As I mentioned yesterday, in my book ‘The Joy of Tax' I argued that tax was the single best instrument available to any government to shape the society for which it was responsible.
And the fact is that any incoming progressive government will face massive social challenges. Leaving aside green issues, the biggest of these will be the income and wealth inequality that is crippling our society and leaving many in poverty. We need tax policies to help tackle these. This is the second in a series on that theme, and suggests higher taxes on income derived from capital.
Make the UK main corporation tax rate 25% with a small company rate 20%
The current UK corporation tax rate is 19%. It is planned to reduce to 17% in 2020. This rate is well below the Organisation for Economic Cooperation and Development and European Union averages, which are both around 25% when broadly equivalent countries are considered. It is also less than the basic income tax rate of 20%. This low tax rate creates a number of perverse incentives. First, it encourages the diversion of any income into a company to save tax. No tax system should undermine itself in this way. Secondly, it encourages increasing wealth inequality as those with wealth can let it accumulate at low tax rates. Third, it reduces the impact of fiscal policy as tax incentives and allowances have limited value. Most importantly though, there is no evidence that the reduction in UK corporation tax rates has encouraged investment or job creation, and business appears unenthused by such low rates. A main corporation tax rate at the OECD average does then make sense. If it was thought necessary, a small company rate set at the same rate as the basic rate of income tax would help remove many incentives to tax avoidance.
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I’d like to see a tax incentive for real worker managed/owned organisations and maybe for companies that have low real pay ratios (including outsourced/contact workers like cleaners) over prioritizing “small” companies as quite a few can be small whilst still being exploitative.
I’ll think about it….
The tax policies and thresholds you state are they being promoted to the audience of this blog or are you creating them as a cornerstone for policy, if yes then who for?
I am simply floating ideas
That’s how change happens
Probably need a taper between large and small companies’ rates(?) or there is a risk of producing perverse incentives restricting growth of smaller businesses or ‘tax efficient’ fragmentation (?)
Perhaps depends on where the large- and small-business threshold is (?)
There are such arrangements in law for that situation
A taper on the VAT threshold would be helpful as well. Having a turnover that is close to the £85k threshold is necessary for me ( considering unavoidable expenses like business rates and stock acquisition) to make a modest living. However this means `living on the edge` and just a couple of extra sales accepted without checking could send me over the limit: result – have to increase prices by around 10% immediately or lose about half my income. Hard limits are always a problem in any field which should by right be a continuum.
I agree….
VAT is a massive issue I have not, as yet, got an answer to
“First, it encourages the diversion of any income into a company to save tax. ”
How does diverting any income into a company avoid or “save” any tax?
As soon as it goes into the company you have to pay corporation tax, then to get it out of the company you are going to be subject to either income or capital gains taxes.
I think you really do need to learn some tax law
Really? Is that the best you’ve got?
I have pointed out an obvious flaw in your argument, and you have come back with an insult – and it is pretty obvious that you have made a mistake.
Companies only pay corporation tax on profits. To get money out of the company there are really only two main ways – as income or as a dividend. Both are taxed and taxable.
You do it yourself in your own LLP. You withdraw all the profits every year to prevent them being taxed firstly via corporation tax, then secondly as income or capital gains.
Of course, if you are such an expert it will be easy for you to explain how a company can save tax by leaving retained profits within the company, when to get that money out more tax would have to be paid.
If you do not know the difference between an LLP and a company then you very clearly do not know what you are talking about
And it’s not my job to educate you
Gotcha.
So you are using an LLP to avoid corporation tax then?
Or are you seriously trying to tell me that if you had set up Tax Research as an Ltd. you would be paying corporation tax first, before you paid out all the profits as salary or dividends?
If you don’t pay corporation taxes and have made sure you avoid them, why should anyone else pay them?
You can’t avoid corporation tax with an LLP
Corporation tax cannot be paid by an LLP
Please stop wasting my time
You can avoid paying corporation tax by setting up your business as an LLP, not a company though.
Which is exactly what you did.
And you are avoiding the real question I asked you. If you had set up Tax Research as an Ltd rather than an LLP would you pay corporation taxes before or after you have paid out the profits (which there seem to be plenty of) to yourself.
Oh, and I assume you are also using the LLP structure to avoid paying income taxes, as you can pass the tax free nature of those charitable grants you got through the LLP to yourself.
I chose an LLP so that the opportunity to avoid tax through a limited company structure was not available to me
And I pay tax on all the income of the LLP: none is tax free
I, therefore, pay the highest possible rate of income tax that I can on this income
If that is tax avoidance I’d be pleased to know how
I will not be debating this further
Reinvesting profits is bad because it lowers taxes collected.
But reinvested profits allows a company to grow and create more jobs – that is a good thing isn’t it?
Richard,
I would be interested to know how my company could save money by leaving the money in the company to be subject to corporation tax. You must know something my accountants over the 25 year I have run my own successful businesses don’t.
You do realise that money in the company belongs to the company, not any individual. Which is why people are so keen to get it out – requiring the payment of capital gains or income taxes.
There is no mechanism to really avoid some tax on profits. At best you can reduce your tax bill by paying out those profits or re-investing them immediately. It is very poor management of a company to leave it with large retained profits which will simply get taxed away, before they can be used for something productive or paid the employees and owners.
Which is why corporation tax is such an idiotic tax in and of itself. It actively forces companies to disburse their profits, which means long term investment is best funded through debt or equity rather than retained profits.
Or are you really just saying that you want companies to pay tax on profits BEFORE those profits can be used for anything else, and thus are arguing for double taxation on those profits?
So, an individual who would pay tax at 45% transfers the income source into a company – which is not hard
They pay less than 20% tax
Let’s assume they do not need to live off the income – that’s a definition of wealth
So each year 79% can be saved instead of 55%
And the earnings can be taxed at 19% and not 45%
So wealth accumulation is much faster
And you’re saying that’s not a strategy some use?
And yet you want no tax on companies so that this is much more attractive
I really do think you need to do a little thinking because you seem very confused to me
Sorry Richard but you have made an error of logic here. At best what you are saying delays the taxation. More likely though what you are claiming simply never occurs, because you would end up paying more tax than you have to.
The profit retained within the company is subject to CT. This is indeed lower than IT rates, but very similar to the rate of CGT. But you are ignoring the main point, which is that the money is still taxable when it is withdrawn from the company via pay or dividends.
Your are trying to make the point that wealth accumulation is faster because less tax has been paid, but to make that assumption the company must be investing in something.
If those investments are in productive capacity for the company, and decent accountant will have those costs applied before CT is paid, so before profit. So your argument is null in that case.
If the company is used simply as an investment vehicle, it is still subject to CGT – so you don’t avoid any tax there either. Then when you withdraw that money it is still subject to IT/CGT. So if you do leave the money in the company at best you have delayed paying some tax, but are likely to be taxed AGAIN on those profits when they are finally extracted from the company, so end up paying a lot MORE tax.
You would be better off simply paying out all of the profits of the company as dividends, subject to CGT, then investing it outside the company. Doing that means you are subject only to CGT, rather than CT then CGT on top of that. In addition, there is no allowance for CT where there is for (personal) CGT.
Which is exactly what people do with personal service companies, which is what I assume you are fumbling to get at. Nobody retains any serious money in them because it is not tax efficient. All the money gets paid out.
People do use companies to reduce their tax bill, but corporation taxes have nothing to do with it. All they are doing is substituting CGT for IT and paying the lower CGT rates. CT never comes into it (unless you are a fool).
With respect, you are clueless
I know, because you do not mention national insurance which is what most company tax planning is about
And you clearly do not know how CT and IT interact
Your claims are simply wrong
And as a matter of fact you ignore roll up
So again, you are wrong
Please do not waste my time again
I was warned about you before posting on your blog. That you become rude and obnoxious whenever someone points out an error you have made. That and you then just claim you are correct regardless of what has been said and how weak or silly your claims are.
But let us look at those claims again.
National Insurance is not what most company tax planning is about. It is very hard to avoid at the best of times, much like income tax – which it is little more than a subset of. There is no significant interaction between corporation tax and national insurance – the latter being deducted from company earnings along with pay. I.e employers NI is paid BEFORE CT, alongside employee pay.
But I am sure you will claim I am wrong, but provide no evidence whatsoever to back up your assertion.
“Your claims are simply wrong”
Really? Which part of them is wrong? Stating I am wrong doesn’t make it the case.
“And as a matter of fact you ignore roll up”
Roll up? What is that when it is at home? I assume you mean the compounded returns on investment.
Which I haven’t ignored at all, if you bothered to read what I wrote properly. And is of course, totally immaterial as it will still be taxed at the same CGT rate within or outside a company.
So basically that means you can leave the money inside the company, pay CT and then pay CGT on the investment income, or you can take it out of the company, pay CGT on those dividends at roughly the same rate and pay CGT on the investment returns. Of course, keeping it in the company is worse because any extra retained profits are still subject to CT.
You haven’t provided us with any method or evidence of how keeping profits within a company “saves” tax. Your example was nonsense. At best all it would do is delay payment of tax a bit.
My guess is that you don’t really know what you are talking about, and are just making things up to suit a narrative. That being that companies and rich people in general should pay more tax, whatever the situation. I also think you have got yourself confused because people use companies to avoid tax, but it has nothing to do with the level of corporation tax (as all the profits are withdrawn as dividends, rather than paying IT).
Oh dear….
You say:
National Insurance is not what most company tax planning is about. It is very hard to avoid at the best of times, much like income tax — which it is little more than a subset of. There is no significant interaction between corporation tax and national insurance — the latter being deducted from company earnings along with pay. I.e employers NI is paid BEFORE CT, alongside employee pay.
With respect, about 90% of all planning using companies is about that issue. The company is used to convert earned income into unearned income p[aid via dividends to avoid tax
From there on everything else you say ignores facts
No one is told they are foolish here unless they come in ignorance to troll. As you have done
I will save our embarrassment by deleting future comments
Oh dear indeed. You really don’t know what you are talking about.
Not least because you still have to pay class 4 NIC on income the personal service company (at 9%) rather than class 1 at 12%
What do you think is more important? Saving 3% of NIC contributions or 25% by paying yourself via dividends rather than income tax?
As I said, paying yourself through a company has very little to do with national insurance.
Even then, this argument around NICs is totally immaterial to the main point – which is that you don’t “save” any tax from being paid by retaining income in a company. All you are doing is trying to avoid the point, and make things up to try and prove how correct you are.
I mean, how on earth are you supposed to save on tax paid by retaining it in a company (which means the money will be taxed at almost exactly the same rate as CGT, so no benefit) then when you want to take the money out of the company you will be taxed again. It is really VERY simple, yet you don’t seem to understand it.
“No one is told they are foolish here unless they come in ignorance to troll”
So pointing out you are wrong is trolling?
But I was warned that you would be rude, claim you are correct and I am wrong regardless of fact or evidence, then block or delete my posts. Turns out my friend was exactly right.
You clearly have no idea about personal service companies and how they work either
Or how dividend tax works
Hey ho…..
I’d suggest you get an accountant
Richard,
After reading the posts above I decided to do a little example of my own. I’m going to simplify the tax rates a bit and ignore the allowances, but it doesn’t really make a difference.
Let’s say a company makes £1m of profit.
If it pays the profit out as income tax, the rate is 45%, so £450k tax is paid.
If it pays out the profit through dividends, the cap gains rate is 20%, so £200k tax is paid.
If it retains the money in the company, the corporation tax rate is 19% so £190k tax is paid.
So far so good? 10K tax is paid initially if the money is left inside the company.
The problem is though, which is I think the issue TWM was trying to get at, is that when you try and take that money out of the company it will be taxed again. Let’s say it is done through dividends, so capital gains tax, meaning another £162k of tax will be paid.
You are saying that if you leave the money in the company it will grow faster than if it was taken out, but that extra £10k doesn’t really make a big difference. Those investments the company makes would either not be taxable anyway, or be taxed at the same capital gains tax rate as if the money was taken out of the company.
That £10k of tax saved by leaving it in the company would need to grow by 1620% to be equal to the extra tax paid when you finally remove it from the company via dividends.
Looking at this, I’m afraid it really looks like what you are saying is wrong, and doesn’t make any sense. I can’t see how you would pay less tax by leaving the money in the company rather than taking it out via dividends – unless of course the company was using the money to invest in the business itself, but that is most likely tax deductible or taxable at the same rate anyway – meaning there is no saving.
But my whole point was that the company lets wealth roll up at a low tax rate
In which case your argument is irrelevant
And no, money is not taxed again when it is distributed from a company: credit is given for tax already deemed to be paid
So, again, the claim is simply wrong because you clearly do not understand the tax system
Which is quite amusing in some ways
It might be helpful to consider Diana’s example in more detail, as most of what she has written is just wrong. In particular, she ignores NICs, and seems to think dividends are deductible and also subject to capital gains tax.
A company makes £1m of profit. As things stand, without doing anything more, it will be liable to pay 19% corporation tax, £190K. So it could reinvest the net amount, £810k.
Or you could liquidate the company, and assuming 20% capital gains tax and no base cost, and no NICs of course, the shareholder would have a gain of £810k taxed at 20% so CGT of £162k and cash in the pocket of £648k (or 10% with entrepreneurs’ relief, so tax of £81k and cash left of £729k) .
Or you could pay the £1m out as salary or dividend.
If the company pays a salary or bonus payment to an employee or director (perhaps the sole director/shareholder), that would be liable to income tax at the marginal rates, let us assume 45%, and primary class 1 (i.e. employee) NICs, assume 2%, and secondary class 1 (i.e. employer NICs) of 13.8%. We can assume the bonus is deductible for corporation tax purposes, so you don’t have to pay £190k there, but you can’t find another £138k to pay the employer NICs if the bonus was £1m, so the bonus has to be reduced to say £879k (plus £121k employer NIC) and the employee suffers 45% income tax (£396k) and 2% NIC (£18k) leaving cash in the pocket of £465k.
Or you could pay an income dividend out of the post-tax profits, subject to income tax at say 38.1% with no deduction against corporation tax and no NICs. So a gross dividend of £810k, less income tax of £335k, leaving £475k in your pocket.
(There are games to be played between the different allowances and rates of tax, depending on the amount of profit the company has made: one common approach is to pay a salary of the minimum wage/up to the personal allowance, pay similar amounts of other family members for their valuable services as secretaries teamakers bottlewashers or directors, and take the rest as a dividend.)
Notice how much more you get if you leave the cash in the company. Take out what you need, leave the rest to reinvest in a 19% tax regime each year, and ultimately liquidate (or equivalently realise the value by selling the shares to someone else).
The anti-phoenixism rules are trying to stop the abuse of liquidating MyCo (2019) Ltd today and restarting a similar business with MyCo (2020) Ltd tomorrow, which only arises because the capital gains tax regime is so favourable compared to income tax.
Thanks….
Few people actively want to pay more tax, but I don’t think many people have advocated a corporation tax rate of 19% or 17%. Historically, the main rate was always 30% or more, up to 2007, and I don’t recall that being perceived as much too high.
Corporation tax is a tax on profits and gains, after all, and can be considered as a form of anti-avoidance (to stop people transferring streams of income – or assets that appreciate in value – to corporate vehicles, and rolling up the income or gains within a low-tax wrapper: at minimum, that achieves a tax deferral; depending on the rates of capital gains tax and income tax on dividends it can achieve an absolute tax saving).
20% is perfectly sensible, as that aligns with the basic rate of income tax and removes much of the incentive for incorporation. I can’t see much wrong with 25% or even reverting in stages to 30%, and trying to push back against the race to the bottom we have seen in the last decade or two (I am looking at the headline and effective tax rates in places like Ireland and Luxembourg here). I also can’t really see a justification for a lower rate for small companies, as that just encourages small businesses to incorporate for tax reasons rather than proper commercial reasons.
All that said, corporation tax accounts for less than 10% of the UK’s tax revenue (and a point I should have made yesterday – capital gains tax is only about 1%.)
Thanks
Good to get a tax literate comment
Richard
Most of your critics on this thread are clearly unaware of the exponential use of schemes (whose promoters naturally use “bespoke tax planning” as a euphemism), over the last twenty to twenty five years, to attempt to avoid personal tax liability on the extraction of profits from companies. Either that or they are in denial about them. This is a tide which HMRC is struggling to stem, not assisted by the complete uselessness of Companies House, which as a matter of routine unquestioningly accepts what little and inadequate information the owners of close companies deign to send to it.
And Diana fundamentally misunderstands how this country’s tax system works. I’m guessing, from the way she has commented here before, that she votes Tory. Is this level of ignorance prevalent among supporters of the current government?
Re your last, almost certainly
Roy S Grey says:
” Is this level of ignorance [about the tax system] prevalent among supporters of the current government? ”
I expect so. The most ardent supporters (160,000 of them) probably never see a tax return, they will have accountants to handle that stuff in the most ‘tax efficient’ way possible. The rest of the support base comes from the delusional who believe one day they will be wealthy, or are misguided enough to think they already are.
[…] continue my series on tax reforms, which could go on for a very long time (and I am open to suggestions as to desired reforms), this […]