Tax reliefs report: fundamental part of wider debate

• Report: Tax reliefs
• Report: Tax reliefs (PDF 168KB)
• Inquiry: Tax reliefs and their administration
• Public Accounts Committee

The Rt Hon Margaret Hodge MP, Chair of the Committee of Public Accounts, today said:

"This report on tax reliefs is a fundamental part of the wider debate on taxation. We have 1,128 different tax reliefs in the UK, creating a very complex tax system.

Within these, the Government spends £100 billion every year on reliefs designed to encourage behavioural change, whether promoting jobs and growth, or investment in the arts.

Whilst well-intentioned, every one of these tax reliefs creates opportunities for avoidance and evasion.

The example of film tax relief highlights how the tax avoidance industry has exploited loopholes in legislation to devise and sell aggressive avoidance schemes.

The European Commission and OECD are currently considering whether the Government’s Patent Box tax relief designed to encourage innovation in fact constitutes a 'harmful tax practice'.

Government made a commitment to simplify the tax system and established the very welcome Office for Tax Simplification. However, whilst the Government has so far abolished 43 tax reliefs, another 134 have been introduced since 2011.

Much more radical simplification of the tax system is required if we are to get to grips with aggressive tax avoidance.

Reliefs, such as the late night taxi relief, which ended up benefitting big law and accountancy firms rather than shift workers on low incomes, appear difficult to justify.

If Government chooses to spend £100 billion on tax reliefs, at a time of austerity, this expenditure should be considered in the same way as spending programmes. Many tax reliefs are introduced without clear objectives and are not evaluated as fully.

Departments need to demonstrate the case for introducing new reliefs, as opposed to other options such as direct grants. It must monitor them systematically to ensure they are achieving Government’s stated objectives, rather than after risks emerge.

Government also needs to ensure there are appropriate disincentives and sanctions in the system to inhibit advisers from promoting aggressive tax avoidance schemes."

Margaret Hodge was speaking as the Committee published its 3rd Report of this Session which, on the basis of evidence from Sir Nicholas Macpherson, Permanent Secretary, HM Treasury and Lin Homer, Permanent Secretary and Chief Executive, HM Revenue and Customs, examined tax reliefs.

Tax reliefs are a substantial, complex and poorly managed element of the tax system. HM Treasury and HM Revenue & Customs (the Departments) are accountable to Parliament for providing timely feedback on what reliefs cost, and whether they deliver Parliament’s intent. Complexity in the tax system is a longstanding issue, but the Departments appear not to have been able to cope with the growing demands of managing increasing numbers of tax reliefs. They are uncertain about the scale and value of different types of relief—including which reliefs should be treated as "tax expenditures" (reliefs to encourage behavioural change). The tax expenditures in the UK tax system are estimated to cost over £100 billion per annum. With the breadth, number and tax complexity of reliefs HMRC cannot be fully vigilant and knowledgeable about the cost and value of reliefs. The case of film tax relief highlights how a minor, but poorly designed, relief eventually cost the exchequer over £2 billion. The Departments were slow to respond and did not bring the surge in costs to the attention of Parliament. We look to the Departments to set out clear proposals on how to improve the management and accountability to Parliament of the cost and performance of tax reliefs.

Conclusions

At the end of 2013 there were 1,128 tax reliefs in the UK and the number continues to grow. Tax reliefs can range from fundamental components of the tax system, such as the level of personal allowance, to tax expenditures with more specific objectives to change behaviour, such as film tax relief. HM Revenue & Customs (HMRC) estimates there may be 150 tax expenditures overall, across its tax streams. Parliamentary approval through the Finance Bill is not a sufficiently robust way to provide assurance that tax reliefs are working as intended. Too often, tax reliefs provide opportunities for abuse, avoidance and evasion and there is a risk that costs might rise and remain above expectations, as Parliament is not kept adequately informed of changes in their costs. In this initial review of tax reliefs, we have identified the areas of concern. In future work, we plan to look at how the Departments have addressed the concerns we have highlighted in this report.

There is a lack of transparency and accountability for tax reliefs and no adequate system of control, following their introduction. HMRC and HM Treasury share responsibility for tax reliefs, but there is no accounting officer with responsibility for the stewardship of tax reliefs, as there would be for public spending. In 2010, HM Treasury committed to developing a framework for the introduction of new reliefs, recognising that it should consider new reliefs carefully, and that these should only be introduced when there is a strong and proven case. But it has not done so. Without a clear framework, or adequate definitions to distinguish between different types of reliefs, it is not possible to categorise reliefs effectively, and to understand how they should be managed.

Tax expenditures are often alternatives to spending programmes, but are not managed or evaluated as closely. Tax expenditures are reliefs introduced to support certain behaviours. They are, in effect, a form of public expenditure and should be treated as such. HMRC is not clear which reliefs fall within the category 'tax expenditure'. Unlike spending programmes, many tax expenditures are introduced without clear objectives, and are not evaluated as fully. The Departments do not carry out options appraisals for all reliefs, and evaluations are undertaken after risks emerge, rather than systemically. They have estimated the value of only 46 of the around 150 tax expenditures. Smaller reliefs, in particular, receive less evaluation. Spending programmes require departments to abide by the rules of Managing Public Money, but HMRC and HM Treasury are not subject to similar rules for their management of tax expenditures.

Parliament not adequately informed

The Departments do not keep Parliament adequately informed of changes in the costs of reliefs. Parliament approves the introduction of new reliefs, and relies on accurate advice from the Departments for it to make informed decisions. HMRC publishes online annual estimates of the cost of only 180 tax reliefs. However, there is no feedback mechanism to alert Parliament, when the actual cost of tax reliefs varies from HM Treasury’s original forecasts, on which Parliament based its enactment and amendment of reliefs.

The Departments are unable to cope with the demands of an increasingly complex tax system, including tax reliefs. Tax revenues as a proportion of GDP remain stable over time but the tax code becomes more complex year on year. In March 2011, the Office of Tax Simplification reviewed 155 reliefs, and recommended that 47 should be abolished. While this led to the removal of 43 of these reliefs, a further 134 new reliefs have been introduced since 2011. Each new relief complicates the tax system, and increases the length and complexity of British tax law. It is unclear whether the impact of particular tax reliefs on tax revenue streams is properly considered, for instance the impact of agricultural property and business property reliefs on overall inheritance tax revenue. To accommodate new legislation, and anticipate the actions of avoiders, Finance Bills are four- to five-times longer than 50 years ago. HMRC has a considerable workload, with a huge backlog of cases outstanding in the tribunal, 43,000 of which will receive a notice to pay under new accelerated provisions. HMRC is looking to improve its systems, as these are not sufficiently adept at obtaining relevant information promptly from its customers.

The Departments do not respond promptly to unexpected increases in the costs of tax reliefs. Data on movements in the cost of reliefs is not available until tax returns are received, and HMRC takes time to react when it notices a cost increase, as it wants to ensure its response is appropriate. However, a longer elapsed time in reacting to an increase in the cost of a tax relief raises the total amount of public money at risk. In the case of film tax relief, it took ten years to resolve the problems and cost over £2 billion. We welcome the introduction of the Disclosure of Tax Avoidance Schemes (DOTAS) system which provides richer information on avoidance schemes, and allows HMRC to take more immediate action to close legal loopholes. We would question whether there are sufficient appropriate disincentives and sanctions in the system to inhibit advisers from promoting aggressive tax avoidance schemes. The National Audit Office identified 26 tax reliefs which had increased in cost by more than 50% in real-terms in the past ten years, and 30 that had increased in cost by more than 25% in real-terms in the past five years. HMRC told us some of the reliefs which the National Audit Office had identified were small, and it carried out less monitoring of these. However in terms of public spending programmes these figures are substantial.

Future work

In future work we plan to look at how the Departments have addressed the above concerns, in particular, what they have done to:

• Define and establish clear accountabilities, and deliver on commitments to develop and introduce a framework for effective assessment, management and reporting of tax reliefs.
• Provide proportionate feedback, and analysis to Parliament, on the costs of principal tax reliefs each year, including significant changes in costs.
• Define which reliefs are tax expenditures, and improve the management, evaluation and reporting on the performance of tax expenditures to Parliament.
• Report regularly to Parliament on the development of new tax avoidance products and the action being taken to mitigate their impact.
• Develop stronger checks and balances, to guard against the increasing complexity which is created by adding continually more reliefs.
• Dedicate sufficient resources to implement the policy, to simplify the tax system. Analyse and report clearly why the cost increases identified have occurred.

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