Can an accounts based system really deliver simplicity, value and encourage investment without too many side effects?
These are just some of the questions facing the Office of Tax Simplification (OTS) in its ongoing examination of tax relief for tangible fixed assets.
The first challenge is assessing what cost such a change would mean both on businesses and public finances. How such a change would redistribute the tax burden and what new legislation will be required to smooth any radical impacts, protect public finances and still incentivise new expenditure.
Capital allowances claims are big business with over £90bn claimed last year at an estimated cost to the Treasury of £22.25bn. That’s £22.25bn in the hands of business to pay wages, operational costs and ultimately help determine the price you and I pay for goods and services.
Then there are the claimants of capital allowances who don’t show up in the above figures, for example, Real Estate Investment Trusts (REITs), which are responsible for almost 15% of all commercial property investment. REITs use allowances to calculate their property income distributions and wouldn’t benefit from any switch to accounts as they generally don’t depreciate their investment property. Indeed, they are an example of a sector that could be adversely affected by such a change and they are not alone.
Simplicity sounds good, but our economy is not simple. Businesses do not account for assets in the same way and this was one of the main reasons accounts depreciation was shelved in the past; most recently in 2002 when it was last proposed. The headline corporation tax rates may have fallen since that conclusion but the underlying principles have not.
When I met with representatives of the OTS last month we had a wide ranging discussion on the above. A lot of work still needs to be done to assess the economic impact. There are potential quick wins in terms of leasing reform and publication of P&M lists based on existing legislation that I believe should be acted on by government. There is also good evidence to support an alternative and simplified system for small businesses. The election and pooling system is also ripe for reform. For larger claimants the situation is much more complex.
It is difficult to imagine an accounts based system without carve outs and long term transitional rules (5yrs+) to smooth any effect and this together with the need to retain some level of control in government finance protection as well as genuine tax incentive is where the tension and difficulty arises. After all, what is the point of replacing a generally well understood, albeit complicated system with another unfamiliar equally complicated one. As a result, any new system will need very careful planning and ongoing consultation.
There is also another factor that needs to be considered and that is Brexit. Whether you voted for it or not, the fact remains the UK will be leaving the EU as we know it and that means the potential re-negotiation (and even removal) of EU state aid rules for capital allowances and related reliefs. There is therefore, a real opportunity to re-examine what role capital allowances play in UK investment decisions and ensuring they are fit for what lies ahead. So far, the UK government has been relatively silent on this and one hopes that this will change as negotiations with the EU progress.
Setting government tax policy is beyond the remit of the OTS and a switch to an accounts based system would (without adjustments) radically alter the governments ability to influence future business investment decisions.
The final influence is of course technology. With ever increasing improvements and greater use of more innovative analysis and learning tools the burden of in-depth analysis is reducing. The future of complex tax and accounting analysis is changing and the opportunity for governments to provide more real time, accessible and targeted incentives will increase as a result.
The deadline for responding to the Office of Tax Simplification’s latest call for evidence is 30 November. If you wish more details or would like to discuss or feedback any thoughts we will be delighted to hear from you.