Business rates generate in the region of £28bn a year before exemptions and reliefs. At 3.5 per cent of GDP they represent the highest property tax among comparable nations around the world. For a government committed to freezing income tax, national insurance and VAT rates for the duration of the current Parliament, this revenue is as attractive as it is addictive.
In reality, however, it is a false economy dissuading inward investment, penalising companies in a number of perverse ways and discouraging capital investment that would benefit society and stimulate long-term growth.
Pros and cons of business rates
Those against the current business rates regime say it is too complex. They say it is too expensive, that it acts as a tax on enterprise and that it doesn’t reflect the ability to pay. There is more: revaluations are too infrequent, subsequent implementation takes too long and business rates unaccountably use the higher of the two measures of inflation.
For manufacturing companies like General Motors (GM), the specific objection is how capital investment in so-called “plant and machinery” unfairly pushes up the rateable value of property. Manufacturers pay nearly one fifth of all UK business rates. This year their contribution is expected to rise by an additional £300m to £4.7bn.
This tax on plant and machinery discourages investment and raises the effective price of acquiring capital. Moreover, it starves investment that would lead to greater productivity of labour.
The government’s defence? Plant and machinery adds value to property so it’s only fair that this should be reflected in the business rates paid. Yet not all capital investment adds value. For example, changes made to comply with new regulations or in an effort to reduce carbon emissions, do not add value.
This isn’t simply a theoretical issue. A decade ago, GM planned to install solar photovoltaic panels at its Ellesmere Port plant in order to offset some of the environment impact of manufacturing and to reduce costs. Yet with the proposed change came an increase in the rateable value of the plant and a subsequent hike in business rates. A planned capital investment that would have been good for GM, good for the UK and good for the planet was abandoned as unaffordable. GM employs 4,331 people across the UK and contributed £857m in gross value added (GVA) in 2013, fuelling GDP.
Jagjit Singh Srai, head of the Centre for International Manufacturing at the University of Cambridge, told a New Statesman round table event last year that the current business rates regime “encourages the hollowing out of our companies”. What’s more, it encourages international manufacturers to go elsewhere, a point underscored by research conducted by EY into foreign direct investment (FDI) across Europe. While the UK picks up 20 per cent of these deals overall, worth €223bn in 2013, the figure falls to 12 per cent for the manufacturing sector.
Impact of change
So what’s the alternative to the current business rates regime? In an effort to answer that question, GM and Tata Steel asked EY to investigate four possible alternative approaches – two revenue-neutral and two that would lead to a reduction in the business rate tax take.
In each case, EY sought to establish any savings or additional costs that would be incurred by individual industry sectors and the impact the changes would have on the economy in general.
All four scenarios have their merits but let’s look at one where an exclusion of plant and machinery would apply to all non-domestic property values except for regulated industries. Here EY found the change would stimulate approximately £8.7bn of incremental economic activity in the UK between 2016 and 2020.
Manufacturing would lead the way, accounting for £5.7bn of this new economic benefit. The change would also, the report suggests, sustain 23,000 additional jobs and over half of those would be supported by the manufacturing industry.
As the EY analysis shows, a contraction in business rates would be more than compensated for over the lifetime of the current parliament. The data suggests that the Exchequer will lose £6.7bn in business rate receipts in this scenario. However, the addition of £8.7bn in incremental economic activity means the government will be running a £2bn surplus by 2020.
In the pre-election New Statesman debate, Financial Secretary to the Secretary David Gauke defended his colleague Chancellor of the Exchequer George Osborne’s decision to put the issue of business rates out to review. He also cautioned against any recommended reform that was not fiscally neutral. “Unless you are willing to forgo revenue, reaching a consensus of what is the right way forward is going to require a lot of hard work, a lot of hard thinking, building up a degree of momentum and consensus building,” Gauke said.
The need for hard thinking and consensus building is indisputable. What is questionable, however, is the government’s notion of what fiscally neutral means. As the EY modeling demonstrates, a reduction in business rate receipts will have a positive, not a negative, impact on the nation’s finances. Over the course of a parliamentary term, the economic activity stimulated directly by the manufacturing industry and those associated to it coupled with an economic impetus from job creation will more than make up for lost business rates income.
In their current incarnation, business rates produce unintended consequences – not least a reluctance for manufacturing companies to invest as much as they might. The question this prompts is not “why change?” but rather “why wouldn’t you do it?”
The final outcome of Osborne’s review is set to be incorporated into the March 2016 budget. As politicians from all sides of the political spectrum consider the options available to them, they must answer the “why not” question.
Facts and Figures
Manufacturing’s contribution to total UK business rates
1 in 5
of all foreign direct investment projects across Europe are awarded to the UK. That figure falls to 1 in 8 when looking at manufacturing alone.
of all GM’s property-based taxes across Europe are paid in the UK even though the UK accounts for just 8 per cent of total footprint
of added economic benefit if business rates were cut
Every job at General Motors supports another 4.8 in the wider economy
additional jobs could be supported per year if business rates are cut
To download ‘Fixing the cost: Making the UK attractive to manufacturers’, a New Statesman special supplement created in association with Vauxhall and General Motors, go to tinyurl.com/fixingthecost