Unlike recent fiscal events, this Autumn Statement largely focused on those on lower incomes, with an absence of measures specifically aimed at higher and additional rate…
As you would expect, I’m being asked what businesses might expect from Jeremy Hunt on 15 March. I think there might be a significant announcement about tax relief for capital investment that could impact on many of our clients. In order to justify my prediction, I will start by looking back over the last two years.
Sunak’s plan for corporation tax and business investment
In his March 2021 Budget, Rishi Sunak, then Chancellor of the Exchequer, announced an increase in the rate of corporation tax to 25%. In his speech, he said that he was “introducing some crucial protections”. These were:
- “this new higher rate won’t take effect until April 2023, well after the point when the OBR expected the economy to have recovered”
- “I’m protecting small businesses with profits of £50,000 or less, by creating a Small Profits Rate, maintained at the current rate of 19%”
- “we will introduce a taper above £50,000, so that only businesses with profits of a quarter of a million or greater will be taxed at the full 25% rate”
He then went on to say: “We need an investment-led recovery. So today I can announce the Super Deduction. For the next two years, when companies invest, they can reduce their taxable profits not just by a proportion of the cost of that investment, as they do now, or even by 100% of their cost, the so-called full expensing some have called for – with the Super Deduction they can now reduce their taxable profits by 130% of the cost.”
A year later, in his March 2022 Budget, Rishi Sunak introduced his “Tax Plan”, which included the following statements:
- “We introduced the Super Deduction in 2021 – the biggest two-year business tax cut in modern British history – to encourage firms to invest in productivity-enhancing assets that will help them grow”
- “We’re going to cut and reform taxes on business investment. We want to build on the momentum of the Super Deduction to drive business investment”
- “The challenge now is to find the most effective way to cut taxes on investment while ensuring value for the taxpayer. We will engage with businesses and confirm plans at the Budget later this year”
What options were being considered?
This was followed by an HM Treasury consultation document on 9 May 2022, which asked for responses by 1 July 2022. This document set out the options in further detail, which included:
- increasing the permanent level of the Annual Investment Allowance
- increasing the rates of Writing Down Allowances
- introducing general First-Year Allowances (FYAs) for qualifying expenditure on plant and machinery
- introducing an additional FYA
- introducing permanent full expensing
While some business organisations have called for full expensing to be introduced following the Super Deduction, this could cost over £11 billion a year.
Headline vs effective corporation tax rates: an historical policy perspective
In considering the increase in corporation tax, it is important to distinguish between the headline rate of corporation tax and the effective rate. Whilst much of the talk is about the increase in the headline rate to 25%, it is the effective rate that really matters. The effective rate is the actual tax rate on profits as opposed to the statutory rate, which is only part of the calculation. As you are probably well aware, depreciation in accounts is not tax deductible and instead a specific tax regime for capital expenditure exists – as well as enhanced tax relief on certain expenditure such as R&D – and other expenditure, such as entertainment, is not tax deductible.
Much has been made of the reduction in corporation tax rate from 52% to 19% in the early 1980s. Whilst the headline rate of corporation tax until 1982 was 52%, that doesn’t mean that is what companies were actually paying. This is because first year allowances for plant and machinery expenditure and initial allowances on industrial building expenditure were commonplace. My recollection, which may be unreliable, is that by 1982, the deferred tax creditor of Thorn EMI was bigger than its market capitalisation, or maybe just its net assets. The point was that the government was considered to be quasi-nationalising companies by becoming their biggest owner through imposing high taxes which would only be payable in the future. This was seen by those wanting reform as damaging the capitalist economy and creating some feudal-like debt obligation to an overlord.
Over the next 30 years or so, Geoffrey Howe, Nigel Lawson, Kenneth Clarke, Gordon Brown, Alistair Darling and George Osborne cut the headline rate of corporation tax, but also cut tax relief rates for capital expenditure even more. Possibly this change went too far. My memory of advising businesses in the mid-1990s is of an investment-led economic recovery. The headline rate of corporation tax was still high compared to recent years, but companies were getting first year allowances, a higher rate of writing down allowances on all expenditure and initial allowances on industrial buildings. Capital expenditure seriously cut a company’s tax bill.
The distinction between headline and effective tax rates is not just an academic point. The tax burden is economically different. By cutting capital expenditure allowances at the same time as the headline tax rate, financial businesses and service sector companies were favoured at the expense of manufacturing and industrial companies. So, there are political choices, as there always are in tax.
Where are we now?
On 5 July 2022, Rishi Sunak resigned as Chancellor of the Exchequer and a rather chaotic period followed. As set out above, the plan was to introduce improved tax relief on capital expenditure last autumn, but it never happened. So instead, we are now approaching the increase in the corporation tax rate in April 2023 and nothing has happened. The Super Deduction, which was a stop-gap, is now also coming to an end.
In the absence of change, once the Super Deduction goes, the tax system will allow full expensing up to £1 million a year for a group, and above that level, typical plant and machinery is relieved at 18% on a reducing balance basis, but long-life assets only get relief at 6% a year. Expenditure on buildings is relieved at 3% a year on a straight line basis. This regime delivers a low effective corporation tax rate for smaller companies and for recurring routine capital expenditure levels – but it doesn’t encourage big capital expenditure on major long term projects.
So what might we get in this Budget?
The government has come under pressure from some in the Conservative party, and others, not to increase corporation tax. I don’t believe that is going to happen. However, it seems inconceivable to me that the Prime Minister will want the increase in corporation tax to kick-in without an increase in tax relief on capital expenditure at the same time. It is much harder to say, though, precisely what form that improved tax relief will take.
What Rishi Sunak was announcing in 2021 was a change in political direction, and potentially a re-balancing of support for industry at the expense of the City, but the crucial element is how any enhancement in tax relief is implemented. That still seems unclear. One recent newspaper column suggested that there will be no decision on this key aspect of economic strategy until the next election, with it being central to a Conservative party manifesto. In the interim, what we would get is another temporary measure.
The Super Deduction was only ever meant to be temporary and was designed to stop expenditure being deferred to benefit from a higher rate of tax relief. Perhaps Jeremy Hunt will announce an extension of the Super Deduction, although there have been indications that there isn’t enough money in the kitty at the moment for that. Full expensing, perhaps limited to expenditure with more green credentials, seems a very possible option for the next couple of years – back to a 100% first year allowance in 1982 language. There aren’t really any new policies on offer, just political choices.
John will be sharing his thoughts following the Budget in a webinar at 12pm on Thursday 16 March – you can register here.