Tag Archives: corporate tax

Tax transparency and the left’s financial illiteracy

When stories regarding tax hit the news, it frequently frustrates me at the lack of clarity with which they are reported. The recent example of Google paying £130m has illustrated this quite well. What I find frustrating is the reaction and commentary from the political left when it comes to matters of tax; in particular corporation tax.

My frustration stems from the fact that by profession, I’m a chartered accountant. I’ve taken exams in taxation and though it’s not the area of finance I work in everyday, I do have a good knowledge and understanding of it. In particular, I can tell when others don’t know what they’re talking about.

The ideology of the right wing parties such as the Conservatives and UKIP is for a low tax society. That’s their stated aim. The caricature that is then made of the more left wing parties is that they are in favour of high taxes. This is generally a false caricature, as the aim of the political left is rather for fair taxation that properly funds public services. Though to put it that way risks putting the cart before the horse. So let me put it this way:

The left aims to have properly funded public services that are fit for purpose, that support the vulnerable and those who have fallen on hard times. In order to fund this, there is then required an appropriate level of taxation and it is the job of a left wing government to determine the fairest way of spreading the cost.

But what is fair? It’s an intuitive notion that pretty much everyone gets, so long as they’ve got a reasonable moral compass. Yet taxation is inherently a quantifiable thing. So we have to try to quantify fairness. And this is where, in my view, the left fails to make a suitable case.

All too often, the discussion veers onto a company’s revenue and we get comments like “Industry analysts estimate true UK sales of the six at £14.2billion. Yet they paid £41.3million in UK corporation tax – just 0.3 per cent.” [source: The Mirror]

Trying to make such a link simply isn’t how corporation tax works. Corporation tax is based on profits, not revenue. I sometimes wonder if journalists reporting on finance matters understand the difference. It is especially unhelpful when phrases like “how much money they made” are used. What does “made” mean? It’s unclear, and where there is a lack of clarity, there is room for misunderstanding.

Corporation tax is quite unlike income tax that the average employee is subject to, as in that latter case, the tax is based on the gross income. It is understandable, then, that mistakes can be made if the two are perceived to be equivalent. Indeed, perhaps it might be fairer if an element of corporation tax were based on revenue, but that’s not the way the law stands at the moment.

The thing is, there are hints in the public domain that some companies are paying less tax than one might reasonable suspect they should. But such suspicions do not constitute evidence. There are a number of reasons why a company that has a large amount of revenue may pay very little tax. The obvious reason being that it’s not particularly very well run and that their costs are almost as much as their revenues, meaning they have very little profits on which they may be taxed. But we don’t know that for sure.

Why not? Well, this gets to the nub of the issue. Transparency. The amount of information disclosed in a company’s annual accounts is not the same as the amount of information as needed by HMRC in their corporate tax return. Worse still is the fact that the disclosures in a company’s accounts include other accounting adjustments that have nothing to do with the corporate tax for the year and which only serve to obfuscate the matter. What are these adjustments?

They’re referred to as “deferred tax” and are an accounting adjustment, not directly related to the tax incurred by the company that year. Deferred tax arises because of the disparity between the accounting rules and the tax rules. In tax, one may have transactions which do not result in a change in this year’s tax but which may either allow you to pay less tax in the future or oblige you to pay more tax in the future. Under the accounting rules, the fact that this is in the future is irrelevant, and the adjustments goes through this this year’s income statement.

So if you read a set of financial statements and see the line entitled “Tax (charge)/credit” on the face of their income statement then the number next to it is likely to be meaningless.

If you want to see the amount that was actually paid, then you have to look at the cash flow statement. But then again, the amount of tax paid in a given year will not necessarily be related to that year, as they’re likely to be paying off the liabilities from the previous year.

I’ll stop shortly. The point is that to read a tax figure off the face of the income statement is naive, and to link it to the revenue number is just plain stupid.

My advice to anyone who wishes to campaign for fairer tax (and there are some beginnings to this, though I’m far from convinced by it yet) is first of all to learn how to read a set of financial statements. Know the difference between P&L and cash flow, strip out any deferred tax and recognise that you are unlikely to be provided with all the information you need to be able to make an accurate judgement as to whether a company is paying a fair amount of tax. If they are an international group of companies, it gets more complicated, given different tax systems in different countries and again, there isn’t enough information in a set of financial statements to clearly see how much profits arise in which countries and what reliefs may be available in those countries.

So by all means, campaign for greater transparency and keep asking awkward questions. But if you assert that a company has avoided X amount of tax then don’t expect to be seen as a reasonable, financially literate person. Any legitimacy to your argument will be washed away as your credibility goes down the drain.

A Voter’s Manifesto (part 3 of 5)

Link to part 1

Link to part 2

Company Law

The current Companies Act 2006 states that directors must act in the best interests of the shareholders. It is a common maxim (though not stated quite as such in the law) is that the purpose of a company is to increase the wealth of a shareholder. I do not believe that this should be the highest priority. Instead I would propose writing the following two items into statute as the joint highest priorities a company can have:

  • A company should exist to provide a valuable good or service to its customers at a fair and reasonable price.
  • A company should exist to provide a consistent and reliable source of employment that pays a fair and reasonable wage.

The above two would entail some changes. For a few years now, there has been a growing call to improve upon the introduction of the national minimum wage by introducing a living wage. I would propose putting this on the statute book and would be subject to annual review in each budget, to ensure that the minimum wage is never less than the living wage.

I would also propose that companies should only make redundancies as a measure of last resort. At present, the law is far too lax about letting people go. Additionally, it is fundamentally wrong that anyone should be rewarded for making others lose their jobs, so directors should not be allowed to receive bonuses relating to years when more than 0.1% of the company’s workforce is made redundant.

Income inequality is a source of chagrin for many and has been shown to be linked to a wider number of negative social factors. Measures should be introduced to curb the increase in income inequality with the aim of ultimately reducing it. Therefore, on an FTE basis, upper pay restrictions should apply to ensure that the highest paid employees of a company or LLP shall not be paid more than 15 times what the lowest employee is paid. This is a generous allowance designed to ease the transition to a more reasonable pay differential, so the multiple shall be reduced by 0.5 each year for the course of the next parliament.

It is also recognised that there remains great gender inequality in senior management positions. To begin addressing this, it is tempting to propose quotas for a limited period of time, though I am no longer as convinced of the efficacy of this as I once was, so I propose something slightly different. Starting with public limited companies and large (>£100m revenue) private companies, any which have a gender split for directors and senior managers that differs by more than 15% from 50/50 for two consecutive years will be summoned before a parliamentary select committee to explain their recruitment processes. Any which are found to be inadequate will be subject to financial penalties.

Corporate Taxation

There are many changes that could be made to the current corporate tax structure. One of the greatest losses that the economy currently suffers is that of tax avoidance. Measures to reduce it have thus far lacked any teeth. One of the legal measures currently employed is that of transfer pricing, where, with agreement between companies and HMRC (usually with the aid of a professional accounting firm), charges may be made between companies which has the effect of moving profits around.

One simple measure to close the loophole would be to make any management recharge a non-deductible expense for tax purposes. They could still be used for accounting purposes to accurately reflect a true and fair view of the activities of a company. This is a tax adjustment only, with no changes to accounting.

This highlights the need for greater transparency in the relation between the corporate tax paid by a company and its accounting profits. As such, I would propose a change to the presentation of a company’s income statement. It should be presented in no less than 3 columns. A company may sometimes wish to present their accounts in more columns, with a middle column being adjusting items, with unadjusted and adjusted items on either side. The format I would propose would have the adjusted (i.e. statutory) results on the left hand side, with tax adjustments in the middle. The right hand column would then be the statutory results plus or minus the tax adjustments, thus showing the income statement as used for the tax calculation. All tax adjusting items should then be explained in the notes to the accounts.

The present tax system does not suitably recognise the vast differences in the kinds of businesses that operate in the economy. While it is right that tax be levied on the profits made, the current determining factor is the profit itself. To take into account the different scale of businesses, this should be changed to revenue. So I would propose the following rates:

On revenues less than £1m: 10%

On revenues of £1m-£5m: 20%

On revenues of £5m-£25m: 30%

On revenues of £25m-£100m: 37.5%

On revenues greater than £100m: 45%

To avoid jumps, this will apply on a tiered basis. To illustrate, let us say a company makes £120m of revenue and has a profit chargeable to corporation tax of £10m

The tax due then will be (with some numbers rounded):

(10 * 1/120 * 10%) + (10 * 4/120 * 20%) + (10 * 20/120 * 30%) + (10 * 75/120 * 37.5%) + (10 * 20/120 * 45%) = 0.008 + 0.067+ 0.3 + 2.344 + 0.75 = £3.469m or an effective tax rate of 34.7%

What this does is to raise additional tax revenues from the very large companies without putting unnecessary pressure on small businesses.

Personal Taxation

The single greatest improvement that the coalition government made was to increase the personal allowance at a faster rate than it had done beforehand. The personal allowance should be raised further to ensure that anyone on the minimum wage (recall, this will be increased to be no less than the living wage) should not be required to pay income tax.

Income tax should operate on the principle of ‘to each according their need, from each according to their ability’. On this principle, anyone who is not paid enough to live on should not be required to pay tax. Anyone who is paid more than they need to live on has a duty to pay a proportion to support the society they live in and from which they benefit in any number of ways, both financially and non-financially. Personal taxation should never be a penalty, though, so no one should ever be taxed more than they can afford. Those who are paid more than others should pay a higher proportion of taxation, just as structures in a building which are stronger should bear the greater load to support the building.

For those who are paid narrowly above the living wage, they can afford the least. So I would propose the reintroduction of the 10% tax band, for earnings in the first £7,500 above the personal allowance. Thereafter, the basic rate should be kept at 20% for the next £15,000, 40% for the next £20,000. The top rate of tax should be increased to restore the 50% rate and would be liable on earnings £60,000 above the personal allowance.

There has been some speculation in recent years about “recognising marriage” in the tax system. To specially favour one group of people is equivalent to penalising another. Therefore no group of people should be favoured or penalised by virtue of their marital status.

Loan sharks

The legal loan sharks should be recognised for the plague that are, an evil that scourges society. For all lenders, there should be a maximum lending rate. To begin with, that rate should be 10 times what the inflation rate is. The aim will be to bring that down, subject to an annual review.

Regionalisation

The recent Scottish independence referendum has shown that there is an appetite for greater regional powers. Yet the failure of the ‘Yes’ campaign to obtain a democratic majority also shows that nomatter how intense the feeling may be, such intensity counts for nothing in a democracy where widespread opinion is what matters. We also recall the ‘No’ vote made in a north-east referendum in 2004. As a result of these, I would not propose any further referendums on regionalisation over the course of the next parliament.

Coming out of this was the so-called West Lothian question. I have changed my mind on this recently. Previously I was in favour of the view that Scottish MPs should not be able to vote on matters which do not affect them. However, if one takes that as a principle and applies it to other situations other the cherry-picked example of Scottish MPs then one finds oneself in all sorts of knots. For example, I recall as a commuter working in London but living in Sussex I had no vote on the London mayoral elections, even though I spent the majority of waking hours in the city. Should one extend the vote to anyone who is significantly affected by the London mayoral election, then it becomes very tricky. And the maxim ‘English votes on English matters’ sounds good until you actually think about it.

So I would favour a limited move towards greater regional powers in order to address any existing inequalities, but this should be tempered by any prospect of creating inequality. This would entail an overhaul of the use of the Barnett formula.