The Office for tax Simplification is undertaking a review of small business taxation.
I have submitted to them an updated version of a paper I first wrote in 2007 in the light of the so-called ‘Arctic Systems’ decision. The paper is here.
In it I argue that there should be:
1. A change in company law to allow the re-registration of small limited companies as LLPs. An LLP is tax transparent: its income is taxed as if it belongs to its members even though it is a legal entity that is separate from them for contractual purposes;
2. The introduction of new capital requirements for the incorporation of limited companies undertaking trades, and over time forced re-registration of those that do not meet that standard as LLPs;
3. The introduction of a new investment income surcharge at rates broadly equivalent to national insurance charges that would have the benefit of reducing the incentive to split income, restore the taxation balance between income earned from all sources and allow a reduction in the base rate of income tax without adding substantially to the burden of administration for taxpayers since those liable will, in the vast majority of cases, already be submitting tax returns;
4. New, economically justifiable and verifiable standards for splitting income in LLPs so that the risk of legal challenge to such arrangements will be substantially reduced whilst recognising the significant role that the partners of those who supply their services through owner managed corporate entities play in the undertaking of that activity.
I then argue that if this were done then:
a. The administrative burdens for many small businesses would be reduced;
b. The certainty of the arrangements under which they can operate would be increased;
c. The rewards that they rightly seek to pay to those who contribute to the management of these companies from within domestic relationships will be rewarded, but within appropriate constraints;
d. The attraction of freelance status in tax terms would be retained;
e. The current injustice that sees income from labour more heavily taxed in the UK than income from capital would be eliminated in large part without prejudicing the required favoured status of pensioners;
f. The incentives for tax planning would be reduced, so simplifying tax administration;
g. The tax yield might either rise, or a reduction in the tax rate might result.
The challenge in creating such a system is significant because it requires cooperation across government departments, but far from insurmountable. It is part of the challenge of creating an enterprise culture that meets the needs of the UK in the 21st century, and that is a challenge that any government needs to meet.
I am well aware that this paper was well received in HMRC and HM Treasury when submitted in 2007.
Will the Office for Tax Simplification have the courage to deliver on the promise it offers that is entirely consistent with its mandate?
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“I am well aware that this paper was well received in HMRC and HM Treasury when submitted in 2007.”
Did Labour implement any of your suggestions?
@vi__sa
No
It gave up on the task when the banks broke the economy
In response to your points:
1) I fail to see how allowing a US-style “check the box” election will make the tax world simpler. Fairer, perhaps, but it will be another layer of bureaucracy to deal with and won’t be much easier for users – they’ll still have to file accounts, prepare separate accounts for tax purposes, etc.
2) Introducing a minimum capital requirement will simply allow the wealthy the choice as to whether or not they want two layers of taxation. Those who can’t afford the capital requirements will have to be LLPs whereas the rich can pick whichever gives them the lowest tax cost. Doesn’t seem fair to me.
3) I agree we need to end the absurd situation of earned income being subject to higher rates of tax than unearned income. I personally would scrap NIC and increase income tax rates to compensate, simply on the basis it’s less complicated once it’s up and running. Your method would be easier to implement but more complex in practice.
4) This sounds simple in theory, but the Treasury tried this once and came up with obscenely complicated rules which even they could not legislate for. Again, this is fairer but not simpler in my view.
Hi Richard,
Since an LLP is transparent for tax purposes, if the members are all non-UK resident individuals or corporations, does this mean no tax on profits of the LLP are paid in the UK?
@Noel Scoper
No, not at all. A withholding tax on non-resident members would be necessary. This, I suggest, would be charged at the mainstream corporation tax rate
@Noel Scoper
I mean, is it the case the non-resident members get the profit tax free at this time?
@Noel Scoper
yes – that can be the case
@Richard Murphy
Hang on a sec, not sure this is right! If its a trading LLP and there is a “permanent establishment” in the UK, the fact that the members are offshore doesn’t matter – the profits are earned here so they should be taxed here.
If it’s an investment LLP then the same rules apply as if the assets were held directly – WHT on things like interest and rents, tax free divs and capital gains. It’s not a particularly clever structure in tax terms. Even if you are a *gasp* tax evader, then you wouldn’t pick an LLP because it has to file UK accounts and a UK tax return.
@Adam
Sure
But a UK LLP can also be untaxed
And who checks whether it files accounts?
£10 and it’s struck off on request