On paper it sounds all very nice and simple, announce a lot more money for public policies and say you’ll pay for it with an increase in taxes.
That’s exactly what Labour is proposing in their campaign for the upcoming general election. They are planning on injecting around £5bn into improving education in England, and they also want to make University degrees free for all students. A quick estimate puts that at around 15bn a year, on top of that they also plan on putting more money into the NHS and the welfare system.
To fund these lofty goals Labour is proposing to increase corporation tax from its current rate of 19% to 26% by 2020-21. This would easily be one of the most significant tax increases in 30 years.
This tax increase to 26% would only be for larger companies with a second tier rate of 21% being introduced for companies whose profits are less than £300,000 a year. Labour has estimated that this increase in corporation tax will raise an additional £20bn for them to then spend on their numerous spending increases.
Yet corporation tax is not an easy beast to judge, it’s notoriously difficult to even ball park a figure that could be raised for the government to spend.
In 2010 corporation tax raised just over £42bn in revenue for the government, this at a time when the tax rate was set at 28%. Since then it has been cut to 19%, which would mean the government made less in taxes right?
In 2016 for example corporation tax managed to raise £49.7bn, an increase of £6.7bn across the six years, this is due to a couple of interrelated issues.
For one thing a lower corporation tax has allowed businesses to invest more money and has made Britain a very “business friendly” country, one in which more companies are willing to increase their presence, hire more workers, and generally contribute more to the country’s economy. And with a greater economic growth across the country businesses have seen a return to higher profits which in turn has of course led to higher tax receipts. Many advocates of the cut to corporation tax argue that reducing business taxes creates wealth.
Secondly, a fact that is seemingly ignored by most, George Osborne introduced a number of other measures that actually made great strides in increasing business taxes. For instance, the amount of tax that a business can offset against investment in new buildings and plant machinery (known as capital allowances) was reduced.
The laws for taxes on foreign income were also reformed and new rules were implemented covering the shifting of profits from one tax jurisdiction to another, this became known as ‘The Google Tax.’ And while this tax may not be working perfectly, people seem to be forgetting the positive impact it is actually having. In six years to the end of 2010 for instance the namesake of the tax, Google, paid just £8m in corporation tax. Last year that had risen to £36.4m, and that’s with a cut in corporation tax, this is still a small amount of Google’s revenue because they book their sales in the Republic of Ireland where taxes are lower, but it is a step in the right direction and will no doubt continue to improve.
Not only that but the government also introduced a banking levy which is an extra tax focused on the City. When it was introduced this tax brought in £1.6bn, a figure which rose to £3bn by 2016.
If Labour do manage to win the upcoming election and increase the rate to 26% we run the risk of reducing Britain’s attractiveness and could cripple our chances of competing internationally for business. While our corporation tax is low by G7 standards our other businesses taxes are relatively high, so we need to keep our corporation tax low in order to even be considered for investment by large organisations.
This change would also be made at a time when Brexit is overshadowing the country and a number of businesses are on the precipice of relocating their businesses elsewhere. The new French president Emmanuel Macron wants to entice such businesses to Paris by cutting his country’s corporation tax to 25% from its present 33.3%.
Paul Johnson of the Institute for Fiscal Studies had the following to say to the Today programme:
“The risk is, that while this [Labour plan] would raise knocking on for £20bn in the short run, it is probably going to raise rather less than that in the long run as companies invest less and take other opportunities to reduce the amount of tax that they pay.
“So, the long run behavioural result of this tax would result in revenues being less than the immediate headline increase.”
Yet one of the most difficult aspects about Labours policy is the tax itself, it is so unpredictable, it can change wildly year to year as companies invest in expansion and upgrading current premises and machinery. Their revenue is also wildly affected by the global economy, as we all found out first hand in 2008. Therefore creating accurate forecasts are next to impossible.
In 2013 for instance the OBR forecast suggested that corporation tax in 2016 would have fallen to £38.2bn, in reality though the government received 30% more than that.
If we see this trend continue it’s possible that Labour could raise more than their forecasted £20bn. Or if we consider the possible economic effect on business investment by the tax rise it could receive much less.
This is why making pledges based on taxes is difficult, they are predicted on a forecast based upon an uncertain future, and nothing is more uncertain than a capitalist economy.
While this doesn’t mean political parties shouldn’t make policy funding announcements based on revenue estimates, it does mean that voters should be wary of them. It may sound great but forecasts can often be very wrong, leaving you with a government unable to make good on its promises.