Why is tax avoidance a reason for letting people off tax?

Tax dodging, the Laffer curve, and the 50p rate

The reason given for cutting the 50p rate of tax to 45p was avoidance. It wasn't clearly phrased as such – most of the talk was about how it had raised less money than expected, or had changed behaviour in ways that harmed growth – but that is what it was nonetheless. To many, this will seem strange. "You avoided tax, so we will make you pay less". But it is an integral part of the line of thought that lies behind the cut.

Art Laffer first made the argument that cutting tax rates could boost revenue. The reasoning is broadly that, when the marginal tax rate (the amount you pay on each extra pound earned) gets too high, people start doing things to reduce their taxable income.

The palatable version is that they work less, because an extra hour of work no longer pays as well as it did, and this is probably true; there are certainly anecdotal tales of highly paid consultants turning down work later on in the year to spend more time at home.

The less palatable version is that they avoid more tax, because spending the money and effort required to set up a limited company, be paid "overseas", or funnel your income through a Swiss bank account in the name of your dog becomes more worthwhile the more it saves you.

Both of these "behavioural changes" are factored in to the Laffer curve, the rough prediction of how much revenue will be gained at various marginal tax rates. HMRC produced three such curves, each based around a different "taxable income elasticity" (TIE), a measure of how much an individual's behaviour changes given the tax rate:

They based their analysis around a TIE of 0.45 (a figure basically plucked from thin air – HMRC admit the evidence to choose is "extremely limited", and the studies they cite range from -0.6 to 2.75), which showed a peak of revenue at around 48 per cent. Quite why this then led the Chancellor to cut the rate to three per cent below that is unclear. If he wanted to raise revenue, his own analysis is showing that he's done it wrong.

The problem is, one thing which affects the TIE is the ease with which one can avoid tax. Make tax avoidance harder, TIE goes up, and the peak revenue rate increases. In fact, given the anti-avoidance measures announced at the budget yesterday, TIE will already be higher than it was at the time of the analysis, boosting the argument for keeping the 50p rate.

There is one massive category of avoidance which can't be cited as a reason for cutting the rate, however. The HMRC's stats show that £6.6bn less income was declared in 2010-11 due to it being "forestalled" – paid the year before, so as to take advantage of the lower rate. This is avoidance on a massive scale (Richard Murphy points out that it is £1.6bn more than the estimation for all tax avoidance in 2011), yet, contra Tim Worstall, it has no bearing on the decision on whether or not to cut the rate, because it can only ever be done once. 

By cutting the tax so early in its life, Osborne has ensured that we make the decision unable to know the full effect of cutting it. We can guess at how much will have been raised for the 2011-12 tax year, when forestalling was harder (although not impossible, and HMRC warn that it "continues to reduce revenues in 2011-12 and beyond"), but by the time we know for sure, it will be too late. The 45p tax will be in, and there won't be a "normal" year of the 50p rate to compare it to.

Tax dodging is an emotive issue. Credit: Getty

Alex Hern is a technology reporter for the Guardian. He was formerly staff writer at the New Statesman. You should follow Alex on Twitter.

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The biggest divide in politics is not left against right, but liberals against authoritarians

My week, including a Lib Dem membership rise, The Avalanches, and why I'm putting pressure on Theresa May over child refugees.

It is a boost for us that Nick Clegg has agreed to return to the front line and be our Brexit spokesperson. I hadn’t even had a chance at our meeting to make him the offer when he said: “Before we start, I’ve been thinking about this and want to take on the fight over Europe.”

With Labour apparently willing to give the Tories a free pass to take us out of Europe, the Liberal Democrats are the only UK-wide party that will go into the next election campaigning to maintain our membership of the EU. The stage is remarkably clear for us to remind Theresa May precisely what she would be risking if we abandon free trade, free movement, environmental protection, workers’ rights and cross-border security co-operation. More than a month on from the referendum, all we have heard from the Tories is that “Brexit means Brexit” – but they have given us no clue that they understand what that means.

 

Premature obituaries

Not long ago, the received wisdom was that all political parties were dying – but lately the supposed corpses have twitched into life. True, many who have joined Labour’s ranks are so hard left that they don’t see winning elections as a primary (or even a desirable) purpose of a party, and opening up Labour to those with a very different agenda could ultimately destroy it.

Our experience has been happier: 20,000 people joined the Liberal Democrat fightback in the wake of the 2015 general election result, and 17,000 more have joined since the referendum. We now have more members than at any time this century.

 

Breaking up is hard to do

Journalists have been asking repeatedly if I want to see the break-up of the Labour Party, with moderates defecting to the Liberal Democrats. I have been clear that I am not a home-wrecker and it is for Labour to determine its own future, just as I focus on advancing the Liberal Democrat cause. Yet I have also been clear that I am happy for my party to be a home for liberals of whatever hue. I enjoyed campaigning in the referendum with a variety of progressive figures, just as moderates from different parties shared platforms in 1975. It struck me that far more unites us than divides us.

That said, not all “moderate” Labour figures could be described as “liberal”, as John Reid demonstrated as Labour home secretary. The modern political divide is less left v right than authoritarian v liberal. Both left and right are looking increasingly authoritarian and outright nasty, with fewer voices prepared to stand up for liberal values.

 

What I did on my holidays

Time off has been virtually non-existent, but I am reading A Wilderness of Mirrors by Mark Meynell (about loss of trust in politics, the media and just about everything). I’m also obsessively listening to Wildflower by the Avalanches, their second album, 16 years after their first. It’s outstanding – almost 60 minutes of intelligently crafted dialogue, samples and epic production.

During the political maelstrom, I have been thinking back to the idyllic few days I spent over half-term on the Scottish island of Colonsay: swimming in the sea with the kids (very cold but strangely exhilarating ­after a decent jog), running and walking. An added bonus is that Colonsay is the smallest island in the world to have its own brewery. I can now heartily recommend it.

 

Preparing for the next fight

The odds are weirdly long on an early general election, but I refuse to be complacent – and not merely because the bookies were so wrong about Brexit. If we have learned one truth about Theresa May as Prime Minister so far, it is that she is utterly ruthless. After her savage cabinet sackings, this is, in effect, a new government. She has refused to go to the country, even though she lectured Gordon Brown on the need to gain the endorsement of the electorate when he replaced Tony Blair. Perhaps she doesn’t care much about legitimacy, but she cares about power.

You can be sure that she will be keeping half an eye on Labour’s leadership election. With Jeremy Corbyn potentially reconfirmed as leader in September against the wishes of three-quarters of his MPs, Mrs May might conclude that she will never have a better chance to increase her narrow majority. Throw in the possibility that the economy worsens next year as Brexit starts to bite, and I rule nothing out.

So, we are already selecting candidates. It is vital that they dig in early. As we are the only party prepared to make the positive case for Europe, such an election would present us with an amazing opportunity.

 

Sitting Priti

David Cameron pledged to take an unspecified number of unaccompanied children from camps across the Continent. I am putting pressure on Theresa May to turn that vague commitment into a proper plan. Having visited such camps, I have been fighting for Britain to give sanctuary to a minimum of 3,000 unaccompanied children, who are currently open to the worst kinds of exploitation. We have heard nothing but silence from the government, with underfunded councils reporting that they are not receiving the help they need from Whitehall.

Meanwhile, it remains government policy to send refugees to Turkey – whose increasingly authoritarian government has just suspended human rights protection.

As if all of this were not grim enough, we have a new Secretary of State for International Development, Priti Patel, who has said that she thinks aid should be used largely to promote trade. As someone who wants our country to be respected around the world, I find this plain embarrassing. Actually, it’s worse. It’s shaming. As with Europe, so with the world: the ­Conservative government is hauling up the drawbridge just when we need more than ever to engage with people beyond our shores.

Tim Farron is the leader of the Liberal Democrats. To join the party, visit: libdems.org.uk/join

Tim Farron is leader of the Liberal Democrats.

This article first appeared in the 28 July 2016 issue of the New Statesman, Summer Double Issue