Tax systems around the world are under strain. Budgetary pressures mean countries are extending their tax bases to raise more revenue. But the world has moved on since tax rules were written and frameworks drawn up. The growth of global networks, the dawn of the digital age, the changing nature of employment – these are just some of the factors that raise the question: is the current tax system fit for the future? Questions abound over what should be taxed, how and where it should be taxed, and how the tax should be collected. There are no easy answers. In the UK, for example, there have been several reviews of the tax system over the years, with the last being the Mirrlees Review in 2010, which suggested a root-and-branch overhaul of different areas of the system. Anita Monteith, technical lead and senior policy adviser at ICAEW’s Tax Faculty, says there was too much to change.
“Our tax system is too complicated, with so many exemptions that have grown over the years and an increasing body of case law. And we couldn’t import Mirrlees today: we have all the issues that technology brings and new problems that weren’t even dreamt of at the start of the decade.” It’s tempting to wonder what would happen if a group of people sat down with a blank sheet of paper to design a new tax system from scratch. “But then you confront the reality of how we get from where we are now to there, and you realise the changes have to be more gradual and nuanced,” says Jane McCormick, KPMG’s global head of tax.
There’s a global move towards taxing consumption rather than income, with indirect taxes such as VAT and goods and service taxes moving towards taxing the consumer rather than the provider. On one level this makes sense, as it means the people who consume most of the world’s limited resources pay more tax. However, one of the consequences of an increasing reliance on consumption taxes is two main types of inequality. One is the inequality within a country, between generations and between rich and poor. And then there’s the inequality between countries, rich and poor. Consumption taxes can be a problem in both cases, says McCormick.
“For example, VAT is generally considered to be a regressive tax: how do you get this and other consumption taxes, including the digital services tax, to be less regressive without adding undue complexity?” Consumption taxes on cross-border supplies of goods and services are levied and collected in the location of the consumer, meaning countries with more consumers collect more tax. “The countries that most need the tax will be getting less of it,” says McCormick. “At the moment the discussion, research and thinking concentrate on the allocation of taxing rights for corporate income tax. But this is a relatively small part of the global tax take. There could be more debate internationally about indirect taxes, both in terms of who gets to collect the tax and how to build an efficient international system for consumption-type taxes, as the current systems can be prone to fraud.”
Monteith points out that taxes with an international impact need to have an international solution. “It’s hard enough getting different politicians to agree within one country, never mind getting agreement across so many. Consider France: Amazon France retaliated against the recent imposition of the French digital services tax by telling its sellers it will increase the referral fees it charges them by 3% to offset the additional equivalent tax charge.”
Over the past decade, there have been substantial shifts in the way people work, with a blurring of the border between employment and selfemployment. The Taylor Review of 2017 recommended changes in employment rights to reflect the new realities of the workplace – although, as specifically requested by the government, the review did not cover the area of taxation. There is currently draft legislation in the UK on introducing withholding tax for deemed employees. Steve Wade, EY associate partner and chair of the Tax Faculty’s employment taxes and NIC committee, says this won’t solve all the concerns. “It’s merely a sticking plaster over the fundamental issue: the disparity between the cost of employing labour as an employee or via the contractor route, and the differential in the tax consequences of the two situations.” The problem with the current system is that employment status is determined by case law. Wade points out that working practices today are far more flexible than they were when the case law started. “As different ways of working have developed, the old concept of a master-servant relationship no longer holds,” he says. Monteith agrees that National Insurance is one of the biggest problems in the UK tax system. “It isn’t called a tax but it certainly looks and behaves like a tax, and is seen as a very unfair tax. ICAEW has called for a national debate on how work is taxed as we think there needs to be agreement on acceptable ways to tax work and, where there are differentials, what these should be.”
Around the world, technology is driving tax policy. A number of tax authorities, including those of Russia and Brazil, already gather real-time information on every transaction and collect the tax as the transaction takes place, increasing the attractiveness to governments of transaction-based rather than profit-based taxes. “Technology can help tax authorities tackle evasion and avoidance, reducing the tax gap while lowering the cost of collection,” says McCormick. The UK now has Making Tax Digital (MTD) for VAT-registered businesses above the VAT threshold. This is only the beginning of HMRC’s digital journey, which will eventually see the extension of MTD for VAT and the introduction of MTD for income tax.
The problem, according to Monteith, is when tax policy is not aligned with developments in technology. “We need an integrated tax system: one in which the tax rules work together and in which the IT has to work. ICAEW is building into our response on government consultations that IT specifications should be considered at the same time as any new tax proposals. This is all about creating a more holistic approach to the tax system.” Tax authorities are gearing up for an arms race in technology for tax – a race they will win every time, says McCormick. “To start, they are building a tax system for an entire country. The business case is very good: every country that has introduced a highly tech-enabled system shows an increase in tax revenues, as these are collected much more efficiently.”
McCormick points out that income tax is already partly automated in many places as tax authorities prepopulate returns from information they receive from employers and banks. Corporate income tax is a different matter as there are so many inputs from different places that the calculations need to wait until the end of the tax year – another key reason behind the rise in consumption taxes. “A tax that is difficult to automate is going to be increasingly less attractive than one that can be,” she says.
Changing behaviour: new approaches to tax
Governments generally look at tax as a way of collecting and redistributing money in an economy. But tax can have another purpose: to influence citizens’ behaviour. And the response to a tax incentive is often disproportionate to the value of the tax itself, says Brian Keegan, director of public policy and taxation for Chartered Accountants Ireland. “Consider the plastic bag tax, in place in the UK and Ireland. In both cases the cost involved was relatively small, but since people hate the notion of paying a levy that they don’t need to, plastic bag use has fallen by more than 90%.”
Keegan believes that five principles that applied in the case of plastic bags could also be applied to other behavioural taxes, including the carbon tax, in order to make them more effective. First, the tax needs to be visible and clear to the taxpayer. It should also be avoidable – and it should be socially acceptable to avoid it. “It’s perfectly acceptable to drive a fuelefficient car or forgo the use of plastic bags,” Keegan says. Third, the receipts should be hypothecated. “As a general principle you don’t want hypothecation, but if the government wants to try to change behaviour then the taxpayer needs to know that their tax is going towards environmental purposes and not general exchequer receipts.” Fourth, the quantum of the tax shouldn’t matter much – again because the purpose is about behavioural change rather than revenue generation. Finally, there should be some cultural resonance with the public. “It needs to be a tax on something people are fundamentally uncomfortable about. If not, it won’t change anything.”
Keegan discussed these principles at this year’s Wyman Symposium. Another of the speakers was EY’s Steve Wade, who came up with the semi-serious idea of a new tax for the digital age: taxing data flows. Wade says that, in some senses, the best taxes are those on things that people either can’t avoid or choose not to avoid, the classic examples being alcohol or cigarettes. “People don’t want to give up data, so why not tax data flows?” he suggests. “This gets around the problems of tax being associated with a building or permanent establishment, as it has been under the old order. If we’re all connected and working from different places, what about taxing those data flows in the future?” Wade’s proposal shares some commonality with Keegan’s, as both would be levied on certain behaviours and could be avoided. But Wade’s idea has the potential to be a significant revenue generator. “This could be part of a move from taxing income to taxing consumption, but would be on data use rather than physical consumption,” he says.