United Kingdom Tax: Top ten predictions for the emergency budget
On the basis of election manifesto pledges, it's Lib Dems 1 - Tories 0.
Whilst the Chancellor has been vocal on how to make the UK competitive in terms of bringing down the rate of corporation tax, most focus so far has been on what taxes will be raised and what cuts will be made. Accountants Grant Thornton have pulled together their top ten predictions for what will be included in the the emergency budget:
1. National Insurance and Income tax - rise in personal allowance confirmed
The Coalition Government is not likely to make any further announcement on headline income tax rates at this Budget but they have confirmed that they will raise the personal tax-free allowance (currently £6,475) to £10,000 over the lifetime of this Parliament. This is of course good news for low income earners as many of them will be removed from paying tax altogether. Higher earners will feel little benefit as those with incomes over £100,000 no longer receive full personal allowances due to a change introduced in April this year.
What we will see is further clarity on when the increased personal allowance will be introduced but it is likely that the allowance will lift between £700 to £1,000 in the first instance. As this measure aims to help modest income earners we will see readjustments of the threshold at the upper end of the basic rate band.
The 1 per cent rise in national insurance contributions (NIC) from next April for employees is likely to go ahead but the same uplift for employers NIC has been shelved.
2. Capital gains tax (CGT) increase
We already know CGT is due to increase. This much talked about measure is likely to go down like a lead balloon, in particular with investors with share portfolios and anyone with a second home that provides additional income, but may one day give a useful capital gain. The Coalition has confirmed that the rise will be a tax only on "non-business" activities but there is likely to be some wrangling on what is deemed "business" and "non-business". There was also discussion of "generous" relief for entrepreneurs and details will be expected on exactly what that means.
The actual tax rate is yet to be determined but we do know that it will be more in line with income tax so it could go up to 40% but the option of taxing up to the highest rate of 50% has not been ruled out.
We would predict that the capital gains tax increase will be introduced at the beginning of the new fiscal year (April 2011).However, there is no guarantee at this stage that this will occur and they could introduce a retrospective date (eg backdate to 6 April 2010) which would prove unpopular and politically controversial. Alternatively they could make a change from 22 June but that too would set a poor trend in relation to allowing sensible planning.
If the introduction date is April 2011 it will give entrepreneurs and other asset holders time to consider what the new rules will mean for them and whether they need to take action or not in full knowledge of what the rules are rather than having to take rushed decisions based on limited or no information.
It should also be noted that there is no over-arching evidence that shows that by raising the rate of capital gains tax that it necessarily translates into higher tax revenue raised. When CGT was moved to a flat rate of 18 per cent just a few years ago, that rate was chosen because it accorded with global research that it was close to the most effective rate in terms of balancing revenue yield with encouraging investment. Therefore the Government needs to be cautious as to what message it is sending out to not just entrepreneurs but those savers who have bought shares and second homes in hope of a more comfortable future.
3. VAT rise
There is growing speculation that the Chancellor will announce an increase in the standard rate of VAT. Whilst this increase was not mentioned in the Conservative election manifesto, the Liberal Democrats included a pledge to address the differing VAT treatment of new build properties with that of property repairs.
The UK standard rate of 17.5% is relatively low when compared to other EU countries and having now had an opportunity to review the country's 'books', the Chancellor may face an irresistible temptation to increase it to 20% - a figure predicted by many leading economists. The dilemma for the Chancellor though, is when to make the increase.
The rate of inflation in the UK is more than 1% above the last Government's inflation target and the Bank of England may soon come under pressure to increase the base rate to stave off any further inflationary pressure. The difficulty for the Government is that whilst a VAT rate rise would make inroads into the public sector borrowing deficit and send a clear message to the financial markets, it would also be inherently inflationary. The Chancellor may therefore decide to defer the increase, perhaps until early next year.
Another option for the Chancellor is to review the scope of the VAT zero and reduced rates and tax certain items at a higher rate than at present.
Although there may be some uncertainty about when any VAT rate increase may occur, it is certain that when it happens it will have huge implications for both businesses and consumers alike. Although a transaction-based tax, in reality most common purchases are subject to VAT and increases do tend to hit those on lower incomes proportionately harder than the rest of the population.
4. Property taxes
When it comes to property, the CGT increases mentioned above will be the main area of concern. The housing market is already in a precarious position and consequently introducing further tax changes will not help this ailing industry. In addition, the currently weak pound offers good exchange rates for foreign investors who are increasingly buying up UK property. Another rise in CGT will slowly edge UK property investors out of the property market as foreign investors take advantage of the favourable exchange rates to gather high rates of return.
The Emergency Budget may also introduce changes to "Private Residence Relief" - which enables people to sell their only or main residence free of CGT. It is expected that the new Chancellor will look to tighten up the definition of a 'main residence' and reduce the opportunities to allow those with more than one property to vary what counts as their main residence, therefore exposing them to a greater chance of a CGT charge.
The wide spread speculation of VAT increases could hit the property sector hard. It is expected that this rise will also apply to renovations and new build properties. The property sector needs a level playing field in order to help it back onto its feet. A Value Added Tax hike and the many changes to the property tax system that are expected to come through are not helping.
In addition, it is likely that the Chancellor may choose to reduce capital allowances in order to fund a possible corporation tax cut. If this goes ahead, property investors will not be able to recoup as much of their costs, therefore hitting their bottom line.
5. Corporation Tax
The main message of the Coalition Government is that they want to reduce red tape for businesses and make the UK an attractive place to do business. The Chancellor has announced that the main headline rate of corporation tax will be reduced but has not indicated to what rate. While the Conservative manifesto stated clearly it would cut the main rate from 28% to 25%, the new Coalition Government may seek not to go ahead with this full cut straight away.
A cut of this nature will make us more competitive against other OECD countries but we would still be nowhere near the top of the league for offering low corporation tax rates. Companies will however be concerned by what capital allowances or other reliefs and exemptions might be taken away to fund this cut. Any downward reduction in corporation tax rates would need to be part of a broader package if the UK is going to attract more inward investment and encourage companies to come to the UK to do business.
The Chancellor has already mentioned that he will seek to reform the complex controlled foreign companies (CFC) rules which act as a deterrent for some companies from establishing themselves in the UK. This is unlikely to be in the Budget in any detail but he may announce when the draft CFC legislation will be published. This is part of an on-going review of UK law started under the previous Government.
The Coalition Government has also said that it would review whether to maintain the much disliked "IR35" rules as part of a review of all small business taxation. These rules impact on small companies which offer personal service eg computer consultants or many types of contractor. Despite ten years of existence, they still are perceived as being poorly thought through and unhelpful to business.
There will be much interest to see if any reference is made to reduce or alter the ability to "income shift" between individuals, such as married couples, which can be tax advantageous. This is permissible within the law but has been the subject of much controversy after cases such as Jones v Garnett (Arctic Systems Ltd case) which the taxpayer won. Following that case, proposals were put forward by the previous Government to introduce legislation to curb the ability to income shift but these were shelved due to the inability to find something that was operationally viable. Many will be looking for positive signs that such proposals are not going to be back on the agenda.
There will be considerable interest in any review on simplification for tax for smaller businesses and this will be much welcomed although it will also be useful to see a sensible timetable for detailed discussion of the issues.
6. Banking levy
The Coalition Government has already stated that it will introduce a banking levy and in this Budget the Chancellor is likely to press ahead with his proposals aside from the European Union (EU) initiative on providing a regulatory framework for a pan-European banking levy. There is clearly a desire to be able to apply the funds raised by a UK levy more widely as opposed to reserving in an EU fund to address potential future bank failures as envisaged by the EU.
The Government has also been clear that there will be a clamp down on bonuses in the financial services sector. Whilst a clampdown on bonuses will be seen by many as justified we do not think that tax should be imposed on individuals but on the industry as a whole in order to influence corporate behaviour away from a short term bonus culture. Measures which impact adversely on individuals disincentivises key executives and potentially precipitates talent flight from the UK financial services sector. The answer to shaping behaviour of financial institutions must surely lie with transparent and effective regulation rather than more tax measures.
7. Tax avoidance and anti-avoidance measures
The Liberal Democrats manifesto had a clear message that they believe large revenues could be raised from clamping down on tax loopholes and tax avoidance schemes so we predict that the Chancellor will set out quite clear messages on anti-avoidance measures. However, there are already detailed rules in the UK restricting aggressive tax planning and there may not be a "pot of gold" that the Coalition Government can find to help bridge the deficit gap. Furthermore, Her Majesty's Revenue & Customs (HMRC) are already operating on limited resources and thought will need to be given as to how they can enforce any new proposals.
8. Non Domiciled ("non-dom") individuals
Residence and domicile status can have a significant impact on an individual's liability to UK income and capital gains tax. This area gained large media coverage during the election campaign and the Coalition Government has stated that it will review the taxation of non- doms.
History shows how hard it is to make progress on such issues. Major changes were made to the taxation of non-domiciled individuals in the Finance Act 2008, introducing some of the most complex rules the UK tax legislation has seen to date, but the UK still lacks a statutory residence test to provide certainty on an individual's status. The key here is to avoid the law of unintended consequences. If cuts in the corporation tax rate are to be proposed to encourage inward investment, radical changes to the taxation of non-doms may keep away the very entrepreneurs we are looking to encourage to relocate to the UK.
9. Pensions
The Coalition Government has agreed to restore the link between the basic state pension and earnings. This was initially suggested in the Turner Commission 2005 and would be welcomed.
The Coalition Government could go further. It could look to implement many of the other reforms set out in this report including increasing the state retirement age for men and women. It is also likely that the further pension reliefs will be taken away from high income earners perhaps lowering the proposed threshold for tapering of higher rate relief, which is set at £150,000 of income and is due to apply from next April.
There are also already signs that the Government will remove the rule to buy annuities at the age of 75.
10. Inheritance tax
It is unlikely that there will be any change to the current inheritance tax (IHT) threshold of £325,000 much to the disappointment of many Tory backbenchers and their supporters who enthusiastically supported an earlier proposal to increase the nil rate band to £1 million.
We may see some restrictions to inheritance tax. The current deemed domiciled rules bring a non-dom under the inheritance tax net if they have been resident in the UK for the last 17 out of 20 years. This could be shortened to the last 7 out of 9 years to align it with the test that is used for the remittance basis charge.
TAX NEWS - may 2010
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