Rates of tax on dividend income, and abolition of dividend tax credits etc

Finance Bill – in a Public Bill Committee at 12:15 pm on 30th June 2016.

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Photo of Roger Mullin Roger Mullin Shadow SNP Spokesperson (Treasury) 12:15 pm, 30th June 2016

I beg to move amendment 4, in clause 5, page 8, line 28, at end add—

“(12) The Chancellor of the Exchequer shall commission a review of how the changes to the tax on dividend income implemented by this Act affect directors of micro-business companies, to include—

(a) the impacts across the distribution of directors’ net income;

(b) whether company failure rates have been affected; and

(c) whether the law could be amended to minimise the impact on directors with low income.

(13) The Chancellor shall report to Parliament about his findings within six months of the passing of this Act.”

With this it will be convenient to discuss the following:

Clause stand part.

Government amendments 127 to 133.

That schedule 1 be the First schedule to the Bill.

Photo of Roger Mullin Roger Mullin Shadow SNP Spokesperson (Treasury)

I have been very co-operative thus far, but we now come to an amendment that we feel very strongly about. Sir Roger, I need some advice on matters of procedure. We have very recently become aware of further information that we want to explore, so we will probably want to return to this amendment on Report, rather than fully deal with it here.

In that case, let me advise the hon. Gentleman that, although it is perfectly proper to debate the amendment now, if he wants to return to it on Report he will need to withdraw it. If it is voted on here, the likelihood is that the Chairman of Ways and Means—it is not in my gift—will not select it for further debate. The trick is to talk about it now, withdraw it and see whether you can get a second bite of the cherry.

Photo of Roger Mullin Roger Mullin Shadow SNP Spokesperson (Treasury)

I am indebted to you once again, Sir Roger, for your very helpful explanations of the wonderful procedures of this House.

Let me explain, rather more briefly, precisely what our concerns are. Our concerns are predominantly about the effect that the clause will have on microbusinesses—businesses that employ between one and nine people. I was really surprised to find out that HMRC does not model for different sizes of businesses in this area. I believe it has confirmed that in discussions. According to research that has been done by accountancy companies such as Crunch, there will be harm, or potential disbenefits, to some people who get very modest incomes indeed from running very small businesses. We want to ensure that, in encouraging proper taxation and an entrepreneurial climate, we do not unwittingly, through unintended consequences, put at hazard very new microbusinesses that are earning very modest sums of money indeed.

As I said, information is coming our way that we would like to explore further and do modelling on, so our intention is to withdraw the amendment and return to it on Report. I will leave my comments there.

The withdrawal will come at the appropriate moment. [Interruption.] He really cannot have it all ways. For the moment, the question is that the amendment be made. It is even possible that another Member might wish to move it.

Photo of Rob Marris Rob Marris Shadow Minister (Treasury)

If we are debating clause stand part, I have some remarks to make. As the hon. Member for Kirkcaldy and Cowdenbeath said, clause 5 will have potential effects on microbusinesses, which are referred to in the soon-to-be-withdrawn amendment. I have had a meeting with Jason Kitcat, who is a microbusiness ambassador for Crunch. I think the Minister is aware of that gentleman. My hon. Friend Peter Kyle has met him, as has Caroline Lucas, because his business is in Brighton. He is a very persuasive individual. He is concerned about the effects of this measure on microbusinesses. People who are running a successful microbusiness and who have an income of that kind of level would see a much greater drop than those who are further up the income scale. I am not an accountant, but Mr Kitcat’s analysis is that the proposals in clause 5 and schedule 1 are regressive. If that is the case, it is worrying.

As I understand it, that is also the position of the Federation of Small Businesses. Its submission to the Economic Affairs Finance Bill Sub-Committee in the other place stated that these measures had

“caused substantial disquiet amongst FSB members. This is especially acute from members on modest incomes who, unlike their employed counterparts, will now see a rise in their tax liabilities. Despite these impacts, FSB is yet to see the distributional analysis work and we understand that unlike with previous Budgets, this information will not be released.”

There is a broader point here, to which the Library research helpfully draws attention, about changes in the way the Government release information about the distributional analysis of impacts of Budgets. For this Chancellor’s first Budget in June 2010, the coalition Government published the distribution analysis of its projected impact. That approach from the Treasury has changed. There is a new analytical framework that uses different metrics, which is troubling because it discloses less information than the old methodology.

I hope that, in response, the Minister will comment on the possible effects on microbusinesses, particularly the apparently regressive nature of this measure, and will allay the concerns of the Federation of Small Businesses.

Photo of David Gauke David Gauke The Financial Secretary to the Treasury

Clause 5 and schedule 1 make changes to the taxation of dividends by abolishing the dividend tax credit and introducing a new £5,000 tax-free dividend allowance. They will also set the tax rates charged on dividend income above the dividend allowance at 7.5% for dividend income within the basic rate band, 32.5% for dividend income within the higher rate band, and 38.1% for dividend income within the additional rate band. The dividend trust rate will also be increased to 38.1% and so will continue to mirror the highest rate of dividend tax. These changes will raise more than £2.5 billion a year by the end of this Parliament. As well as helping to reduce the deficit, these reforms have enabled the Government to reduce corporation tax by addressing the growing incentive for individuals to incorporate in order to lower their tax bill.

The reforms also offer much-needed simplification to an outdated, opaque and complex system. The current system of tax credits on dividends is a legacy from the days of advance corporation tax, which some Members may remember. That system was designed more than 40 years ago, when corporation tax was more than 50% and the total tax bill on dividends for some people was more than 80%. Tax rates have fallen significantly since then and advance corporation tax has been abolished. Since the dividend tax credit was made non-payable, leaving it as a notional tax credit for use only in tax computations, it has been an outdated and complex feature of the tax system. The Government, along with the Office of Tax Simplification, have worked hard to simplify the tax code across a wide range of areas, and we will continue to do so over the remainder of this Parliament. Clause 5 forms part of that agenda.

The reforms enacted by clause 5 also play their part in the Government’s long-term economic plan. Since 2010 the Government have presided over significant reductions in corporation tax in order to support investment and growth. That is a central part of the Government’s economic strategy. The strategy is working: 2.25 million jobs have been created by the private sector since 2010. Overall, cuts to corporation tax delivered since 2010 will be worth almost £15 billion a year to business by the end of this Parliament.

However, lowering corporation tax does increase the incentive for people to incorporate and remunerate themselves through dividends rather than salary. That behaviour already creates a significant cost to the Exchequer. The Office for Budget Responsibility estimates that new incorporations will cost an additional £2.4 billion a year by the end of the Parliament. Without these changes to dividend tax, the OBR estimates that the cost of the new incorporations will be nearly £800 million higher a year by 2020, making these reforms an important part of this Government’s fiscal plan to reduce the deficit.

Clause 5 will spell the end of the dividend tax credit, replacing it with a much simpler tax-free dividend allowance. In practice, that means that, beyond that allowance, the headline rates of dividend tax will be the rates of tax that are actually paid. Clause 5 will also set the dividend tax rates, as outlined in my introduction, and schedule 1 will make consequential amendments required to introduce these changes.

As a result of these changes, around one million individuals will benefit from a tax reduction on their dividend income and 95% of all taxpayers will either gain or be unaffected. The new £5,000 dividend allowance will protect ordinary investors, meaning that only those with significant amounts invested in shares, or who take a significant part of their income as dividends, will pay more tax.

The Government have tabled seven amendments to schedule 1. The amendments result from technical oversights during the drafting process and will not materially affect the measure. Amendment 127 will stop tax being treated as paid on certain types of income received on shares held in an estate. That will align the taxation of that income with other taxpayers and other types of income received by the estate. Beneficiaries will be given a credit for the tax relief paid on their income. Overall, the change will not increase the tax that is due.

Amendment 128 will ensure that all company distributions received by members of partnerships will continue to be taxed on the tax year basis, rather than by reference to the partnership’s accounting period. That will provide consistency of treatment for all partnerships receiving that type of income, and remove the need for more complicated transitional rules.

Amendment 130 will ensure that the beneficiary of a trust receives full credit for all the tax already paid by the trustee. That will prevent income being taxed twice. Amendments 129, 131 and 133 are consequential amendments following those first three changes.

Amendment 4 would require the Chancellor to report to Parliament on the impact of the dividend tax reforms on the incomes of directors of microbusinesses within six months of the passing of the Bill. That would require information from the self-assessment process that would not be available until 2018, so the amendment would be impossible to deliver in practice.

More fundamentally, small company owners have benefited from a range of recent tax changes made by the Government, including, for example, cuts to corporation tax and business rates, and the introduction of the employment allowance. The Government therefore believe that it would paint only a partial picture to examine just the impact of the dividend tax changes. Of course, the Government keep all tax policy under review and assess its impact on an ongoing basis.

It is customary at this point for me to try to urge the hon. Member for Kirkcaldy and Cowdenbeath to withdraw his amendment. Perhaps on this occasion I should not urge him to withdraw the amendment but urge the Committee to reject his amendment. That is very much in his hands.

I will briefly pick up a couple of points made by hon. Members. I was asked why we have not undertaken a full assessment of the impact on owners of microbusinesses. I would just point out HMRC does not have ready access to data on owners of microbusinesses as a specific group of firms to enable a separate assessment for this group in advance of the measure taking effect. However, the Government have considered the general economic impact of the changes. As the tax information impact note sets out, the measure is not expected to have any significant macroeconomic impacts.

Photo of David Gauke David Gauke The Financial Secretary to the Treasury

I will give way, but I hope the Committee will forgive me if I remain standing, to save me any difficulties with sitting down and standing up more often than I need to.

Photo of Ruth Cadbury Ruth Cadbury Labour, Brentford and Isleworth

It is a pleasure to serve under your chairmanship, Sir Roger. I certainly do not want to cause the Minister any further pain; I sympathise with him about the state of his back.

Many people in my constituency run microbusinesses. I am pleased to hear that the Minister and his advisers do not believe that the measure will have any fiscal impact. However, I am concerned, and I look forward to hearing from him about the likely impact on the behaviour and choices of people running microbusinesses. We all want those businesses to succeed and thrive, and to move on to employ more people. I hope that the Treasury is doing research and is taking advice from organisations such as the Federation of Small Businesses.

Photo of David Gauke David Gauke The Financial Secretary to the Treasury 12:30 pm, 30th June 2016

I am grateful for the hon. Lady’s concern about my back, which is appreciated.

I want to reiterate a point I made earlier, which is that one behavioural impact of the current tax system is that it tends to encourage people to incorporate. The tax system tends to favour incorporated microbusinesses over those that are unincorporated. It is not obvious that that should happen.

The other point, of course, is that we continue to be engaged with organisations such as the FSB, and the Government have done a lot to support microbusinesses. However, one behavioural effect in the light of what has happened with corporation tax reductions, which I strongly defend, is that people who otherwise would not incorporate have been doing so. Often they face burdens and form-filling that they probably do not want, but they incorporate for an understandable reason: to take advantage of a more beneficial tax regime. However, I think that we should seek to rebalance that, if I may put it that way.

I, too, have met Jason Kitcat of Crunch Accounting. We have looked at his analysis and there are some complicated issues with regard to the impact of the changes. However, I reiterate that the dividend tax remains progressive overall. Those with higher incomes will pay more tax on their dividends than those on lower incomes. Achieving a perfectly smooth result would require a more complex system, and that is why we have not gone down that route. However, we continue to be engaged. I hope that I have provided the Committee with some reassurance.

Photo of Roger Mullin Roger Mullin Shadow SNP Spokesperson (Treasury)

I thank the Minister for his comments, some of which have been helpful, although they have not fully persuaded me that the Government have fully thought through the impact on microbusinesses. There are many reasons why very small business operators might choose to move from being unincorporated to being incorporated. For example, if such businesses have wide seasonal fluctuations in income, it is one way of adapting their way of taking income out of the business—without having to take out a regular income in the traditional way. That is only one of many reasons why a company might make that decision.

I am grateful to the Minister for his explanation. Although I shall withdraw the amendment, I intend to return to the matter on Report. I beg to ask leave to withdraw the amendment.

Amendment, by leave, withdrawn.

Clause 5 ordered to stand part of the Bill.

Schedule 1