The TaxPayers' Alliance - Economics 101

Tax evasion vs. tax avoidance

Tax evasion is rightly a crime and honest taxpayers should not have to subsidise a criminal minority.  Equally, there are sensible measures - such as simplifying the tax system - that can be taken to reduce the extent to which people can plan their way around tax (and reduce the advantages accorded to those with expensive accountants).

However, we don't think that trying to blur the line between tax evasion (breaking the law in order to avoid paying tax) and tax avoidance (arranging your affairs, within the law, in a way that minimises your tax burden) is a good idea at all.  There are a number of reasons why, in practice and economic theory, such schemes turn out poorly whether you attempt to clamp down on anti-avoidance through a grand General Anti-Avoidance Principle or by encouraging the HMRC to become extremely aggresive (as has happened in recent years).

However, the basic problem is that the people who pay the highest price are never the rich foreigners that many on the left like to set up as bogeymen.  It is ordinary people.  Ex-cabbies starting up a business who haven't done anything wrong but are bankrupted for 88p, for example.  This morning we found this 1909 election poster from the excellent collection at the Bodleian library which illustrates the basic problem pretty beautifully:

Whingeing about binging

Sometimes I wonder if we should not strengthen the rule of "unintended consquences" into "opposite consequences".  Recent news that "it's the rich wot is doin' the boozin' " brings to mind a conversation with a local publican trying to ameliorate the consequences of the smoke-free legislation.

General early consensus in the pub trade was that the way to bring punters back in from their huddled mass on outdoor pavements has been that you re-vamp the pub kitchen, buy 'er indoors a new apron and start selling gourmet nosh to make money.

Sadly it doesn't work too well. "People wot like boozin' " said my publican friend "ain't people wot like eatin' good nosh. And people wot like eatin' won't trot along to a place that may have a sign outside that says White Swan, but everyone calls the ****ing Mucky Duck."  (He has a certain turn of phrase my publican friend.)

Further searching questions by your intrepid TPA reporter established that his real problem is that his overheads are so astonishingly high that his only recourse when aiming to make a profit is to target the lowest common denominator and spray gallons of alcohol at them. 11% NIC, 17.5% VAT, local business rates, booze duty, what he calls "the environmental stealth" and trading standards all add up to a ferocious financial negative against his current income.

"You want to do binge drinking?" he asks. "Well no ... " I begin, but realise he has begun on a rhetorical crusade that needs no response. "Tax me more", he says. "I put the prices up, and the decent people go home and drink in peace and quiet at their fireside. The riff raff left are the young and needy. The young because they've got no-one else to spend their money on and the needy because there's nothing else they want to spend their money on. Stands to reason dunnit?" I nod at his sagacity. "And another thing", he adds, "that binging wouldn't be half as bad if we had a mixed bag in the house, the proper people are a brake on the louts and drunks, I tell ya. We can make money in a different way with them."

My small glass of (sour) house red sipped, I slink home and ponder. He has a point, to what extent do high taxes actually create binge drinking by self-selecting those who gravitate to the solace of over-imbibing into Hogarthian excess. The government response to binge drinking is (as always) to punish drinking with taxation. Some of us, the wealthy, can buy out of binging because we have nice homes and neighbourhoods. Maybe the rich do over-indulge at home with a steady torrent of fine Chateau down their domestic gullets, but spare a thought for those who have damp homes and squalling kids (courtesy of the appalling Town and Country Act - another story for another day) who escape down the "Mucky Duck" for a good knees up, whatever the price. Their taxes probably go to counsellors, advisers and bureaucrats who want to get them out of their drinking dens, using policies that got them there in the first place. Mad!

The Tax on Christmas

Christmas is a time of giving, but few families appreciate how much they are being forced to give to the taxman.  Virtually all Christmas purchases, from iPhones to crackers, are subject to VAT, and granny’s sherry attracts excise duty on top, not forgetting the fuel tax levied on journeys to see family and friends.  New calculations by the TaxPayers' Alliance reveal the startling size of the family Christmas tax bill:

This Christmas, British families will pay an average £225 tax on their festive spending, equal to 600 Tesco Finest mince pies as well as 15 bottles of Harvey’s Bristol Cream sherry.

The total Christmas tax bill will come to £5.65 billion, more than enough for the Treasury to buy every single turkey in the EU.

Download The Tax on Christmas (PDF)

Council Tax Evasion

The amount of uncollected council tax continues to rise each year, reaching well into hundreds of millions of pounds. Research by the GMB union highlights how between the last two financial years the amount of uncollected tax has risen by £19,468,019 to the sum of £760.6 million in 2006/07. Given that council tax raises £23 billion pa., that is a small proportion (3.3%), but it is nonetheless much higher than for other taxes (like National Insurance, or fuel duty). 

In the case of council tax, people who don’t pay up only cost law-abiding taxpayers more the next year as council tax bills increase in an attempt to try and close the gap on the lost revenue. This is not always the case as councils have started to plan for imperfect collection rates, and more people using Direct Debit to pay makes it easier for finance departments to estimate income.  Theorectically, although we think the current level of council tax is scandalous, if everyone were to pay their council tax, there would be a broader collection base, which should in turn justify a reduced rate of council tax. But no tax - short of a flat tax - can ever expect to achieve zero per cent evasion and this should not be a condition for cutting bills.

We don’t condone tax evasion, but council tax is by far the most unpopular tax levied on the British public and people are greatly dissatisfied by the returns they get from council tax payments. It is unclear to the average taxpayer how council tax benefits them and councils need to change this. If town halls made a better argument for what council tax revenue is spent on, and reduced the amount of tax that they routinely waste, then people would be more inclined to pay up and the amount of uncollected revenue would decrease. If any tax is seen as unfair, there is always more incentive for those on the fringes to make the effort to avoid it, or risk being caught by evading the tax outright.

Evidently something must be done, and it is individual councils who need to lead the way.  Local authorities need to clamp down on tax evaders because it isn’t fair that they are allowed to get away with it whilst the rest of us continue to pay up, begrudgingly forking out each month despite such poor local services. But we don't want to be in a situation where pensioners who cant afford to pay their tax bill (because council taxes have risen by so much more than pensions) are prosecuted for it and made an example of by being given a prison sentence, whereas those who are evading the taxman with no good reason get off scot free because councils find it harder to track them down.

Private equity firms show the need for simpler, lower taxes for all

The Taxpayers’ Alliance exists first and foremost to defend the interests and rights of ordinary hardworking taxpayers.  It is ordinary taxpayers who have to foot the mounting bill for a monolithic government bureaucracy wasting money on pointless, feel good projects.  Taxpayers have seen more of their own money swallowed up by the state and seen comparatively very little in return.  Yet it is the voice of those taxpayers who fund the gravy train that seem to count for least within the political process.  It is thus for the pensioner who is unable to pay spiralling council tax bills, the first time buyer unable to get onto the property ladder due to stamp duty, and the low paid worker who faces cripplingly high marginal tax rates and so little incentive to work that the Taxpayers’ Alliance exists to defend.

Private equity executives, whatever else they may be, do not quite fit the description of the ordinary taxpayer struggling to make ends meet.  However, following the barrage of criticism recently unleashed upon them by various left wing groups and politicians, we felt the need to come to their defence.  Most of the concern has focussed on the fact that the majority of the compensation offered to private equity comes from carried-interest, which is taxed as a capital gain rather than income, and so tax rates of 10% or less rather than 40%.   The interim report of the committee of MPs investigating private equity firms considers both this issue and the use of the non-domicile status as a tax loophole, along with the impact of private equity funds on the wider UK economy.

In the age of international capital mobility, firms are able to easily relocate around the world.  So when many other European countries are moving towards a system which treats carried-interest as a capital gain, it seems foolish for us to move in the opposite direction, by creating a tax system that penalises private equity firms and so gives them a clear incentive to make the most of their foot loose status and move abroad.  Private equity firms have produced £55 billion of investment over the last five years, whilst they contributed £26 billion of tax revenue to the exchequer last year.  That would be quite some loss to the British economy.

There is a broader point here.  One reason the rich do not need the Taxpayers’ Alliance to defend their interests is that they can afford an army of accountants and lawyers to exploit our outrageously complicated tax code to find its numerous loopholes.  It is these loop-holes that allow them to pay much lower marginal tax rates than many of the poorest workers.

A flatter, simpler tax would remove many of the loopholes that allow the richest to end up paying the lowest tax rates.  It is an empirical fact that tax cuts and simplifications lead to the richest providing a greater percentage of total government revenue.  Tax simplification, not clobbering a vital component of the British economy to appease the trade unions, should be the government’s economic priority.  To his credit, Alistair Darling said much the same thing when he asked to be judged on his success in simplifying taxation.  However, as the FT so brilliantly puts it, the government’s claim that it will continue to simplify our taxes is rather like “the Mafia [pledging] to continue deepening its commitment to the rule of law.”

A fact that seems to have escaped everyone’s attention, though, is that rich people paying lower marginal rates than poor people is no argument for raising the rate on the rich, it is an argument for cutting it on the poor.

Liberal Democrat Tax Proposals

Download Reducing the Burden:  Policies for tax reform (PDF)

There are some good ideas in the Liberal Democrat tax proposals:

1. Simplification of the tax code and postcard-style returns could ease the administrative burden faced by individuals and companies.  Britain has the most complex tax system in the world, having recently overtaken India; there has to be room for simplification.
2. A cut in the basic rate would give millions of Britons some of their money back.  Very welcome.
3. Replacing the council tax would address the problem of a tax which hits the vulnerable the hardest and reduces pensioners to penury.

However, there are also some bad ones:

1. An extension of green taxes would be an inefficient way to raise revenue, would likely prove regressive and could do serious harm to British industry.  In particular, plans to increase the variation in vehicle excise duty on the basis of emissions would probably still not take lifetime emissions into account: some estimates that do include costs of construction and design suggest that a Toyota Prius Hybrid puts out more emissions than even a huge Hummer H3.
2. Taxing the rich more may appeal to social democratic notions of fairness but could do the British economy serious harm.  Estimates by the Liberal Democrats suggest that the tax bill of a City banker earning £250,000 would be increased by 11,800 pounds.  If the bank that employs that banker moved to another country to avoid the additional bill or international investment was diverted elsewhere we would all lose out.
3. There are risks to introducing a 'General Anti-Avoidance Rule'.  As the Conservative Tax Reform Commission pointed out:  "It is not easy to define exactly what such a rule should say, and experience in other jurisdictions shows that it may take some time before sufficient issues have been brought before the courts to enable to scope of the GAAR to be clarified."  Until clarity is achieved there is a lot of uncertainty in the law which exposes business leaders to unfair legal risk.

In short, a mixed bag.  Certainly an improvement over past Liberal Democrats plans to introduce a new 50 per cent tax band.  This platform would make important positive changes to the tax system by simplifying it.  If only the Liberal Democrats could get over the need to keep these changes revenue neutral they could avoid compensating measures that might undermine our economic competitiveness.