I have contributed this piece to a new Class Think Tank publication to mark what is called Fat Cat Day:
Tackling high pay through the tax code
Who pays tax, and how can we design a system where the rich pay their fair share? Richard Murphy proposes some solutions.
A New Proposal
As this report has already made clear, it is now widely accepted that there is a problem with the growing pay disparity within UK business. Unfortunately, efforts to tackle this issue have, to date, largely failed. Corporate governance regulations should not rely on the good will of corporations and new proposals for taxation need to be robust in order to counteract the levels of tax avoidance so common at the upper end of the distribution.
The proposal made in this section does, then, rely upon changes to the corporation tax system to impose an additional tax charge on those employers making payments to employees in excess of 10 times UK median pay in the year. This is at present a sum of £300,000 per annum (we have defined high pay to be a sum approximately ten times UK median pay, which according to the UK Office for National Statistics, was £29,588 in 2018).
The proposal has the objective of making the tax system more progressive by creating an additional tax charge in these cases, and of producing a disincentive to make payments of high salaries.
The proposal works by disallowing a claim for the offset of expenditure in excess of £300,000 per annum incurred when paying any one employee of the company in that company's corporation tax return, so increasing their effective corporation tax liability by 19 per cent of the excess sum paid, at current tax rates.
A range of anti-avoidance measures are discussed in the proposal. The consequences are that this charge will fall very heavily on employers, and so on the owners of capital who will, as a result, have an incentive to reduce income inequality.
If no change in behaviour takes place as a result of this charge it is suggested that a sum of corporation tax of in excess of £4.6 billion per annum would be collected as a result of this proposal. For reasons noted, significant behavioural change is not anticipated.
The proposal is that the cost of all pay to an employee, director or other officer of a company that exceeds £300,000 per annum should be disallowed as an expense when calculating the taxable profits of a company or other entity subject to UK corporation tax.
The stated objectives of this proposal are to:
- Increase the tax payments due as a result of the payment of high salaries;
- Bring pressure to bear to reduce such salaries, and so income inequality as a result.
The effect of disallowing an expense for corporation tax purposes is to increase the taxable profits of a company. As a result, if that company does declare taxable profits an additional sum equivalent to the amount of high pay expenditure disallowed will be subject to corporation tax. The UK corporation tax rate for all companies is 19 per cent at the time of writing in 2018.
A Brief Example
This is a simple example of how the scheme might work. Suppose a company has taxable profits of £1,000,000 and pays one of its employees £500,000 a year. Under the new proposal, only £300,000 of this employee's wage is tax deductible with the remaining £200,000 reclassified as profits and taxable at the rate of corporation tax, which is currently 19 per cent.
Profits would increase as a result to £1,200,000. The tax bill payable by the company, which would have been £190,000 (i.e. 19 per cent of £1,000,000) before the adjustment will increase by £38,000 as a result of the adjustment being made (19 per cent of £200,000). This additional sum would now be payable by the company taking its total corporation tax bill to £228,000.
It should be noted that the employee pays no additional tax as a result of this arrangement. It should also be noted that the company would still have to pay all the PAYE and national insurance that would have been due whether or not the sum of £200,000 was disallowed in its tax computation. In other words, the change is only to the employer's tax bill. Absolutely all other tax bills remain unchanged as a result of this high pay expenditure adjustment which only impacts corporation tax owing.
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Why is it a good thing to bring down the pre-tax income of higher earners?
More pay for them seems to be a good thing if there is a progressive tax system as it brings in more revenue.
Surely if we are worried about inequality it is inequality of post-tax income that matters. More progressive taxation (which you and I would advocate) achieves this aim – isn’t that enough?
Have you followed none of the debate on inequality, and its harmful effects, at all?
I suggest you do
Start with what that hotbed of socialism, the IMF, has to say on the issue and why it needs to be addressed
I really do not need to repeat such stuff here
I’d be interested in links/references to the impact of pre-tax wage inequality in developed countries if you have some.
Anyway, going back to the proposal – do you think that it will change behaviour, or raise revenue? If the latter why not just create a higher tax rate on the earners themselves?
The proposed tax here hits companies who have a) profits and b) a high proportion of workers paid above the threshold.
If all companies in a sector have the same proportion of workers in this category then wouldn’t all just put prices up accordingly? Perhaps they wouldn’t be able to, in which case its a windfall tax on that sector, which might be a good thing.
If some companies in a sector have a higher proportion of such workers then they will be less profitable by comparison as a result. This might have the intended behavioural effect by distorting profits according to proportion of high-paid workers, but it might not do so.
In the football case it wouldn’t affect team who don’t make a profit. Those are probably the ones that drive the ever higher wages. However, it would level the playing field between profit-making teams and those in lower leagues without the higher paid players. Fine for Man City and Mansfield Town but bad for Arsenal.
Would companies just do things like share/swap staff so they both pay them £250k per year and avoid the charge entirely?
Finally, wouldn’t it make sense to phase it in? So 1% of the income of someone earning £100k counts as profit with a gradual increase up to 100% at say 500k? This would reduce distortion worries.
I suggested you start with the IMF. It is really not hard to find. https://www.imf.org/external/np/fad/inequality/
I do think it will change behaviour
That is why I suggested it
Please read the anti-avoidance measures in my paper
As for the rest – it seems you can work out the answers for yourself
The problem with the IMF ‘work’ is that it is all about correlation. They never evaluate policies to reduce inequality to see if they work, but progressives see the correlation and assume that if a policy is intended to treat the patient they can proceed on a large scale without evaluating it.
And yet let’s take the IMF on their own merits “We find that less-regulated labor markets, financial deepening, and technological progress largely explain the rise in market income inequality in our full sample over the last 30 years.” is what they said in 2015. There’s nothing in there about a causal link to insufficient taxation.
I would recommend equality of opportunity such as a SHI health care system which works better both for the young and for outcomes, and removing handouts to the rich ( e.g. tax free winter payments and tax free landowner subsidies ).
Then again, I’m a doctor who cares about the patient, not a progressive political economist.
OK, how do you do statistical research without correlation?
And have you done medicine without changing your mind?
You would collapse the Premier League! Never mind. I take the inequality argument as read. Sorting out ostentatious capitalism is a bigger issue than tax. Deeply ingrained ideology needs to be confronted including the influence of amassed money and notions people worked hard for it.
Won’t this just shift income from the senior staff to the company owners?
How about setting the threshold as a multiple of the median / lowest earners at the company instead?
Yes
I am happy for pension funds to pick up the gain
SHI health care is reviewed here – https://www.who.int/health_financing/documents/shi_w_europe.pdf
Much is said on the systems having inherent structural tension between the socially embedded character of SHI systems, on the onehand, and the specific practical requirements of efficient economics, on the other -which is my wider interest beyond health. Social epidemiology is pretty conclusive on inequality as a health hazard. I’d say inequality also has adverse effects in practical economics and on democratic potential. It is interesting that “democracy” encourages amassed and largely useless accumulations of capital that do harm. Wilkinson and critique around his work is a start here. Progressive tax is clearly a ready-to-hand and partial solution. The elastic of any social contract in general society has snapped. The obscene rents extracted by a tiny few can’t be justified as “earned” or “merited” and the propaganda of meritocracy spits in the face of morality. There’s more than correlation in the body of work on inequality. Simple house calls reveal a great deal.
Noted
Interesting proposals. Let’s expand on the idea to encompass partnership profit shares above 300k, which might bring some of our revered lawyers and accountants into play. And dividends too, where I have often felt reintroducing IIS might be better than the dividend tax rates, countering the NIC avoidance.
Partnership is harder…..
IIS is easy and I have long recommended it
One risk of such a measure would be that it would lead multi national companies to base some high paid workers in other jurisdictions. One could envisage a scenario where a high paid team is moved abroad, an uplifted transfer price is paid by the U.K. co for their services and the U.K. exchequer gets no PAYE, NIC and even less CT!
How would you stop that avoidance?
A targetted anti-avoidance rule disallowing the management fee….
Ah, that’s interesting but potentially complicated depending how the cost is charged to UK. I read your paper and noted the even worse abuses of income disparity in USA compared to UK. If we are going to deny a deduction for British pay coming in through a management charge, why allow it for overseas sourced excessive pay?
Wouldn’t it be consistent and offer a level playing field to British business if we denied excess remuneration as a CT deduction in any element of charge liable to transfer pricing rules?
How much extra CT would that raise, especially with tech cos otherwise difficult to tax.
I think we are on the same hymn sheet in broad terms – except you are extending it to a form of unitary calculation for management fee disallowance
I have no idea how much that would raise – but it would be signfiicant for tech companies
I’m not going to pretend that I fully understand the proposal but my immediate reaction is that it seems to have the potential to be more effective than Labour’s idea of making companies have workers on company Boards!!
I agree Pilgrim, having workers on the boards of companies is a fairly weak proposal. It is neither one thing nor the other. Their influence can easily be ignored. A better proposal would be for the whole work-force (where they so wish) to constitute the board of directors as per the Mondragon Co-operative Corporation in Spain. That would help sort out income inequality. Whilst that may be helpful for each individual enterprise, we would still need overall governance of the community of such businesses. This governance would be necessary to regulate the income distributions where the income levels greatly differ between different companies. This can be done through the good offices of a network of second chambers where each member appoints themselves. We would need to run the economy in real-time, the software and IT infrastructure for this has already been developed at the institutes of Management Cybernetics principally in Europe so it would be no big deal to roll it out in the UK if the government gave it enough wellie. During the Battle of Britain (against the Luftwaffe) and of the Atlantic against the U-boats Britain employed science in the form of Operational Research to gain decisive advantage over the enemy. If Labour inherits a hard Br-exit employing science again to counter the negative consequences may be the best response.
Richard is made of anti-Sherrif-of-Nottingham particles on this form.
Just wondering why you need an anti-avoidance provision to deal with loans because a loan to an employee isn’t tax deductible for corporation tax purposes?
But it can represent pay so best and braces it is required
If a company has one highly paid employee to which this legislation would apply and makes a profit of 10 million before paying the employee 1,000,000 then there are two possible versions …
1) Employee is paid 1,000,000 and the company pays corporation tax on 9,700,000 because 700,000 of the pay can’t be deducted
or
2) Employee is paid 300,000 and given a 700,000 loan in which case the company pays corporation tax purposes on 9,700,000, which is basically the same as (1) above.
Either way the company pays the same amount of corporation tax without any sort of anti-avoidance provision being required.
The only time you might have a slightly different situation is if the loan is written off at a subsequent point. If that occurs the company would then normally get corporation tax relief and the employee would be taxed on it as pay at that point. Of course the employee would then have paid more tax on it because they would have paid benefit in kind charges as well as .tax on the amount of the loan, so it wouldn’t be great for the employee.
Incidentally I suspect the lifetime allowances that already exist would greatly restrict the scope for using pension contributions in anything but the very short term.
I am happy for the anti-avoidance charge on a loan to reverse on repayment: that’s a well known routine already
I would suggest the April 2019 Loan Charge, working alongside Part 7a ITEPA03 provides a fairly robust framework for dealing with “loans” already.
HMRC will recategorise disguised remuneration and charge it to tax. That would usually mean allowing a CT deduction for the amount being charged to PAYE/NICs… this proposal would limit that relief to £300K per employee.
Fair enough 🙂
Fair enough….
I’m not sure what Labour means on worker directors. Does anyone know if it is like the German Codetermination Act (1976) requiring 50% worker directors in firms bigger than 2000 employees? The Chair still has a casting vote, though with important exceptions. Good paper here from Manchester BS -https://onlinelibrary.wiley.com/doi/pdf/10.1111/fima.12181 My guess is Germany has been beating the UK hands down partly to do with Worker Councils etc. rather than being held back.
They’re fairly clear
I am unconvinced
Labour needs more robust thinking
The thinkers are available
Labour has to overcome its tribalism
Only tangentially related, but there was really good Paul Krugman article in the New York Times on “soaking the rich” – recommends a top income tax rate of 73% based on the Diamond/Saez research in the US. https://www.nytimes.com/2019/01/05/opinion/alexandria-ocasio-cortez-tax-policy-dance.html
Excellent Howard
A blog in the morning
Thanks….