The government in the UK should reduce the corporate tax rate to the basic rate of income tax (20 per cent), suggests the Institute of Economic Affairs (IEA).

As well as potentially attracting more capital to the country, the think tank believe that corporate tax rate reduction could help the government in simplifying the existing tax system, reducing taxes for investors, and removing an undesired change in business finance decisions. Pension funds, unit trusts, life insurance firms, investment trusts, and beneficiaries of investment funds may directly benefit.

The IEA claim that moves to reduce the corporate tax rate could avoid being a major fiscal burden on the country, and would not have any significant revenue implications.

By the end of 2014, the government will have reduced the rate of corporation tax from 26 per cent to 23 per cent. When compared with the basic rate of income tax, this still represents a tax bias against investment that could create number of problems.

The report cites a paper by the Independent Commission on Banking (ICB), which said that this tax bias causes companies to leverage more than they would if decisions were not distorted by the tax system.

The report claims that ultimately it is households, both in Britain and abroad, which pay corporation tax - but that it is hidden from them.

Philip Booth, editorial director of IEA, said:

Given the government’s commitment to reducing the rate of corporate tax to 23 per cent by 2014, these proposals would not pose a major fiscal burden on the country. The government’s own figures estimate that a 1 per cent reduction costs £2.4bn, however this fails to take into account the increased investment.

This proposal would be an important step towards making a reality of the coalition government to give importance for the private sector to drive economic recovery.

In reality, this proposal may well be close to self financing. The proposals could partly be financed by reducing exemptions given to companies and they would bring about a much-needed simplification of the tax system.