Tom Clougherty is head of tax at the Centre for Policy Studies
The Labour Party is still keeping up the pretence that its tax plans will only hit the top five per cent – that no one earning less than £80,000 will lose out.
The truth is that even if you take them at their word, Labour’s tax plans would be a disaster for businesses, workers and savers. What’s more, it only takes a few reasonable assumptions to realise that Labour are overwhelmingly likely to leave us all out of pocket. Tax rises for the many, not the few.
But let’s start by being charitable. Labour say they will increase the main rate of corporation tax by sevenco percentage points, bringing in an extra £24 billion a year by 2023/24. Immediately, you run into a few problems.
First, there’s the message this sends: if the Coalition’s corporate tax cuts were a sign that Britain was open for business, Labour’s plans imply the precise opposite.
It’s worth bearing in mind here that, according to the OECD, taxes on corporations have the most negative impact on economic growth. By reducing the return on capital – which is, inevitably, what a tax on profits implies – you discourage private sector investment, which is the key driver of productivity growth, and the higher wages and living standards that come with it.
This relationship is well-known and well-established, and is only getting more pronounced as the competition for global capital becomes fiercer.
There’s a further problem with hiking corporation tax. Whenever you tax companies, the actual bill is ultimately paid by individuals – either shareholders (via lower profits and dividends), consumers (via higher prices) or workers (via lower wages). The precise share of the burden that falls on each is disputed. But the best analysis I’ve seen, which involved Oxford economists studying data from 55,000 businesses across Europe, suggests that 49p of every £1 increase in corporation tax gets translated into lower wages for workers.
Apply that to the £24 billion Labour expect to get, and it suggests that average private sector wages would be at least £425 per year lower than otherwise.
It gets worse. Labour’s proposed Inclusive Ownership Funds – a cuddly name for the gradual expropriation of 10 per cent of every large business – would function very much like an extra tax on business profits. Indeed, the Institute for Fiscal Studies has suggested that the effect would be to raise Britain’s top corporate tax rate not to 26 per cent, but to more than 33 per cent. This would mean Britain going from having the fourth-lowest corporate tax rate in the OECD to the highest. And all while costing investors some £340 billion – according to Clifford Chance – at least £31 billion of which would come from pension funds.
Inclusive Ownership Funds might at least be aimed at the biggest businesses, but you can’t say the same about many of Labour’s other tax proposals. As Dr Rosalind Beck pointed out on CapX this week, the highest hikes will be faced by self-employed people operating as limited companies. Just £40,000 of gross profit could be enough to land you with a 45 per cent increase in your total tax bill.
That extraordinary figure comes about because of the double whammy of higher corporation tax (even for small businesses) and much higher taxes on dividends – especially for basic rate taxpayers, who will see their marginal rate rise from 7.5 per cent to 20 per cent, while also losing a £5,000 annual allowance. And if the plight of Britain’s five million small business owners doesn’t concern you, just think about the countless pensioners who will also end up feeling the sting.
So far, I’ve taken Labour at their word about how they would raise the money to fund their gargantuan spending pledges. I’m not pointing out that their manifesto contains dozens of policies that simply aren’t included in their ‘fully costed’ list of estimates, or even attempting to cover the £58 billion for the WASPIs and other uncosted handouts.
Still, let’s imagine that things don’t go as smoothly as they hope. Let’s say that their proposed Financial Transaction Tax fails – as all previous financial transaction taxes have – to raise anything like the £8.8 billion they expect. Let’s also suppose that a Labour government doesn’t actually manage to increase the tax burden on capital by more than 50 per cent in a competitive global economy. And finally, let’s entertain the radical thought that maybe this full-frontal assault on corporate Britain will hurt economic growth, depress wages, and leading to correspondingly disappointing tax revenues. What then?
Unless Labour resorts to the printing press – a possibility that can’t actually be ruled out – the only way it will be able to raise the kind of money it needs is by increasing taxes on average earners. Realistically, that means higher VAT, National Insurance, or income tax – once again, for the many, not the few.
That’s a legitimate political agenda, and people are quite welcome to vote for it. But they deserve to know what’s coming.
So how about the Tory alternative? Perhaps understandably, the manifesto played it pretty safe on tax. In general, priority was given to increasing spending, while still staying within the bounds of the (new) fiscal rules.
Nevertheless, the direction of travel on tax was extremely welcome. The pledge not to increase the three main taxes was a statement of intent, but I was particularly encouraged by the accompanying proposal to raise the National Insurance threshold – at first to £9,500 but with an eventual target of £12,500.
This is something I advocated in the Centre for Policy Studies report “Make Work Pay”, as part of a focus – echoed in the manifesto – on, well, making work pay. My argument was that the Tories should focus their tax-cutting on ensuring that you are always rewarded for working extra hours, in particular when you are making the difficult transition from welfare into work. This doesn’t just make economic sense – it’s a deeply moral argument as well, and one which can and should act as the Conservatives’ guiding principle should they win a majority.
We already know how effective such measures can be. Similar increases in the personal allowance – again suggested by the Centre for Policy Studies – almost single-handedly kept take-home pay growing during the long wage squeeze that followed the financial crisis, while also simplifying the tax system and taking millions of low-paid workers out of the income tax net.
Yet there are still around 2.5 million people – people earning less than a full-time minimum wage – who pay National Insurance despite not earning enough to face income tax. The faster the Tories can make progress on this front, the better.
It was also encouraging to see a broader commitment to tax reform to boost growth, wages, and investment; the promise of a fundamental review of the business rates system; and some useful changes to R&D tax credits, as well as the structures and buildings allowance (this, I’m afraid to say, is the kind of stuff that really gets us tax nerds going).
Ultimately, though, it’s not so much the specific measures that I welcome, as much as the overall direction in which they point.
I’ve said before that a successful centre-right tax agenda needs to have two different elements to it – a concerted effort to cut taxes for ordinary workers, and a broader programme to reform those taxes that are doing most to hold back economic growth.
That message seems, at last, to be catching on. All we need is a Government capable of delivering it.