Vir Cantium

I'm right, you know …

I Suppose A Flat Tax Is Out Of The Question?

Yesterday George Osborne launched the Office of Tax Simplification (OTS). Good on him. Now we’ve reached the point where even HMRC staff have trouble keeping up with the changes that are being made to the system all year round (not just at budget time) something had to give.

I’m not kidding myself that tax simplification won’t have the happy (for the Treasury) side-effect of increasing the tax take in some areas. The review of the IR35 rules, for example, may well see certainty of treatment in exchange for increased liabilities for taxpayers, but could still be widely welcomed.

The real challenge, though, will be stopping the system from regaining the flab of complexity after the OTS has implemented the crash diet.

Complexity in the tax system arises from two main sources: closing ‘loopholes’ (sometimes under the banner of ‘fairness’), and handing out ‘tax breaks’.

Closing loopholes are the staple silver bullet of many a manifesto. A few billion saved by tackling tax avoidance (as well as tax evasion, of course; a very different animal). Yet like so many drugs, the cure for one ill will give rise to a range of side effects, in the form of new ‘loopholes’, and so it continues until one eventually reaches a point where the cost of policing the anti-avoidance rules gives poor value for money in terms of the amount of additional revenue raised. It also has the knock-on effect of making the UK a less attractive place to do business. Businesses don’t all flock to tax havens, of course; after all, the UK is a major market. They do, though, require certainty so that can plan ahead, tax rates that are reasonable, and the cost of complying with all legislation to be manageable and proportionate.

A bigger problem, though, comes from what is meant by a ‘loophole’. Is the fact that someone in the 40% tax bracket gets 40% relief (instead of the basic 20%) on their pension contributions a loophole? Some do think that paying extra pension contributions to reduce your tax liability is a loophole, the Lib Dems included. Yet if you will have a tax system which ensures that those on higher incomes pay a higher proportion in tax, then general tax reliefs will logically (and equitably) benefit them more. Don’t like that? Then make everyone pay at the same rate – almost the ultimate simplification. The banker on £1m a year will still pay around fifty times more tax than someone on £20k.

A flat rate system won’t happen, of course, because making such a thing acceptable will inevitably involve a reduction in revenue, and in any case just won’t satisfy the guilt-ridden liberal middle class or the ranting banner waving class warrior mobs those who support a ‘progressive’ ‘fairer’ tax system.

Yet lower tax rates, flatter tax structures or both are the ultimate way to tackle tax avoidance and evasion, as well as making your country a significantly more attractive place to do business. It is ironic that the most recent example of a flattening of the tax system was when a Labour chancellor overhauled Capital Gains Tax to set a single rate of 18% (with ‘entrepreneurs relief’ giving an effective 10% where appropriate). Yet George Osborne has reintroduced a third rate of 28% at the higher rate. (Yes, to be fair to George, though, he is planning the move to a single general rate of Corporation Tax.)

Tax breaks are another problem. Some are genuinely aimed at helping certain people or industries. Now I generally support genuine tax reliefs; i.e. where a tax liability is reduced, perhaps to zero, but not where it goes further and results in a disguised state subsidy. However, this can all get out of hand, and there are also plenty of tax breaks buried away which have served little purpose other than giving the chancellor another good headline on budget day.

Remember the 10p tax debacle? Before then the personal allowance was gradually being brought into line with the National Insurance thresholds – all well and good and clearly a simplification measure. Over one short-lived good headline and a year of slow realisation by Labour MPs later, we have personal allowances that are now further away from the NI primary threshold than before, a panic as they realised the increased personal allowance might benefit those evil higher rate taxpayers more than the lower paid, and a 10p tax band that actually still exists, but only where income includes investment income and it doesn’t exceed the band. Simple.

So, in a nut shell, for tax simplification to be a long term prospect, we just need an end to the politics of envy, and for politicians to stop interfering for short-term political gain.

Yep, that’ll happen.

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