Finance Bill

My Lords, I am pleased to introduce the report of the Economic Affairs Committee on the Finance Bill 2008, which was so colourfully previewed by the noble Lord, Lord Forsyth of Drumlean. It is the sixth annual report in a well-established series that confirms the role of this House in parliamentary scrutiny of Finance Bills. Within its remit, our sub-committee on the Bill offers taxpayers and advisers a forum in which to express their concerns, which our reports then convey, together with our own views and recommendations, in time to inform debate in Parliament. I thank my fellow members of the sub-committee for the knowledge and wisdom that they brought to hear and for their hard-working and non-partisan approach. I am grateful to the witnesses, professional and official, and, for the first time this year, eminent academics from two of our universities, whose input was essential to our report. I also thank our specialist advisers, Leonard Beighton and Trevor Evans, for their invaluable contribution, as well as the Clerk and our secretary-administrator. The committee cannot sensibly look at the whole Finance Bill. It has to focus. This year, it chose three topics: changes to capital gains tax; proposals on residence and domicile; and changes to encourage enterprise. As we heard evidence, we became increasingly aware of two issues that cut across these topics: consultation and international competitiveness. Our report considers these issues first. Many private sector witnesses thought that the consultation on both CGT and residence and domicile had been very poorly handled and fell well short of the good practice that they had seen on other topics. Witnesses from Her Majesty’s Treasury and the Her Majesty's Revenue and Customs accepted that consultation was a key part of getting tax policy and delivery right, but did not agree that a clear policy statement had been lacking or that the Treasury and the HMRC had not worked well together. We as a committee are firmly in favour of consultation. Despite what officials said to us, we have little doubt, given the strength of feeling of our private sector witnesses, that something went very wrong in the development of these initiatives. We see no reason why there could not have been earlier, better and more open consultation. We are particularly disappointed that the progress we welcomed last year has not been maintained. Our report recommends that the Treasury and HMRC should critically consider why the private sector was so unhappy and thought that its messages were not getting through to Ministers: they should learn the lessons. They should also look at their record as a whole, learning from well handled examples, which our witnesses acknowledged, and identifying best practice across the board. In the light of that, there should be a dialogue between officials and the private sector to develop a code of practice on consultation on tax policy changes. The second cross-cutting issue was competitiveness. We recommend that the Government and the Treasury should work to reassure investors of the advantages of investing in the UK under the new CGT regime. Some doubt has been cast on that, at least in the minds of some of our witnesses. But we were particularly concerned by evidence from private sector witnesses that the proposals on residence and domicile seem likely to have had a negative impact on the UK’s competitiveness. We think it vital that everything that can be done is done to retrieve that position. We recommend that economic impact analyses should be published of the changes on CGT, and residence and domicile, at the same time as any future significant tax changes are announced. Coming now specifically to capital gains tax, under the changes announced in the Pre-Budget Report there would have been one tax rate of 18 per cent on all gains. Indexation and taper reliefs were withdrawn. As a result, the rate of tax on business gains generally went up, while that on other gains went down. The intention was to make the system more straightforward and sustainable and to help investors plan for the long term. But noble Lords will recall that the announcement proved so contentious that in January the Chancellor of the Exchequer announced that there would be an entrepreneurs’ relief under which qualifying gains would be charged at 10 per cent up to a lifetime limit of £1 million. In our view, given the unwelcome surprises investors received, the feeling that legitimate expectations have been denied, and that long-term gains are no longer treated more favourably than speculative gains, it will take time for certainty and confidence to be restored. So we recommend that the Government should continue their efforts to explain their case, with the aim of restoring that lost confidence. Some people were better placed than others to forestall any increased liability as a result of the changes. This was unfair and we recommend that, in future, the opportunity to forestall should be available either to everyone or to no one. Indexation of gains made between 1982 and 1998 had previously been frozen. On balance, we thought that the abolition of the freeze was justified, despite the disquiet that was aroused. Although the changes bring about some simplification, CGT remains a complicated tax and we recommend a dialogue aimed at further simplification in future years. We were surprised at the Treasury’s confidence in the forecasts of the yield of the tax and recommend a further explanation. We also believe that breaking the link between the rate of tax on income and on gains might increase the scope for avoidance, a risk on which HMRC should keep an eye. Finally, on entrepreneurs’ relief, we recommend that there should be some means, such as indexation, to ensure that the lifetime limit keeps pace with events. Moving on to residence and domicile, under the changes in the Finance Bill, all those who are non-domiciled and who claim the remittance basis of taxation will have personal allowances withdrawn and longer-term residents will have to pay £30,000 for each year they remain on the remittance basis. Those proposals have been a source of contention since they were announced in the Pre-Budget Report and particularly since the publication of draft legislation in January. The evidence from our private sector witnesses was harshly critical. Words such as ““a real shambles”” were used. Officials denied poor handling, although they accepted that, in some respects, the draft legislation had been out of line with the policy intention of Ministers. We considered carefully what officials said to us, but we could not accept that there would have been such strong feeling if everything had been handled as smoothly as they had suggested. Our report recommends that the Treasury and HMRC should carry out a full review of the reasons why there were so many difficulties. The Finance Bill’s clauses on this topic were not finalised when the Bill was published. That is not good practice and we recommend that if, in future, final provisions cannot be published in the Bill, the proposals should be withdrawn. Our report surveys the likely impact of the changes at different levels of income, including high net worth individuals and middle income executives whose employers may face a compliance burden. But our main concern is about those of more modest means, such as the migrant worker from eastern Europe, who, with unremitted income of £2,000 or more, would have to decide whether to claim on the remittance basis and be denied personal allowances, or be taxed on world-wide income and subsequently grapple with double tax relief on his overseas income. All our private sector witnesses saw the £2,000 level as too low and some saw it as ““ridiculous””. Officials did not seem overly worried by these compliance concerns. They thought that the calculations were ““in reality, quite simple””. We think that HMRC is greatly underestimating the compliance difficulties for people of more modest means. In our view, the provisions as drafted are essentially unworkable and we recommend that the bulk of modest earners should be spared, possibly by raising the level of £2,000 to the level of the personal allowance, which this year is £6,035. In the Commons Public Bill Committee, the Government promised to think about this further, but the Financial Secretary resisted any increase from the £2,000 level as unnecessary and argued that, for most on modest means, the arising basis would produce the better outcome. We believe that the Government are considerably underestimating the compliance problems and are disappointed that they have not responded to the case for increasing the level. On a more positive note, it was also put to us strongly that there should be comprehensive legislation to determine UK residence, rather than reliance on Revenue practice. We are pleased to note that the Government have accepted the case for looking at this, in consultation with the representative bodies. Our final topic was the changes to the tax rules for encouraging enterprise, notably an increase in the qualifying limit for investments under the enterprise investment scheme. We were not persuaded that such an increase was economically justified. The committee also looked at venture capital reliefs. By no means all witnesses agreed that these reliefs should continue if the alternative could be a modest contribution towards a general reduction in rates. So we recommend a review to assess the net benefit of the reliefs as against the economic benefit of that modest reduction in tax rates across the board. Finally, we examined the study by the University of Sussex, published by HMRC, on the effectiveness of the venture capital reliefs. Some witnesses questioned its methodology. We recommend a re-examination so that generally accepted conclusions can emerge. The committee's overall impression is that this year the formulation of tax policy has been marked by uncertainty of direction and exacerbated by examples of poor consultation, which have led to a loss of confidence in the sustainability and predictability of the tax system. The feeling that the system is unstable and subject to unwelcome surprises cannot be good for the competitiveness of the UK economy. Of the topics considered in our report, this impression stems in large part from the handling of the initiatives on CGT and residence and domicile. There were, of course, other topics that we did not address which also contributed to the sense of instability. It is up to the Treasury and HMRC to learn the lessons so that these mistakes are not made next year. Notwithstanding the emollient words of the Minister, we are disappointed that the Government did not feel able to take greater note of the points in our report and act accordingly, particularly given the strength of feeling that remains in the private sector. Although Ministers responded initially, the changes they tabled were largely on technical matters. We remain concerned that they may have significantly underestimated the issues of substance raised by this Bill. I commend our report to the House.