Is devolution of Corporation Tax a gamble worth taking?

Northern Ireland provides a strong case for not devolving Corporation Tax, argues IAN MURRAY

 

The Calman Commission and subsequent Scotland Bill will transfer a significant number of new powers to the Scottish Parliament and give Scottish ministers control of over £12bn worth of revenues.  This is the largest single transfer of power to the devolved government since 1999.

The SNP refused to participate in the Calman consultation and the debate on the Scotland Bill, preferring instead to peddle their own assertions and ignore years of analysis and serious debate. But now, buoyed up by their landslide victory in May, they are attempting belatedly to make new demands on the devolution settlement. One of these demands is the devolution of Corporation Tax, but they continue to offer very little in the way of proper analysis as to the consequences of such an approach. They do not even attempt to answer arguments point by point. They simply reassert their own point of view, dismissing alternative points of view as being “anti-Scottish”, that if they say it, it must be true and a benefit to Scotland! One is tempted to surmise that their strategy is to request additional powers that they know cannot be delivered and then use this as a platform to pick a fake fight with Westminster.

Scottish Labour have always held the position that we would not rule out any further devolution of powers to the Scottish Parliament if it can be shown to be of the benefit of the Scottish people. Let’s not forget that it was Scottish Labour that brought about the Scottish Parliament. Indeed, it was one of the first Bills of the Labour Government in 1997. Devolution was always going to be an ongoing process. That is why we have consistently asked the SNP to produce the evidence that would substantiate their stance on corporation tax. So far, they have failed to deliver. Their much anticipated paper poses only argument but no justification, all the Scottish minister can say about it is, “Corporation tax is a key lever to promote growth and investment, and we will issue a discussion paper shortly that will fully set out the arguments for devolving corporation tax to Scotland.”

The failure to say much at all is hardly surprising given the financial black hole that is likely to be created by any Corporation Tax reduction. The Secretary of State for Scotland recently quoted, at the Scottish Affairs Select Committee, a figure of some £12bn over 5 years on a 10p reduction for an “indeterminate period”.  A recent analysis by PriceWaterhouseCoopers said that a reduction in the rate to 12.5 per cent could cost up to £2.6bn a year. The Scottish Government must tell us their proposed rate in Scotland, the cost to the public purse, where the money will come from and how they would manage the short to medium term consequences.  Given the huge sums involved they must also come clean on what public services would be cut to pay for this.

A Corporation Tax reduction may bring economic advantages to Scotland but even the Scottish CBI say, “Any potential benefit to Scotland of a different rate and/or structure of CT needs to be weighed against the impact of the certain costs, complexities and risks that would arise from devolving the tax. However, there is little analysis of this in the paper, including the burden for companies in having to deal with two separate CT regimes.”

The Scottish Government’s “biased” paper poses more questions than proper analysis or answers. Questions have to be answered on how many more businesses would have to relocate to Scotland to make up for the immediate deficit and how many more would be required to pay back the “indeterminate period” of the financial black hole. The block grant to Scotland would immediately be cut by the requisite loss of Corporation Tax to the Exchequer and that reduction in financial resources would not be made up from an influx of new business. £2.6bn is almost 8 per cent of the Scottish budget, so would the benefits justify the considerable costs? At a time when the SNP has overpromised the Scottish people to the tune of some £5bn on a flat budget how can this be affordable?

The main plank of the SNP case seems to rest on the current consultation on devolving Corporation Tax to the Northern Ireland Assembly. The thrust of this devolution is to allow Northern Ireland to equalise the rate of Corporation Tax with the land border of Ireland to 12.5 per cent. This, I would suggest, is exactly an argument for not devolving Corporation Tax to Scotland. Differential Corporation Tax rates with land border countries create an unfair and unhealthy competition with the potential for a race to the bottom. The fact that Northern Ireland is looking to have Corporation Tax devolved is to equalise its position with the South and not to create a competitive differential. The Scottish Government paper doesn’t give a figure but if it were not 12.5 per cent to match that of Northern Ireland then the question would become, what is the point?

The CBI in Scotland have consistently emphasised the dangers of differential taxation rates in Scotland. The Irish economy was underpinned by a low Corporation Tax rate that has unravelled as the economic downturn has taken hold. The collapse of Corporation Tax revenues in Ireland has resulted in an EU bailout and an economic situation that makes the “Arc of Prosperity” a thing of the distant past. In fact, the other countries with lower rates than the UK are Greece, Italy, Spain, Portugal and Iceland. Germany has a similar rate and Norway higher.

Clearly there is also the question of priorities. The coalition government at Westminster has been fiercely criticised for reducing Corporation Tax by 5p over the next few years, handing the financial services sector and the banks a massive windfall at a time when public services are under severe pressure. This was highlighted as a major concern by the Institute of Chartered Accountants of Scotland who said there would be limited scope for a rates cut in Scotland if public services were to be maintained at a time when they were already under strain.

A significant reduction in Corporation Tax in Scotland would give the big banks a considerable financial boost at the expense of public services. Is this a priority for the Scottish Government? The First Minister himself said in 2007 that “These two companies alone (RBS and HBOS) pay about the same amount in Corporation Tax as GERS [Government Expenditure and Revenue Scotland] allocates to the whole of Scotland”.  This, to me, does not seem to be the priority of the Scottish people. It could even be suggested that this massive financial hand-out to the banks would be a bribe to stop them fleeing their traditional nest in Scotland — further proof that the SNP believes that  the independence debate should take precedence over the real economic issues facing Scotland.

I’ve run my own businesses since I left university and in times of economic downturn the last thing on your mind is the level of Corporation Tax. Furthermore, I would predict that the postbags and advice sessions of politicians up and down Scotland are full of correspondence from business owners who are more concerned with survival, making the next payroll run and getting access to finance from their bankers. The fact that Corporation Tax is paid on profitability poses the question: should the Scottish Government be concentrating resources on getting business back on its feet rather than giving an untargeted tax cut to the larger and more profitable businesses? Of course, losses from previous years can also be carried forward against future years’ corporation tax payments and therefore there is an inherent volatility in Corporation Tax which introduces uncertainty in tax revenues, further exacerbating the potential risk.

PriceWaterhouseCoopers examined the Corporation Tax regimes of 182 countries in their report Corporation Tax – Game Changer, or Game Over? which says that overseas investors already in the UK rank Corporation Tax as 17th in a list of investment drivers, that “prioritise, in order: language, culture and values; infrastructure; skills; and proximity to markets”.  All these are already in the control of the Scottish Government but their policy of scrapping large scale infrastructure projects that would drive employment, skills and economic growth fly in the face of these business priorities. That makes the devolution of Corporation Tax to Scotland a very big £2.6bn gamble!  The John McClaren report for the CPPR (Centre for Public Policy for Regions) also stated that companies rated it at the 17th most significant factor in deciding where to locate their corporate HQ.

The recent economic downturn highlights how quickly Corporation Tax receipts can fall. Ireland and Iceland are prime examples and The Institute of Chartered Accountants of Scotland claimed the volatile nature of the economy meant tax returns would be unpredictable. The Scottish Government are obviously calculating an additional benefit from the relocation of additional businesses but is this benefit stable enough to risk the “indeterminate” reduction in resources?  The CBI in Scotland fear that there may be a relocation of head office functions to Scotland to take advantage of the preferential Corporation Tax rate but that may not necessarily bring with it many more jobs or, indeed, economic growth.

The Oxford University Centre for Business Taxation reports that Corporation Tax cannot be isolated as a mechanism for driving business investment or economic growth as it is merely one lever that, when pulled, creates movement in a number of other related levers. Their assessment of the UK at present shows that the reduction in Corporation Tax from 28 per cent to 23 per cent over the next four years will have a far more limited effect due to the virtual abolition of Capital Allowances. Although their analysis is UK-based it must be borne in mind in any discussion and debate about the devolution of Corporation Tax rates in Scotland.

They conclude: “Results suggest strongly that reforms that cut the tax rate but also cut allowances are not enough to maintain, let alone improve, the competitiveness of the UK corporate tax system. Such reforms mainly redistribute the tax burden between companies, rather than making the tax system as a whole more competitive. The government has also emphasised its intention to make the UK more attractive as a location for manufacturing. For that objective, a policy of cutting capital allowances is misguided.”  In other words, diversification of the economy is better delivered through more generous capital allowances to encourage investment rather than through handouts on profits. I would suggest that an extrapolation of this conclusion would see a Corporation Tax cut in Scotland as a redistribution of the tax burden away from financial services and, more starkly, the banks.

Finally, do differential tax rates between countries with land borders create a race to the bottom? Who is to say that the UK Treasury would not seek to protect businesses in England by lowering the overall Corporation Tax Rate? Would businesses immediately relocate from the North of England? A reduction in  the tax vis-a-vis England is politically unsustainable in conjunction with continued fiscal subsidy. This is not a policy designed to benefit the Scottish economy – it is instead designed to create a tension that can only be resolved by splitting tax and spend i.e. independence not devolution. In order to benefit the Scottish economy, a reduction has to lead to greater inward investment or retention of potential domestic investment that might otherwise leave. Given that low Corporation Tax regimes already exist within the EU,then firms willing to move in order to benefit from lower rates will already have done so. Therefore, lowering the tax can only attract firms that are relatively sensitive to distance, ie, firms based in northern England. If the reaction of a Conservative Chancellor to Scotland lowering CT is to mirror the move then all the SNP will achieve is a reduction in public funds across mainland Britain, with the net effect being a worsening of Scottish public finances. Perhaps this is their goal to advance a false argument for independence?

And what about the powers that are currently at the disposal of the Scottish Government that could promote economic growth without the multi-billion pound risk? Perhaps they could look again at non-domestic rates, the variation in income tax rates, or creating favourable conditions for inward investment. The Scottish Government have published their Corporation Tax paper. However, what is clear is that the evidence will have to be powerful to risk a multi-billion pound reduction in public spending for what is a very neo-conservative economic policy. The Reaganomic and Thatcherite trickle down policies failed in the 1980s and early 1990s. Scotland can ill-afford to make the same mistake again. The Financial Times editorial on 23rd August said: “These complications are a heavy price to pay for a reform that will produce at best marginal economic benefits”.

Professor Arthur Midwinter recently argued on LabourHame that the proposals for tax changes contained in the Calman Report to give the Scottish Parliament greater control over how it raises its finances have been comprehensively researched and rigorously argued. He claims they will create greater accountability and choice over spending and tax levels while retaining stability and the benefits of the block grant. Unlike the SNP approach, Calman’s proposals are evidence-based and deserving of continued support.

We must ask ourselves what kind of Scotland we want in the future, how we make the most of the potential of Scotland and deal with the challenges of today and beyond. I’m unconvinced that a multi-billion pounds transfer of financial resources from the public purse to private business at the expense of our proud public services is a Scotland is what most Scots want to see.

Ian Murray is the Labour MP for Edinburgh South. Follow him on Twitter at @IanMurrayMP.

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10 thoughts on “Is devolution of Corporation Tax a gamble worth taking?

  1. CBI Northern Ireland response to HM Treasury paper – Rebalancing the NI Economy – Executive Summary

    The Northern Ireland economy continues to lag the rest of the UK. There is strong evidence to support the need to rebalance the NI economy. Indeed without radical policy change emerging evidence suggests that NI’s living standards will fall further behind average UK levels over the coming decade
    A low and competitive headline Corporation Tax (CT) rate will be vitally important to encouraging investment – this will become even more important as the opportunity to provide Selective Financial Assistance (SFA) is reduced. Strong evidence exists that CT rates are a key factor in attracting investment. It is also recognised that other factors, notably skills, infrastructure provision, innovation and planning must also be addressed as part of an integrated package to transform the NI economy
    There is strong evidence to indicate that a low and competitive CT rate will significantly increase investment, economic growth and jobs – it is also likely to lead to increased productivity and increased investment in R&D. Various studies suggest that an estimated 60,000 to 90,000 additional jobs could be created over a 20 year period. Living standards will also improve, closing the gap significantly with the rest of the UK. We believe the benefits set out in the consultation paper are conservative and fail to take into account the dynamic impacts of a lower CT rate. We conclude that a low CT rate would have a transformational change on the NI economy, whilst recognising that improvements in other factors, within the control of the NI Executive, must also be addressed
    There is significant evidence from other countries that reducing the CT rate will lead to an increase in overall tax revenues – this needs to be borne in mind. However there will be a short-medium term cost on the NI block grant to meet the requirements of the Azores case. Restricting the low CT rate to trading profits (as in the ROI) and phasing in the reduction of a lower CT rate to say 12.5% over five years, will significantly reduce the cost, and improve the affordability over the first five years. This will only deliver the benefits if absolutely certain is provided on the ‘roadmap’ to a lower CT rate
    A key issue will be to secure appropriate arrangements/mechanisms between the NI Executive and HMT for capturing the increase in other taxes eg NIC,
    VAT etc. We also believe some of the costs estimated by HMT are too high. We also recognise that there is considerable uncertainty associated with estimating the costs and benefits. It will also be essential for the Executive to maintain funding for skills and infrastructure and avoid putting additional costs onto existing businesses, as this will undermine the economy
    The NI Executive will face additional risks, which we believe are manageable and worth taking bearing in mind the potential rewards – these are outlined in the response
    The business community in NI accepts there will be additional compliance costs and administrative burdens, but these are considered acceptable and necessary to minimise the risk of profit shifting and tax avoidance. We believe a system can be designed to ensure that only companies operating in NI and taking advantage of the lower CT rate will face additional compliance costs. There should be no additional compliance costs for UK companies not operating in NI
    Other tax incentives could play a useful role in stimulating economic activity but we have seen no evidence to suggest that these would lead to a transformation in the NI economy. There is no evidence to suggest that reducing costs, such as a wide spread reduction in rates or National Insurance, whilst helpful, would lead to a transformation in the NI economy (NI’s cost base is already attractive relative to the ROI). Indeed such a policy will continue to attract ‘cost centres’ rather than higher value ‘profit centres’

  2. A good analysis of what is an utterly ill-conceived policy from the SNP. The treasury asked them some questions about the whole idea and the SNP’s response was that the treasury’s questions were “predictable”. Not so predictable that the SNP were able to have answers ready to give them. The whole idea is a nonsense. If the SNP were to cut CT in Scotland it would inevitably precipitate further reduction of CT in England by George Osborne and all we would be left with is yet more cuts. John Swinney should spend less time using tax payers money for his personal benefit and more time coming up with some coherent policies to deliver growth.

  3. I see N.Ireland lost a chance of 300 jobs to the Republic. They lost out as the Republic had lower Business Rates.

        1. Indeed they have. But Colkitto seemed to suggest that NI had lost out because ROI had lower Business Rates. We have the power to change our business rates if it was felt necessary to do so.

          We should not be competing to be the next tax haven for american multi-nationals. If we are to attract businesses from abroad, and create them here, we should be aiming to have a highly skilled, motivated and flexible workforce. We should be investing in the infrastructure needed to ensure ready access to markets elsewhere in the Uk and in the EU. Only that can attract the sort of jobs we want – not increase employment amongst those who make brass plaques for offices.

  4. Very good post.

    The SNP keep complaining that we can’t create jobs and strengthen growth in Scotland. That is nonsense.

    Are they trying to tell us that we’re “too small, too poor and too stupid” to create jobs and strengthen growth within the UK?

  5. How on earth could it cost £2.6bn to reduce corporation tax to 12.5%? £2.6bn is the entire amount raised in corporation tax revenue in Scotland – i.e. the cost of reducing it to 0%. So what do they think it would cost to reduce it to zero?

    The Tory Treasury keep banding this £2.6bn figure around as a concrete prediction, yet they have admitted they’ve done no modelling on the potential revenue gained from a lower rate in Scotland. So they’ve only done half of the equation – and even that was done badly.

    If people are after evidence that it pays for itself…I’d flip that on its head and ask for one country whose CT cut didn’t pay for itself. For instance while Ireland was steadily lowering its CT rate over many years, CT revenue (before the crash) remained at 4% of GDP – the same as the UK.

    And as for CBI Scotland – not exactly bustling with members – CBI in N Ireland told the N Ireland Affairs Committee “There is a strong view in the business sector that a low and competitive CT rate for a sustained period would lead to a transformation in the economy over the medium/longer term.” Apparently things like differential tax rates and black holes are only a problem in Scotland.

    Finally, if people are worried about businesses simply moving from elsewhere in the UK, why not just allow Scotland to lower corporation tax for new start ups?

    1. The figure of £2.6 billion is fifteen times higher than what they estimate it would cost the Northern Irish Assembly but the Secretary of State for Scotland is unable to explain why it should be so much higher in Scotland. If the UK Government keep making mistakes of such magnitude why should we believe them about anything?

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