 taxes. And the Chancellor is facing the usual calls to simplify the tax system in the Autumn Statement,
There are few, whether they are tax experts or not, who consider that the UK tax system works adequately. But the expression “simplification” is loaded with ambiguity, and implies that we can change to a utopian tax system, usually with fewer taxes, lower rates and easier compliance, without making hard, political choices. Simplification should more sensibly be seen as a likely outcome of a more coherent tax system, and the debate should focus on how we can make our tax system more coherent, rather than more simple.
Let me set out some of the different ways in which “simplification” is used by those who talk about it.
1 Simplifying compliance
Many businesses spend considerable time and expense on tax compliance. Simplifying compliance is driven by a desire to see shorter tax returns and more straightforward calculations, leaving businesses more time to focus on – well – doing business. “Reducing tax compliance burdens on both businesses and individual taxpayers” is the stated objective of the Office of Tax Simplification. Since its establishment in 2010 the government has implemented about 200 of its recommendations, such as abolition of reliefs (e.g. the 15p luncheon voucher), aligning legislative definitions and introducing easier compliance regimes for small businesses. It’s estimated to have saved taxpayers £20M per year in compliance costs, and also resulted in the abolition of a small amount of tax legislation, but ultimately it’s all a little underwhelming.
Simplifying compliance is a laudable aim, but reducing the compliance burden by, say, an hour a year per business is unlikely to be the main thing taxpayers are seeking from simplification.
2 Shortening tax legislation
There is a popular view that the increasing length of the UK tax legislation is a cause of it becoming more complex. The increased length is in fact a function of an attempt to simplify legislation through the Tax Law Rewrite Project. But most tax practitioners generally find the re-written Acts more user-friendly than the Acts they replaced and prefer the longer form.
This is not to say that UK tax legislation shouldn’t be shortened. The recent diverted profits tax (DPT) takes up twenty pages of Tolleys and, even given that it deals with some fairly complex concepts, is (in my view) longer than it needed to be.
3 Simplifying concepts in tax legislation
Let’s turn to the DPT. The stated policy objective of the tax was “to counteract contrived arrangements used by large groups (typically multinational enterprises) that result in the erosion of the UK tax base.” It consists of two rules. The first rule has seven conditions. The existence of some of the conditions is relatively easy to determine, such as whether a company is UK resident. Others are not. Some of the concepts are borderline-impossible to understand.
One question is whether the policy objective behind the diverted profits tax could have been achieved without pages of fiddly legislation. Most practitioners think it could have been which would allow them, in turn, to advise taxpayers with more clarity whether it applied or not. (The diverted profits tax also provides a good example of the pitfalls of bad legislation because, if the intention was to make Google pay considerably more UK corporation tax, it appears to have failed. It does not follow, however, that complex legislation always creates loopholes, and it is unquestionably true that loopholes have been closed by complex legislation.)
So why not give a smart civil servant a month to bring it down to four pages? Well, it probably couldn’t be done without some consequences. The likelihood is that it would impact more companies and arrangements; at the very least, there would be more inherent ambiguity (and more HMRC and judicial discretion) regarding its application. But, again, the question of whether the DPT, or any other tax, could be drafted in a more simple manner for the practitioners who have to read it, seems to me to be a sideshow: the general public and business don’t ultimately care all that much, because they don’t themselves generally look at legislation.
4 Simplifying or abolishing reliefs and exemptions
Waiting for Tax has previously written about this. If Philip Hammond were to announce the abolition of CGT private residence relief, pension tax relief, ISAs, VCT and EIS, Gift Aid, group relief, the substantial shareholding exemption, etc. then this would immediately simplify the tax system. But, again, there would be consequences for taxpayers (many of whom would have to pay more tax) and the government (who would need to respond to the change in behaviours, such as the impact on pension savings and investment in start-ups, in the short time before it got wiped out in an election).
One example of a simplification measure (not strictly the abolition of a relief) was the infamous “pasty tax”. The Treasury, correctly identifying that this had been an area of litigation, decided to “apply VAT at the standard rate to all food which is at a temperature above the ambient air temperature at the time that it is provided to the customer, with the exception of freshly baked bread …[to] ensure that all hot takeaway food is taxed consistently”. This would have added around 20p to the price of a £1 pasty. The subsequent furore caused Osborne to abandon his plans. Imagine the reaction if homeowners were told that they would now have to pay CGT on the increase in the value of their primary residences in the name of simplification.
Abolishing reliefs ticks most boxes of what simplicity might be, but it is not simple to achieve. And those advocating simplification of reliefs tend to support the abolition only of those reliefs that do not affect them or their families, friends or commercial interests. Funny that.
5 Abolishing taxes
In many ways, this is the opposite of 4. For some, the concept of tax simplification is part of a broader policy to reduce the role of the state. Legislation will be shorter, concepts will be simpler, reliefs will be fewer, but the state will necessarily receive fewer revenues and spend much less. Take the IEA’s recent paper, for example. This calls for the abolition of, inter alia, corporation tax, capital gains tax, council tax, SDLT, stamp duty and alcohol and tobacco duties. Even if you buy the IEA’s argument that this will result in increased growth in the UK, it results in a very different UK (broadly, much better if you’re rich). Although the IEA’s modelling suggests that the poorest decile would enjoy tax cuts worth 26% of their gross income, with the richest decile enjoying a tax cut of only 13%, a starker comparison is that someone earning £300,000, currently taking home £170,000 after tax, would take home £256,500 after simplification (£86,500 more). Someone earning £30,000 and taking home £23,500 now would instead take home approximately £27,000 (£2,500 more).
It’s hard to see the IEA’s approach working in the real UK, or to imagine even 52% of people wanting it, even though I admire their boldness and their attempt to devise a coherent system. My problem with their approach is that their use of “simplification” implies a non-existent neutrality to appeal to those whose desire for simplification does not extend to such radical reform of tax and public expenditure.
I’ve tried to set out the different ways in which people think about “simplification”. The more I think about it, it’s not really about tax simplification. None of us will be happy in the long term solely by reducing red tape for businesses or shortening the tax code or making it easier for tax practitioners to understand tax law. These may be desirable outcomes but they are symptoms of a broken tax system, and not a sole cause of it. The main cause is the lack of coherence in our tax system and its design, which is partly a function of history, but is exacerbated by having effectively two Budgets every year, with the focus on the short, rather than medium or long term.
Making the tax system more coherent will not be – for want of a better word – simple. It requires a huge amount of political capital that the Brexit-beleaguered government does not have. For now, we can but hope that Chancellor Hammond will avoid gimmicks (such as hints on the future rate of corporation tax or VAT) and indicate that he will take a broader, more considered view of the UK tax system as a whole.
His aim should be that one day a Chancellor can stand up on Budget Day and announce no changes to the tax code because – thank you very much – it is working perfectly well as it is. Simples.
At a very high level, all true. There aren’t magic wands that means tax suddenly becomes simple. The biggest simplification would be the amalgamation of tax and NIC – but horrendously complicated to achieve, with many consequences to work through so none are unintended. Equally, there are many many marginal gains that could be achieved; each one making a little difference. Why was 28% CGT the ‘right’ rate, but then 20%, unless it isnt 20% because its a residential property or carried interest gain? Why do you have to be 5 years non-resident for all the temporary non-resident rules not to apply, but 6 years NR for deemed domicile to restart? And the real answer is politics – eg IHT residential nil rate band, or the High Income child benefit charge.
Two and half years since Osborne mooted merging income and NICs. I assume it’s quietly died a death. Technically a nightmare, but the focus groups would also have hated it. Sad thing is I can’t remember an occasion on which a rate change was justified, at least in public, by reference to anything other than political expediency. As regards the CGT move from 28% to 20%, maybe this reflects a view that the “right” rate of most mainstream taxes, i.e. income tax, CGT, VAT, inheritance tax should be 20%, because it doesn’t hurt that much but raises enough revenue to be worthwhile. That doesn’t explain the corporation tax decreases of course.
What a brilliant presentation to support the notion of doing nothing and simply support the status quo.Nothing is too difficult.
To achieve simplification “joined up thinking” is required.Settling that the current system works fairly is bizarre and unrealistic.It is unfit for purpose for many reasons.
Why does the VAT system work better than the income tax system with far fewer appeal cases ?Answer-The rules are less confused with fewer loopholes.It provides a template for proper,clear,accurate and unambiguous taxation.
Reaction to loss of tax breaks,investment incentives etc will be short term and the fear factor expressed by the writer is greater overstated.
Very well reasoned article.
Thinking back to my days in the world of tax (10+ years ago now) I recall being told that part of the problem was down to the Parliamentary draughtsmen (and women).
Firstly there were none focused on tax law and this was a key reason for abandoning the Tax law Rewrite project. As fast as it was rewritten it was being amended in the old style as used for all other legislation.
And secondly, the draughtspeople(?) were rarely given enough time to explore how to draught simple legislation that satisfied policy objectives. First draughts had to suffice.
At one point even HMRC agreed the legislation wasn’t fit for purpose but we could only get their agreement to rectify this via the backdoor of amending a related Statutory Instrument. It was simply too late to correct the original legislation itself.
Further thoughts by ref to comments above:
Mismatches of rules (5yrs vs 6 yrs for similar points) is generally due to draughting errors and lack of time to correct. In this context, and perhaps others, draughting errors includes poor instructions and inadequate time to clarify whether inconsistencies can be avoided.
Merging IT and NIC has been suggested many times over the years. Always ends up in the too complicated pile – especially when it becomes apparent that headline basic rate of Income tax would shoot up to ensure no loss of revenue.
I have never understood the reasons for reducing the rates of CGT which I always thought should be charged as if it was the top slice of someone’s income. Reductions in CGT rates seem to only benefit those wealthy enough to make capital gains.
My favourite example of non-simple legislation is income-based carried interest. Someone had a simple idea about how to tax carry at a higher rate. They prepared a consultation document with an alternative idea to the first one, just to show that it was a real consultation. Then they consult. And they start to see difficulties with their favourite method, difficulties with the other (so let’s have a bit of both) and the calculations are a bit hard so let’s have a few simplified calculation methods that only apply if you meet some very narrow, and very detailed, conditions. Then you meet some people who do X and you realise that what you thought was bad, is actually very good for the economy and what you thought was good needs some extra rules to make sure it keeps all the good and doesn’t let in the bad. The result 22 pages of legislation (as printed in the latest Finance Act). But that’s only part of it. To understand it you need to understand the normal carried interest rules (previous Finance Act – but don’t forget that this contains two versions of these rules) and those are only understandable if you can get to grips with the disguised investment management fees rules (Finance Act 2015, as amended by the two subsequent Finance Acts). Politicians could simplify things (tax all carry as income?) but then would we’d lose a lot of tax when people choose to work some where else?
I do worry that my favourite example will be usurped by disguised remuneration v2.0 but, to be absolutely sure, I’ll have to wait for the Autumn Statement tomorrow, then 5 December for the draft Finance Bill, then the Budget, then some time in April when the Finance Bill is published, and not forgetting some time in May or June when lots of amendments will be made and then in July for the final version of the legislation. Well final, if you ignore the changes that will be made to it by FA 2018. Still, I am sure that there will be some HMRC guidance on this by 2019 or so.
I also wonder about the recent consultation to “clarify” the tax treatment of partnerships. This has some very simple proposals that have the potential to really, really complicate things beyond the wildest expectation of its authors.
Jeremy, alignment of income tax and NIC is well and truly alive – the OTS has just published something on the process.
It seems to me that the main tax thrust should be to concentrate on the highly profitable taxes. These are things like duty and VAT. They involve relatively few, relatively immobile tax payers who are easy to track. By contrast, personal income tax is incredibly time consuming.
We should also consider the cost implications on business. Payroll is not getting any easier and represents a considerable overhead. Furthermore, tax on employment is now running at around 17% what with NI and the new obligatory pensions. No wonder the trend is towards contracting. When the overhead was 2-3%, nobody really minded, but now it involves real pain and that is on top of a ton of discrimination and health and safety legislation which is gold plated to the nth degree. Savings must be made somewhere if we are to remain competitive, which currently we are not.
Finally, it would be really nice if HMRC software worked when filing returns. I spend hours and hours trying to get their stuff to work and actually gave up last year. They are now trying to fine me. Good luck with that one. I now have to go out and buy private software that actually works, yet more expense.
I’ve always thought that as a country (especially at the moment) that we should decide upon important matters of principle about what the State will provide and what it will not. Only then can you decide to design a tax system that seeks to raise the amount of revenue required. We should also be clear on what the tax system can achieve. For example, stop using it as a form of social engineering.
Also we should agree on certain principles up front for example that employment income however received should give rise to the same amount of tax regardless of how it is packaged.
Finally tax simplification should be taken on in stages. For example we should as a matter of urgency merge NIC and tax, especially as the self employed are now receiving benefits that they previously could not access. This would enable a large amount of anti-avoidance legislation to be swept away and also equalise the way in which investment income earned income is taxed.
This Daily Mail article from today shows the political difficulties of reforming the tax system to make it more coherent/simpler http://www.dailymail.co.uk/news/article-3966444/It-s-not-salary-nowadays-Father-three-says-Chancellor-s-raid-middle-class-tax-perks-raise-1bn-attack-company-loyalty.html
I think it’s hard objectively to justify the existence of salary sacrifice schemes in a coherent and simple tax system, but when change occurs the voices you hear loudest are those saying “this will cost me x pounds a year and is therefore unreasonable”.