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Pre-Budget Report 2008 predictions

20th November 2008

While there has been much publicity about tax cuts in the pre-Budget report, particularly to help hard-pressed families and smaller businesses, the question as to how these tax breaks can be funded - at a time when the government is spending billions on shoring up the financial system - remains unanswered.

"If the pre-Budget report turns out to be the ‘spend, spend, spend' document it is being trailed as, it could prove to be Gordon Brown's biggest U-turn of his political career.

"Economists seem to be in agreement with this approach, but tax cuts ultimately have to be paid for. The pre-Budget report may therefore prove to be a ‘Robin Hood' event where the government tries to redistribute wealth. Common sense tells us there must be tax increases for certain groups of taxpayers," said Richard Mannion, national tax director at Smith & Williamson, the accountancy and financial services firm.

Smith & Williamson's front runners for change include:

Increases in national insurance for higher earners - at present people with an income of more than £40,040pa pay 1% on all income above that threshold, but this could be raised to 2% which would bring in an additional £1.1bn. It is possible that an even higher charge could be applied to income over, say £100,000 pa.

An increase in tax rates for the better off - the 40% rate, which currently applies to taxable income over £40,835 pa could be increased, or a new ‘top' rate of tax on earnings over say, £100,000pa could be introduced.

Tax thresholds frozen - the thresholds for various tax rates could be frozen so that they do not keep up with inflation, thereby bringing more into the tax net and ultimately helping to increase revenues through fiscal drag, but this does however assume that incomes continue to rise in the short term, which may not be the case.

VAT - a change in the UK standard rate of just 0.5% would change revenues to the Government by approximately £2.5billion per year. The current rate of VAT of 17.5% is one of the lowest in Europe. For many years, and up to very recently, many commentators would have predicted, if anything, an increase in the standard rate. However in the last few weeks, this view has been turned on its head in the current economic climate, and it is now being suggested that a possible decrease in either the standard or reduced rate may be one way to boost the economy and encourage spending.

However, there may be other indirect taxes where the government can make a more immediate impact on consumer and business spending, such as fuel duties, excise duties, stamp taxes and stamp duty land tax.

If any change to the standard or reduced VAT rate is introduced, while there may be little impact on HMRC systems, VAT registered businesses may need to implement significant changes in an extremely short timescale in order to comply.

Green measures - there will doubtless be some attempts to boost our ‘green' credentials. Reform of Land Remediation Relief to widen its scope to brownfield sites and Japanese Knotweed may be positive extensions, though may not see significant take-up in the current property climate. It is expected that the community infrastructure levy will be made available from April 2009 as a means by which local authorities can raise money from developers to fund large infrastructure projects. It will be interesting to see how this is implemented in practice and whether changes in central government funding will force local authorities to consider this optional means of raising revenue more closely.

Empty property rates - from 1 April 2008 the government increased the level of business rates on empty properties from 50% to 100% once the initial void period has elapsed (the void period for non-industrial property is 3 months, and for industrial property it is 6 months. The change was intended to encourage owners to re-let, re-develop or sell empty non-domestic buildings.

In the current property climate we do not believe this is a practical measure that will enhance the stock of property available for business. Indeed it is more likely to lead to a reduction in available property stock as land owners demolish empty property and delay development. In view of current market conditions it does not sit well with the government's existing incentive for improving business property in specified areas - the business premises renovation allowance. We believe a delay, or removal, of the increase in business rates for empty property would be an appropriate change for the Government to introduce at this point in the economic cycle.

SDLT - we have already seen the government temporarily increase the level at which SDLT starts to be levied on residential property, through the increase in exempt band from £150,000 to £175,000 for transactions occurring on or after 3 September 2008 and before 3 September 2009. As HMRC's revenue from this tax is dependent on the number and value of transactions it should be looking at stimulating activity in the property market, perhaps through extending the bands for reduced rates that apply to residential and commercial property.

Stamp Duty Land Tax was introduced on 1 December 2003 and the complexity of its practical application has been evidenced by frequent changes and revisions. One of the measures initially introduced was a reassessment of SDLT on leases at each 5 year anniversary of the lease. The method of calculation is still complex for tenants to apply and as we approach the first 5 year anniversary of leases subject to the new rules it is expected there will be further news on limited simplification in this area.

Windfall tax on utilities - with energy and water supply being crucial, any tax that reduces the ability of the sector to invest in appropriate infrastructure would, in our view, be counterproductive.

A more appropriate course of action, would be for the government to engage with the energy and water sectors to ensure a co-ordinated approach to improving the UK's ability to meet future demands efficiently and securely. This would be in line with the government's current thinking in other areas such as transport and public infrastructure, and could be co-ordinated with other appropriate business incentives (perhaps on reducing corporate tax and widening incentives for capital expenditure) to stimulate the UK economy now.

Foreign profits Consultation - several high profile corporate relocations have cited the complexity and uncertainty of the UK's approach to taxing profits from international business as one of the factors contributing to their decision to relocate overseas (including to Ireland and Luxembourg). In addition there are several high profile tax cases, and indeed the intervention of the EU, calling into question the UK rules that apply to cross border loss relief and controlled foreign companies.

The government has been consulting on how to reform the taxation of foreign profits and we believe now is an appropriate time for the government to clarify its approach in this area. Further delay can only lead to increased focus by international businesses on the reasons for locating international business operations in the UK. Any further significant relocations could begin to impact on other areas of the UK economy such as the attractiveness of the UK as a location for financial services.

Clamp down on tax investigations - tighter enforcement of the rules and heavier fines would be another way to help boost revenues and fit with HMRC's general approach to tax ‘dodgers'.

Help for smaller and family-owned businesses - one reasonably strong possibility would be to postpone the intended increase in the small companies rate of tax from 21% to 22% due to take place on 1 April 2009.

The government's proposal to introduce complex anti-avoidance rules to combat perceived income shifting following the Arctic decision was shelved earlier this year. If introduced, these rules will require all family businesses to keep detailed records to show that profits had not been unfairly allocated between family members. This complexity would be the last thing that businesses struggling to survive need at this time.

Tax credits - the basic problem with the tax credit system is that it calculates current benefit entitlement by reference to historic income and family circumstances. As a consequence the taxpayer has the responsibility of remembering to tell the tax office every time they have a relevant change in those circumstances. Failing to do so could result in tax credits having to be repaid - not easy for a single mother who has spent the money and who has no savings. There have been a number of recent reports of individuals claiming to have notified a change in circumstances by phone, with it subsequently transpiring that HMRC had no note of the message as the call had not been recorded as required.

The government did go some way to resolve the mismatch between historic details and current circumstances by increasing the "disregard" level to £25,000 - that is the amount by which income can increase over the previous year without resulting in an overpayment of credits. However the Adjudicator's report for 2008 said that there are still features of the system that cause a minority of claimants serious problems, especially those whose circumstances change frequently.

Ideally the whole system needs a root and branch review to make it more responsive to those who need help most - usually those who are least able to deal with bureaucracy. This may also mean restricting access to credits to those who really need them. Presently even reasonably well-off taxpayers qualify for small amounts of credit which must take away some of the cash and the service resource that otherwise would be available to help those in most need.

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Disclaimer

By necessity, this briefing can only provide a short overview and it is essential to seek professional advice before applying the contents of this article. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. Details correct at time of writing.

Note to editors

Smith & Williamson is an independent professional and financial services group employing over 1,500 people. The group is a leading provider of investment management, financial advisory and accountancy services to private clients, professional practices and mid-to-large corporates. The group operates from offices in London, Belfast, Birmingham, Bristol, Dublin, Glasgow, Guildford, Maidstone, North London, Salisbury, Southampton, and Worcester.

Smith & Williamson Limited

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