2021 - New year, new tax system? 2021 - New year, new tax system?

Last year was a challenging one for us all. The Oxford English Dictionary’s words of the year have been ‘lockdown’, ‘circuit-breaker’, ‘support bubble’, ‘super-spreader’ and ‘furlough’. I’m sure we’re looking forward to the time when such terms slip out of everyday use.

Whilst the incredible achievement of the development of a vaccine gives us hope for 2021, the far-reaching effects of the COVID-19 pandemic will inevitably be felt for some years to come.

The government has spent £400 billion and counting trying to protect jobs and shore up an economy battered by lockdowns and uncertainty. Somewhere along the line, Rishi Sunak will need to adjust taxes to rebalance public finances – an objective he has publicly acknowledged. The pandemic has also brought into sharper relief the interconnectedness of our economy and the heroes of the last twelve months have been our nurses, shopworkers, delivery drivers and all the other people who have been part of the mammoth effort to keep people safe and supplied with what they need to survive the lockdowns.  

For every bad news story, there’s been an example of a business giving the food it can’t use because it can’t open to a food bank, more potential volunteers than the NHS could absorb, and more neighbourly behaviour than in our busy pre pandemic life. The impact of the pandemic on those without an economic safety net and the dramatic increase in the use of foodbanks and other social support networks has raised a question in the minds of many about the redistributive power of our current tax system.

That puts an intense spotlight on the Spring Budget on 3^rd March. With the second wave of the pandemic surging, there were no such moves in the last Spending Review. However there are initial signs that the progress being made with the vaccination programme could allow Rishi to start signalling where tax changes will come.  

2021 could be a revolutionary year for tax policy. Not just due to the consequences of the pandemic - geopolitics and the acceleration of digital working are also driving the need for fundamental change. 

The disruption caused by these factors during 2020 poses three big questions for our tax system:

1. What role can tax play in the UK’s post-COVID-19 economic recovery?
2. What will Brexit and the Biden presidency mean for UK tax policy, and for international tax reform?
3. What does the acceleration of digitisation mean for the tax system?

Come the Spring Budget, all eyes will be on Sunak’s recovery plan. But how much room for manoeuvre will he have?

In theory, the ‘big three’ taxes – Income Tax, National Insurance, and VAT – should be his most powerful levers, as they make up two thirds of the government’s tax take. But the Conservative Party ruled out increasing any of these in their election manifesto pledge. Two areas that have attracted some media speculation are reducing the tax relief for pensions contributions for high earners and bringing national insurance contributions for self-employed individuals in line with those for the employed.

Outside of the ‘big three’ Sunak’s other main options are Capital Gains Tax (CGT) and the taxation of assets more widely, taxes on corporate income and an increased focus on green taxes such as taxing carbon emissions. Whilst there’s no dispute that business rates need an overhaul any reform is unlikely to present short term opportunities to raise additional revenues given the impact the pandemic is having on the main ratepayers.

The government published a consultation last year on the introduction of a Carbon Emissions Tax to replace the UK’s membership of the EU emissions trading scheme following Brexit. The measure only covers around a third of UK emissions and the consultation noted that “to deliver on our net zero commitment by 2050, the Carbon Emissions Tax would need to evolve”. Of course, a fully successful carbon emissions tax should lead to no increased tax take but given the timeframe involved and the scale of the decarbonisation challenge it could raise revenue in the period in which public borrowing levels will need to be reduced.

Asset taxation is a tough one to call. The Wealth Tax Commission concluded just before Christmas that the UK would benefit from a one-off wealth tax on all assets. These are not government proposals and the report is put forward in answer to a question about how a wealth tax could work, rather than addressing the question “should there be one?”, but the analysis does arrive during the backdrop of a government commissioned review of capital taxes by the Office for Tax Simplification. Whilst raising wealth taxes and land taxes isn’t natural Conservative policy, the potential revenue raising capability that the paper quotes will be difficult for politicians to completely ignore.

CGT, by contrast, may be an easier target given the current disparity between its rate compared to that for income tax. I think we can expect an increase in CGT rates, and a reduction in the number of reliefs available. The question is when – is it too soon to take this step without damaging economic recovery. Also, could the Treasury look to protect the reliefs for the entrepreneurship that they hope will lead to enhanced growth by maintaining reliefs related to business activities whilst increasing rates for disposals of more passive forms of ownership?   

Away from domestic policy, two major international issues will have a significant impact on what happens to tax in the UK and further afield: Brexit and the Biden presidency.

As for Brexit, since the free trade agreement was signed in late December there is now a lot of which we can be certain, including a whole raft of new rules for companies moving goods across borders and of course the loss of EU directive benefits on dividends, interest and royalties, cross border mergers and arbitration. It’s hard to generalise about the depth of impact these changes will have on UK based businesses. Depending on your industry and fact pattern this is either be a minor change in compliance requirements or something that forces a fundamental reshaping of the value chain.

Beyond the immediate changes one thing to monitor closely is how the UK reshapes its policy on tax incentives and subsidies. On the one hand we know that the Freeports initiative is getting a lot of airtime – it has been touted by the Prime Minister as a post-Brexit opportunity, and Rishi Sunak has long been a fan of the idea. “Freeports” may well be a wrapper for a wider range of regional or industry-specific incentives that go well beyond trade and customs reliefs and share some similarities with the old enterprise zones or free trade zones in many developing countries.

On the other hand, the Level Playing Field provisions in the agreement alongside the UK’s other international commitments as an OECD member mean it’s hard to see the country diverging too far from European principles any time soon. A small clue to the future may be the news over Christmas that the UK would withdraw from the mandatory disclosure requirements under ATAD (DAC6). While these have (largely) been dropped, in their place we can expect adherence to a wider OECD mandatory disclosure approach instead.

At the same time, we can expect major change to the international tax landscape, with the OECD aiming to reach a consensus on BEPS 2.0 by mid-2021. This leads us to the Biden question.  What will US President-Elect Joe Biden do about tax? And how will that impact UK policy?

Among other proposals, Biden has promised to raise the federal corporation tax rate from 21% 28%. And following the Senate run-off elections in Georgia, he now has the majority he needs – just – to get his economic policies through Congress assuming Democratic and independent lawmakers all back it.

If we do see a Stateside increase, it will be much easier for Sunak to follow suit. We could see the UK rate move to the low or even mid-20s.

Globally and in the UK, tax needs to catch up with the demands of today’s digital world.

The digitisation of business accelerated enormously during the pandemic. Yet Britain’s tax system harks back to a time when touchscreens and videoconferencing were the preserve of Star Trek episodes.

Updating it for the digital era will mean:

1. simplifying the system
2. putting greater emphasis on data, transactions, cash and accounts
3. refreshing the tax base to reflect the fact that business can now be done without borders, and work can be done just about anywhere

While there is a huge amount to do, I believe this will drive real benefits. Much of the “tax gap” exists because tax is complicated, and therefore it is very difficult, particularly for smaller organisations, to get it right first time. The right move towards a simpler system, which is then more systematically executed by technology, will reduce error and inefficiency in all parts of the tax “supply chain”, with benefits for individuals, organisations and the governments ability to redistribute tax revenues to the right social outcomes.

Achieving this will require the government, business community and tax professionals to work closely together so that the result is fit for purpose and helps rebuild the UK economy.