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Helen Goodman: Does my hon. Friend agree that it is extraordinary that Conservative Members are making such a fuss about a rise to 20 per cent. in the small companies rate? My recollection is that when the Conservatives were in power the rate was 23 per cent.
Rob Marris: I accept the figure given by my hon. Friend, although I do not know whether the rate was 23 per cent. or not. I hope that the hon. Member for Fareham (Mr. Hoban) will correct me should I have this wrong, but I believe that he was talking about certain allowances producing an effect on 4.3 million businesses; he cited a figure of £68. Yet in year three of the changes before usthis is the figure that he did not give us in regard to those 4.3 million small businessesthe increased tax take will, on average, be £190.70 per small business. I have rounded that figure slightly. That represents £820 million given in year three divided by the 4.3 million.
Mr. Hoban: The hon. Gentleman commits the same mistake as the hon. Member for Burnley (Kitty Ussher). The increase in the small companies corporation tax rate simply applies to the number of incorporated companies, whereas he has used the number of small businesses. If he were to divide the increased tax take by the number of small companiessome 800,000 of which are profitablehe would find that the average increase is £1,000 per small company. I accept that this is a difficult issue; there is confusion in respect of small businesses and small companies. I might have made the same mistake inadvertently, but it is important to distinguish between the two when we consider the gainers and the losers from these measures.
Rob Marris: I am grateful for the hon. Gentlemans extremely helpful intervention. Having been in small business myself, I accept that £1,000 is significant to such businesses. Given that many of us wish to encourage small business to grow, it surprises me that this whole clause stand part debate seems to have been a subsection (1) stand part debate. No reference has been made to subsection (2) and the following subsections in terms of marginal reliefs. They relate to the transitional provisions in terms of corporation tax for those companies whose profits are between £300,000 and £1.5 million per annum. They are the lower and upper profit limits for what one might call the transitional regime for the rate of corporation tax. That should benefit what one might call larger small business. I use that term rather than medium-sized business because a business may well grow to reach the level of profitability and therefore the tax bracket covering companies with profits between £300,000 and £1.5 million without crossing the threshold in terms of the number of employees that would result in its being a medium-sized business.
I also note that in response to the intervention by my hon. Friend the Financial Secretary, the hon. Member for Fareham did not say what he thought the rate should be. His response, broadlyI paraphrase, but he will correct me if I have it wrongwas, Were not in government now. Well look at it when we are in government in 2010. That was certainly the year he cited. However, it surprises me that, even though he feels so strongly about subsection (1), which deals with
the 20 per cent. rate instead of the zero rate for small companies, he has not tabled an amendment. If he did table one, he will have to forgive me for saying that, but I have not seen it listedperhaps it was not selected. If the hon. Gentleman speaks again in this debate, will he say whether he proposes to vote against clause 3 given that, although it contains a provision that he regards as somewhat negative in subsection (1), it later sets out a measure that I suspect he regards as positive?
John Healey: We have had a useful and wide-ranging debate that has served to bring out some of the broader issues in the light of which it is necessary to consider clause 3. If you will allow me, Sir Alan, I shall set out those issues as a way of helping hon. Members to consider the provisions of clause 3 in the proper context.
The hon. Member for Fareham (Mr. Hoban) admitted to having made a mistake that his right hon. Member for Witney (Mr. Cameron) has also made. In fact, there are 4.3 million small businesses in this country, more than three quarters of which are not incorporated, are not small companies and are therefore not subject to the corporation tax regime. They will not be affected by the changes in clause 3, and it is important to recognise that. Furthermore, one in four of those that are incorporated and are therefore small companies currently pay no corporation tax and are unaffected by the changes because they are not making a profit. The hon. Gentleman acknowledged that in this debate, although not on Second Reading.
An important point, which affects the hon. Gentlemans argument, is that we estimate that the majority of the small companies that remain have incorporated with the purpose of reducing their tax and national insurance liabilities. In other words, those companies take a tax relief that is aimed at investment and growth to reduce their personal tax and national insurance contributions liabilities. In contrast, all small businesses, both self-employed and incorporatedall 4.3 millioncan benefit from the associated announcement in the Budget of the new annual investment allowance for expenditure up to £50,000, which many hon. Members have mentioned this afternoon. Many of the self-employed businesses will also benefit from the personal tax changes announced in the Budget.
If we look more closely at the companies that could be affected by the changes to the small companies rate, we find that in 2004-05 some 750,000 companies paid what is known as the small companies rate, which is really a small profits rate because any company with profits of up to £300,000 in a year benefits from that low corporate tax rate. In fact, a quarter of large companiesthose employing more than 250 staffpay the small companies or small profits rate; and fully around half of medium-sized companies, which have between 50 and 250 employees, pay that rate. The question as regards future tax decisions and reforms is whether we should continue, through the small companies rate, to provide a low rate of corporation tax targeted on low-profit companies, regardless of their investment activity. That fundamental principle underpinned the package of decisions that we announced in the Budget and that we are now incorporating in law through the Finance Bill.
Since the late 1990s, we have looked carefully at small business taxation, with a view to ensuring a tax system that encourages investment and innovation and provides the fairest possible outcome for all small businesses. The hon. Member for Twickenham (Dr. Cable) said at one point that he thought that we were rushing into making the changes. He carries out his duties diligently, so I am sure that he will have read the consultation document that we published in December 2004, Small companies, the self-employed and the tax system. It encouraged a wide-ranging debate on how incentives for growth and enterprise can be best targeted while maintaining a system that is as fair as possible for all. The package of changes that we are proposing is a response to that debate, and it comes after careful consideration and detailed discussions with a wide range of interested groups.
One of the factors that we have to take into account is the degree of tax-motivated incorporation. Lower rates of tax have resulted in a significant number of people incorporating to take advantage of those low rates, not to reinvest in the business, but to extract the company profits in a way that reduces their personal tax and national insurance liabilities, while still allowing them access to contributed benefits. That is contrary to the aims of the reforms that we made to the small companies rate in previous years. Of course, the costs to the public purse are significant; clearly, if all self-employed people decided to incorporate, it could cost the Exchequer billions of pounds in lost revenue, and it would do little to improve productivity or growth. That tax break would be subsidised by ordinary taxpayers and self-employed businesses, which would suffer a competitive disadvantage.
We propose, in part through clause 3, to refocus the manner in which we provide investment incentives to small businesses. All the revenue raised by the small companies rate increases will be recycled back into small businesses. First, the increase in the small companies rate will reduce the difference in the tax paid by the incorporated and the self-employed. As Members may know, one noted commentator and academic, having considered the impact of the Budget changes on the tax incentive to incorporate, has said on accountingweb.co.uk that there is
probably insufficient reason to incorporate at profits of less than £40,000 in the future.
Secondly, the headline small companies research and development tax credit will increase from 150 per cent. to 175 per cent., which will help small companies, particularly those investing in innovation and new technology. The current first-year capital allowances for small firms will continue at 50 per cent. for a further year. Finally, from April next year, the annual investment allowance will target assistance directly at businesses that invest their profits, regardless of legal form. Under our package of changes, the amount of investment does not have to be significant for a small company to benefit. Some 90 per cent. of tax-paying companies will pay less in tax in the first year in which the annual investment allowance comes into effect if they reinvest as little as 23 per cent. of their profits in their business.
We know that for many small companies and businesses, whatever their legal form, cash flow is king,
and that is part of the reason for the annual investment allowance. Cash flow poses the principal risk and is the principal pressure. At presentthe hon. Member for South-East Cornwall (Mr. Breed) was concerned about thislabour costs are fully deductible. Employees wages and employers national insurance contributions are deductible from, and offset against, taxable profits. The annual investment allowance provides parity between capital and non-capital expenditure precisely in that way.
The hon. Member for Twickenham wondered how much of the annual investment allowance would go to small businesses. We calculate that about 90 per cent. of the cost of the annual investment allowance will go to small businesses. For example, in the financial year 2009-10, we estimate the cost of the AIA to be about £920 million, of which an estimated £805 million will go to small firms. We will obviously monitor that, and evaluate it once it has been introduced. May I tell the Committee, too, that the notion that somehow small businesses do not invest is far from the mark? In the last year for which we have firm figures, small companies invested some £6.4 billion in capital expenditure, and we expect the vast majority of small businesses making a capital investment to claim the AIA in future.
Perhaps we should dwell, too, on the perceptionthis argument has been made by the Opposition this afternoonthat service companies do not invest, either. Based on the analysis of data by Her Majestys Revenue and Customs, well over a third of small companies in the businesses service sector invest. Unincorporated businesses in the sector that do invest, invest an average of £3,500 a year. Small companies in the sector invest an average of £22,000 a year. Other service sectors demonstrate perhaps even higher levels of investment. More than half of service firms in the retail sector invest, and more than half of businesses in the hotel and catering sector do so.
Mr. Newmark: I listened very carefully to the explanation of the incentives driving the policy. The Minister said that a third of small businesses will benefit, but that still means that the majoritytwo thirdswill not do so. Will he comment on that?
John Healey: I was not talking about all service companies; I was talking specifically about the business services sector. I went on to say that more than half the service companies in hotel and catering and more than half the companies in retails invest, and do so consistently. A small catering company, for instance, that makes £100,000 profits and invests £30,000 in new kitchen equipment, will pay about £2,000 less tax in the first year of the new annual investment allowance than it would do without the changes in the Budget. A self-employed builder who invests £4,000 to start up a business and earns £30,000 in the first year, will pay about £1,200 less tax and national insurance.
The hon. Member for Fareham, whose concerns were echoed by his hon. Friend the Member for
South-West Hertfordshire (Mr. Gauke), repeated the allegation that the package of changes will make the system more complex for small businesses, but the changes to the small companies rate in clause 3 do not make any difference to the level of complexity. The annual investment allowance, in fact, makes tax simpler for small businesses. If the hon. Member for Fareham will not take it from me, perhaps he will take it from the chairman of the tax committee of the Federation of Small Businesses, Simon Sweetman, who said:
The Annual Investment Allowance...should allow what is in effect free depreciation for small businesses on plant and machinery, and has the added benefit of being a simplification.
Julia Goldsworthy: I am listening carefully to the Ministers arguments, but surely there is still a fundamental problem, as the small companies rate will go up now, but the annual investment allowance will be introduced next year. If we are to allow companies to prepare for the changes and make sure that they can offset as he described, would it not be better to introduce the changes simultaneously?
John Healey: The hon. Lady is right that there is a package of changes. I am sure she wants us to get the annual investment allowance correct when we introduce it next year, but she may have missed the point that I made earlier, when I said that for a further yearthis yearalongside this increase in the small companies rate, the capital relief for small businesses that are investing will be maintained at the higher rate of 50 per cent. That helps to deal with her concern.
The package of changes, including clause 3, refocuses the incentives for investment, creates a simpler system that recognises the importance of cash flow in small companies, particularly those making capital investment, and reduces the unfair differential between businesses operating as self-employed businesses and those that choose to incorporate. I hope that, having heard the breadth of the arguments, the hon. Member for Fareham will not press the matter to a Division. If he tries not to allow clause 3 to stand part, I shall have to ask my hon. Friends to ensure that the clause, as an important part of the package of changes that the Chancellor announced in the Budget, remains part of the Bill.
Mr. Hoban: It has been a wide-ranging debate, reflecting the nature of the arguments used by the Government to support the increase in the small companies rate of corporation tax and the breadth of opposition to that policy. The Minister set out the argument that the Government made a mistake in 2002, when they discriminated in favour of incorporation by introducing the zero per cent. rate of corporation tax. They now seek to reverse that measure by raising the small companies rate. That will have an impact on a wide range of businesses making profits of up to £1.5 million.
We see a wide-ranging attack on those small companies and an increase in the tax that they will pay. The numbers speak for themselves. There will be an £820 million increase in the tax take from those small businesses, equivalent to £1,000 per company, yet the benefit of the offsetting package amounts to about
£60 per small businesses, so businesses will be hit hard. Small companies will see an increase in their tax bill, without the offset.
As the Financial Secretary indicated, businesses that do not seek to invest in assets will be penalised. They will not benefit from the increased capital allowances on offer. There is discrimination against businesses that seek to grow by employing more staff and against knowledge-based companies. A great bias seems to be developing in the arguments put by Labour Members against the service sector, which, according to the hon. Member for Wolverhampton, South-West, (Rob Morris) does not contribute much towards exports, whereas we know that service sector businesses of all sizes make a major contribution towards exports. A large number of them export a significant amount of their turnover and play an active role in exploiting those markets.
The measure is ill thought through and ill conceived. Since the Government were elected in 1997, the large number of changes to the small companies corporation tax rate have sent out a mixed message to those companies. When they see the large companies rate of corporation tax being cut in the Budget, they wonder what the Chancellor thinks small companies are up to. They feel that the Government do not take them seriously and do not believe that they are the backbone of the economy and an important job and wealth creator. For that reason, I propose that we vote against clause 3 stand part.
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