Corporation tax - do US changes end UK’s race to the bottom?

03 May 2017

At around £53 billion a year, corporation tax raises much less for the UK Treasury than income tax (£175 billion), VAT (£143 billion) or National Insurance (£130 billion) [source: Office for Budget Responsibility]. But the headline rate of corporation tax has a totemic significance. When I began my career in taxes, the main rate of corporation tax was an eye-watering 52 per cent. Before the great financial crisis, that had fallen to 28 per cent. It's now 19 per cent and will be cut to 17 per cent in 2020.

The declining rates are not expected to have much impact on the amount of corporation tax collected for two principal reasons: economic growth and the hope that a low rate of tax will encourage overseas businesses to establish themselves in the UK. At least, that's what recent Chancellors of the Exchequer are expecting to see as they consciously try to position UK as having the lowest rate of corporation tax in the G20.

On the face of it, this policy is enormously attractive to companies who pay UK corporation tax. Predictably, however, other members of the G20 have been less enthusiastic, branding the UK policy as harmful tax competition. Other people have expressed concerns that the policy will result in the UK becoming a tax haven with all the unsavoury connotations which go with that. We think these latter concerns are not entirely well-founded as the UK operates high standards of transparency in its tax system and is helping lead the charge on the application of the OECD BEPS initiative.

But let’s return to the policy itself. At a stroke, last week’s announcement of the likely shape of US tax reform clearly identifies that the current 35 per cent US business tax rate (one of the highest in the G20) is to be reduced to 15 per cent. That will undercut the UK and every other country in the G20.

Where does that leave the UK policy on corporation tax rates? Clearly, unless the UK continues the race to the bottom with a reduction to 14 per cent, the slogan ‘the lowest corporation tax rate in the G20’ will have to be quietly buried. The Treasury then has two choices. First, to abandon the slogan while continuing with the move towards an eventual corporation tax rate of 17 per cent. Second, to quit the game and to allow UK corporation tax rates either to stabilise at the current rate of 20 per cent or, having reached 17 per cent, to then drift up again.

Ironically, while future UK policy on corporation tax rates is bound to attract high levels of attention, OBR analysis suggests that the total yield from the tax won't change significantly.

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