Finance Bill

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Angela Eagle: Before I speak to the amendments, it might be helpful if I set out the purpose of the schedule. The Budget 2007 package of reforms that announced this change was intended to encourage investment. It includes a refocusing of the incentives for small companies towards incentives. First-year tax credits, also referred to as payable enhanced capital allowances, are one of the incentives. Like the annual investment allowance, which we discussed earlier, first-year tax credits are aimed at promoting business investment specifically in environmentally sustainable places. The Government recognise that high and sustainable levels of economic growth must not come at a cost to the environment, and a number of policies are currently in place aimed at trying to make that growth more environmentally sustainable.
The 100 per cent. first-year allowances and ECAs are already available for investment in designated energy-saving and environmentally beneficial plant and machinery—that means water-efficient as well as energy saving. Those allowances deliver a cash-flow boost by way of a shortened payback period to businesses that invest in green plant and machinery, which becomes more attractive to purchasers owing to the reduced relative cost. The purpose of the ECAs is to address market failure. The more environmentally sustainable infrastructure, to which I have just referred, is often much more expensive than less environmentally sustainable water and energy efficient systems.
Mr. Hammond: I am sorry to be pedantic, but market failure is a phrase that trips off the lips of Ministers rather too easily. Why is it a market failure just because the environmentally-friendly kit costs more than the non environmentally-friendly kit?
The benefit to businesses of ECAs can be reduced when they are loss-making—this is the point of the schedule before us—particularly when the tax losses cannot be relieved for a number of years, perhaps because the business remains loss-making for an extended period. That would reduce the incentive for loss makers to invest in the green plant and machinery, because they would not get the benefit of the credit. The schedule introduces first-year tax credits available in respect of qualifying expenditure incurred on, or after, April 2008, and will be of particular benefit to start-up companies investing in equipment for their businesses.
The first-year tax credit regime will allow companies, within the charge to corporation tax, to surrender losses attributable to investment in designated energy-saving or water-efficient plant and machinery to the Government in return for a cash payment. The regime is broadly based on the well tested model for research and development tax credits. Obviously, a company may utilise losses that it has made only once, so once a loss is surrendered for a tax credit, it cannot be carried forward or relieved in any other way. The cash payment that a company will receive is 19 per cent. of the loss surrendered—subsequent amendments will deal with that point, so I shall not labour it now. Provisions are in place to vary that percentage, but there is an upper limit, or cap, on the amount that can be claimed, which is a necessary feature of the scheme to prevent the Exchequer from unlimited exposure and to ensure that the annual cost of the measure does not exceed anticipated levels. The cap must be set at a level to ensure that companies of all sizes can obtain a genuine benefit from the tax credit scheme.
The amendments seek to extend the benefits of the scheme to sole traders or partnerships. There are issues here about fraud, abuse and complexity, which we dealt with in a similar context earlier. The hon. Gentleman again raised the point about the Government being in favour of fairness between different legal forms of companies. That is true, but it is not the same as saying that there should be no differences between the tax treatment or legal treatment of different forms of company.
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If the hon. Gentleman were to take his comments to their logical conclusion, he would seem to be arguing for a single tax form for all types of company, be they partnerships, sole traders or those limited by legal liability. I am not certain that I understand the philosophical point that he was making when he said that we are discriminating between different forms of company. In UK law there are different legal forms of company that have different types of tax liabilities, ranging from income tax to dividends and corporation tax, and which are long standing in UK law. I am not certain why he seems to be saying that the Government discriminate against those different forms of company, because we do not. There are several different strands of ownership that individuals who wish to set up either as limited liability companies, sole traders or partnerships can choose to adopt.
Mr. Mark Field (Cities of London and Westminster) (Con): I understand the point that the hon. Lady is trying to make and do not think that anyone is suggesting that there should be an absolutely identical tax treatment for different sorts of business organisation. Nevertheless, surely the market failures and the cash flow problems that emerge in the early stages of any business, which she put forward as a justification, apply every bit as much to sole traders and partnerships as they do to companies, if not more.
Angela Eagle: There are different tax systems for sole traders and partnerships, which allow them to make different arrangements for writing off investments they make. There are issues relating to how one would define what limited liability partnerships are. For example, there is a long history of limited liability partnerships being used as a way of abusing R and D tax credits, and there are examples that we have to avoid so that in any system in which we create a circumstance where money is available to be paid back, set against losses, we must ensure that that can be done in a way that does not encourage fraud, avoidance or abuse. The hon. Member for Runnymede and Weybridge said that we are discriminating against sole ownerships and partnerships who need those payments the most, whereas companies in fact currently access ECAs far more than sole traders and partnerships.
Mr. Hammond: Unless I have misunderstood, they are not available now, so how can companies access them more than partnerships and sole traders?
Angela Eagle: The allowances are available currently, and what we are discussing in this clause is a payment for those who are loss making, and that is what is different.
Mr. Hammond: I understand that point, but does she agree that it is a big extrapolation to say that because companies access ECAs more than sole traders and partnerships, they need the payable tax credit more than sole traders and partnerships? It will be small, start-up and unprofitable businesses that can take advantage of this payable credit. We are creating another artificial driver to incorporation. We have seen that before in the incentives that the Prime Minister introduced while Chancellor to incorporate with zero-band small companies rates that had to be clawed back when the consequences were not those that he had wanted to see.
Angela Eagle: The Government’s aim is to encourage and support companies, particularly start-ups, to invest in green plant and machinery, and the tax rules differ for incorporated and unincorporated businesses. With regard to aspects such as tax rates and personal allowances, unincorporated businesses already have more generous provisions than companies for relieving losses in the early years of trading, and allowing companies to surrender losses for tax credits redresses a difference there. There is form in that some schemes have been set up using limited liability to abuse R and D tax credits. That would be likely to happen again if we allowed the extension of this generous scheme to sole traders and partnerships, as proposed in the Opposition amendments.
Mr. Field: This is the second occasion on which the Exchequer Secretary has mentioned the notion of fraud and form, as she put it. Can she give the Committee some evidence of this behaviour by sole traders and partnerships that has deprived the Treasury in the way that she has explained? It is important in this debate that we have some direct evidence that we can look at so that we can make a judgment about whether the amendments are the right way forward.
Angela Eagle: Some of the issues with the film tax credit would give such examples. I can write to members of the Committee with examples if that is what they wish. I do not intend to stand here and detail particular instances of fraud and abuse. That would be quite wrong. The hon. Gentleman can take it from me that there are plenty of examples where limited liability partnerships have been created to make extremely dubious claims and avoid tax liabilities. That is far from the intended purpose of either the R and D tax credit scheme or this measure.
Mr. Hammond: The hon. Lady has alluded to fraud in the R and D tax credit system. The structure of her argument was that the first-year payable tax credits broadly reflect the arrangements for the R and D tax credits and there have been problems with those. She has mentioned only limited liability partnerships, but says that we will therefore exclude all partnerships and all sole traders. If there is evidence to suggest that there is a problem with limited liability partnerships, she should by all means exclude them, but she should not throw the baby out with the bathwater and exclude all of the sole traders and ordinary partnerships that make up the great majority of SMEs. If there is evidence of such abuse, where is the proposal in the Bill to correct that by excluding partnerships and sole traders from access to the R and D tax credit?
Angela Eagle: I have talked about limited liability partnerships, but we have also seen avoidance schemes where individuals seek to abuse the first-year allowances available to SMEs for expenditure on information and communications technology. There is evidence that these schemes are targeted for avoidance by the self-employed. The anti-avoidance group advice is that we would need very robust anti-avoidance rules if the tax credit regime were to be extended to the self-employed.
Mr. Hammond: I am slightly taken aback by a challenge from the Exchequer Secretary to explain my proposals for anti-avoidance, when she has been completely unable to explain to the Committee the avoidance that she is so concerned about. She has, however, made a couple of specific points that are worthy of consideration. She referred to the availability of sideways relief in some cases for partnerships and sole traders, and I accept that to some extent, it would be a way of relieving unrelieved capital expenditure for a loss-making start-up business. That is a sound point and worth considering. I do not accept, however, her lecture on economic theory—that where a low-volume product costs more than a high-volume product, it is evidence of market failure.
Angela Eagle indicated dissent.
Mr. Hammond: The hon. Lady did say that. It may be evidence of a situation that the Government do not like and want to intervene on, but it is not evidence of market failure. We must be careful about detecting market failure. I may have said this before, but her predecessor detected market failure in every corner, and it is not the culprit in the situation under discussion.
The hon. Lady raised the issue of sideways relief and the way it interacts with the ability of sole traders and partnerships to claim it. I shall seek the Committee’s leave to withdraw the amendment so that I can consider the issue and talk to others outside the House about it. She has not, however, answered the question about reform to the R and D tax credit regime. If there is abuse on the scale and of the order that she talks about, the Government should table amendments to the R and D tax credit regime similarly to exclude partnerships and sole traders, but I have not seen any sign of such activity. I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
Mr. Hammond: I beg to move amendment No. 214, in schedule 25, page 301, line 39, leave out ‘19%’ and insert ‘20%’.
This is a probing amendment; it will not take me a moment to make the point. The amendment seeks to alter the payable rate of credit from 19 per cent. to 20 per cent. There is no particular magic about the 20 per cent. rate, other than that, conveniently, it was the small companies rate before the proposals to increase it still further. We cannot see any magic about 19 per cent. Perhaps there is a complex calculation that shows why the payable credit has been set at that level. It is not, after all, the main rate of corporation tax, it is no longer the small companies rate, and it is not the capital gains rate or any rate that I am aware of. It may be the VAT rate in one or two European countries, but what is the logic of 19 per cent? How was it calculated, and how was it arrived at?
Angela Eagle: It may help if I explain why the Government have set the rate of credit at 19 per cent., which is essentially what the hon. Gentleman asked.
As with the R and D tax credit, first-year tax credits are intended to help loss-making companies by delivering the benefit of the tax relief provided by enhanced capital allowances earlier than they would otherwise receive them, because of their loss-making status. Reflecting the time value of money, and—this is the balance in setting the rate—the fact that we do not wish to incentivise companies to be loss-making, because it would result in all sorts of negative behavioural consequences as I am sure the hon. Gentleman agrees, we discount the rate at which the credit is given to loss-makers. That is the first thing: it must be less than the credit that would be delivered to those making a profit.
Secondly, based on how long a company, on average, makes a loss before it turns a profit as a start-up, 19 per cent. is a generous rate of allowance for companies paying the small companies rate of tax. It was decided upon by undertaking research to find out how long in general start-up companies take to get into profit, analysing how it works and knowing that it must be below 20 per cent. so that we do not incentivise actual loss making. Nineteen per cent. is above the amount of credit that would be implied by taking a value of the time aspect of money for cash flow, which would make it generous.
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There is a balance between recognising that in future the rates of tax might change and recognising that the generosity of relief to loss makers and profit makers might shift. The hon. Gentleman might notice that we have taken up the question of how to vary the rate of the credit in future years. However, the key balance is to ensure that we do not reward loss makers to the same degree as profit makers.
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