Corporation Tax in Northern Ireland

Written evidence from Invest Northern Ireland

Executive Summary

1. A lower rate of Corporation Tax could enable Northern Ireland to attract more profit-focused FDI where tax is a key influencing criterion. Invest NI's current value proposition, based on competitive costs (wages and property), is attractive to lower value-added activities which offer relatively low wages (and have low productivity). In attracting more FDI to Northern Ireland, a lower rate of Corporation Tax would provide a strong additional "selling point" to help Northern Ireland compete for higher value-added investment. It would also help to offset the impact of forthcoming reductions in SFA thresholds which, as already indicated, will constrain Invest NI’s ability to provide grants to attract FDI.

2. It is difficult to predict with certainty what practical impact a 12.5% rate of Corporation Tax may have on the volume of new FDI Invest NI would be able to secure for Northern Ireland. The Report of the Independent Review of Economic Policy rightly acknowledged Invest NI's success in attracting volume FDI into NI. It also raised concerns on the quality, particularly within business services, where foreign-owned firms have lower productivity and offer lower wages than local firms, although a refocusing towards higher value-added projects, particularly since 2008, has begun to address this issue.

3. Initial analysis, based on broad, high level assumptions, indicates that a lower rate of Corporation Tax could potentially attract around £1bn of extra investment and 3,200 additional jobs per annum (over and above what Invest NI already attracts) in key export sectors. This works out at an additional 64,000 jobs over 20 years – lower than the estimates produced by the Economic Reform Group but nonetheless significant, particularly in the context of the tightening labour market in NI.

4. Invest NI acknowledges that any move to a 12.5% rate of Corporation Tax for Northern Ireland would have associated complexities and costs impacting on public expenditure which would need to be explored in detail by those best placed to undertake such work. However, viewed broadly, fiscal incentives may be the most significant new policy option for the NI Executive, and it is our firm view that it would enhance the economic future of the region and enable Invest NI to attract significant additional investments.

Introduction

5. The Northern Ireland Affairs Committee announced on 28 July 2010 that it is to carry out an enquiry into Corporation Tax in Northern Ireland. Invest Northern Ireland welcomes this enquiry, which it believes is timely, particularly in view of the work currently being done by the Executive Sub Committee to develop an Economic Strategy for Northern Ireland. Invest NI also acknowledges the Government’s announcement that it intends to reduce the UK rate of Corporation Tax from 28% to 24% over a four year timescale. This paper represents Invest NI’s formal response to the Northern Ireland Affairs Committee’s Call for Evidence.

Background

6. Invest Northern Ireland (Invest NI) was established on 1 April 2002 under the Industrial Development Act (Northern Ireland) 2002 as a non-departmental public body, sponsored by the Department of Enterprise, Trade and Investment (DETI). It is responsible for helping to support the development and growth of the NI economy, principally through:

· attracting new Foreign Direct Investment (FDI) to locate here;

· stimulating reinvestment and expansion by existing businesses engaged in manufacturing and tradeable services;

· supporting export development;

· driving forward increased business involvement in Innovation and Research & Development; and

· encouraging the expansion of an entrepreneurial culture throughout NI by supporting start-up businesses.

7. Following the restoration of Devolved Government in May 2007, the Executive’s Programme for Government 2008-11 made the NI economy its first priority. A wide range of challenging Public Service Agreement targets was set for Invest NI over this three-year period, to build on the already significant performance achieved by the Agency since 2002. The global economic downturn was not foreseen at the time the 2008-11 targets were established. While it has impacted significantly on Northern Ireland businesses, in addition to increasing the challenge associated with securing new FDI, Invest NI remains broadly on track to meet the majority of its targets by 31 March 2011. Details of Invest NI’s performance are provided at Annex A.

State Aids

8. Historically, as Northern Ireland qualified for many years as an Objective 1 area under the European Commission’s Regional Aid Guidelines, Invest NI and its predecessor agency were able to avail of State Aids in constructing the package of assistance used to attract new FDI and to stimulate further investment by existing companies. The principal measure used over this period was, and currently is, Selective Financial Assistance (SFA). However, as Northern Ireland no longer holds Objective 1 status, the forthcoming changes to the Guidelines, which will result in the present Aid Ceilings being reduced progressively between 1 January 2011 and 31 December 2013, will significantly reduce the level of assistance that may be offered by Invest NI.

9. It is inevitable that this will impact on the Agency’s ability to attract new FDI. It may also influence Invest NI's ability to stimulate reinvestment by existing companies, particularly those who may consider that there may be advantages for them to establish a facility (or to relocate entirely) in the Republic of Ireland (RoI) in view of the favourable 12.5% Corporation Tax rate available there.

The role of FDI in Northern Ireland

10. Attracting and retaining Foreign Direct Investment (FDI) is an important means of promoting economic growth in a region such as Northern Ireland. Foreign-owned firms are associated with higher levels of productivity. They create wealth for Northern Ireland through exports and can introduce new skills and new technologies. Some other potential benefits are:

· Introduction of new management techniques and practices

· Introduction of new markets

· Can bring higher quality jobs

· Can bring investment to areas of social disadvantage

11. Invest NI promotes Northern Ireland in five key markets – US, GB, ROI, Western Europe and India. Additionally it also has representation in Japan. Competition to attract Foreign Direct Investment has never been greater. Companies now have a wide choice of potential locations for their investment projects and it is becoming increasingly important for locations and economic development agencies to demonstrate to companies that their countries and regions have the right solution to meet their needs.

12. In terms of Northern Ireland as a strategic near shore/ off shore location for FDI projects, Invest NI has found that their key competitors tend to target similar sectors including ICT, FS and Business Services and complete in the same markets, principally UK, Europe and the USA.

13. The Independent Review of Economic Policy recognised the importance of FDI in building a more dynamic and innovative private sector and acknowledged that Northern Ireland is the most successful UK region at attracting FDI when measured on a per capita basis (see chart below) although behind the Republic of Ireland.

Jobs Promoted in New FDI projects (per million people) 2002/3 – 2007/8

14. In order to make performance comparisons, Invest NI has used the term ‘contestable’. This refers to the sectors and business functions that Invest NI is directly targeting for foreign direct investment and which are considered to be the strongest propositions within Northern Ireland. Contestable projects are those mobile projects that Invest NI competes in and within the FDI Markets tool, these are defined as follows:

· Sectors: Aerospace, Business Services, Business Machines & Equipments, Communications, Electronic Components, Financial services, Semiconductors, Software & IT, Shared Services centres, Customer Support centres, and Technical Support Centres

· Business functions: Business Services, Design, Development & Testing, Internet or ICT Infrastructure, Research & Development.

· Both new and expansion projects are included in this analysis

This has, to date, included those business activities and sectors which are less tax sensitive.

Republic of Ireland and IDA

15. While Northern Ireland has performed well in securing FDI compared to other UK regions, this performance must be considered modest when set against the RoI’s performance. Ireland has traditionally competed for all projects and offers a headline rate of tax of 12.5 %. It has had considerable success and is regarded as one of the most successful regions for FDI, gaining a worldwide reputation as an excellent location. Its success can be seen in the following table:

Source: FDI Markets 2010

16. Within the UK, Northern Ireland is unique in having a land border with a jurisdiction offering lower tax rates. As a consequence, in circumstances where the choice of a Northern Ireland location would offer no clear advantage in other respects, then for companies making significant profits there is a compelling business case for locating in the RoI. This incentive is most acute when companies are considering first time/Greenfield investments. The disincentive to repatriate profits to the USA, for example, generates large re-investible surpluses for RoI-domiciled companies.

17. To win inward investment against competition from the RoI and other countries, Northern Ireland must neutralise the tax effect. Historically, this has often been achieved by focusing on operations that are not tax-sensitive, ie, those that are structured to yield modest taxable profits, although this reduces their value-added in financial terms.

18. However, in developing its Corporate Plan 2008-11 and the associated Programme for Government targets for the same period, Invest NI has pursued a strategic approach which has increased the focus on securing a greater proportion of higher value-added projects. Investments secured in, particularly, Financial Services and ICT have demonstrated considerably higher value-added and foreign-owned companies within the manufacturing sector enjoy productivity almost twice that of their local counterparts.

The Potential Impact of Low Corporation Tax on FDI into Northern Ireland

19. There are several stages in making the FDI decision

Stage1: Listing of countries acceptable on political and economic basis

A top level screening with high level criteria such as access to markets,

financial and economic stability.

Stage 2: Establishing cost model in a location and potential return on

investment.

An analysis of availability and costs of: staff, supplies, energy, transport, premises and funding availability. The company will usually rank countries in terms of availability and costs of these operating requirements.

Stage 3: Financial appraisal and location decision

The countries that make it to the short list will then be subject to financial appraisal. The influence of tax rates comes into play at this stage since they are only relevant if a company projects that it can operate efficiently and profitably in a location. This will entail working out the pre-tax profits based on the cost analysis at Stage 2 and then focusing on two key financial parameters:

i) Return on investment after tax
ii) Capital funding needed to be provided or underwritten by the parent

company.

20. Where low corporate tax rate is a key criterion, Northern Ireland will not make the list at all. And where it is not a key criterion, Northern Ireland will compare unfavourably in return on investment if profits are going to be generated by the new operation.

21. Should corporation tax be lowered in line with other regions such as Ireland there would be benefits in selling Northern Ireland in as an FDI location. Key benefits would include:

(a) Making selection lists where low tax is a key criterion;

(b) Ability to target tax sensitive sectors and companies such as life sciences and pharma;

(c) Enhancing our overall cost model for companies;

(d) Enabling targeting of European HQs;

(e) Enabling targeting of other business activities such as treasury; and

(f) Making Northern Ireland more competitive against other European regions.

22. In this context, the Government’s intention to reduce the UK rate of Corporation Tax to 24% over a four year period is to be welcomed. However, set against the continuing availability of a 12.5% rate in the RoI, this is unlikely to offer any meaningful advantage in promoting Northern Ireland as a location for FDI.

Further options for consideration

23. Aside from reduced Corporation Tax, it would also be useful to explore whether other fiscal measures could be used to drive economic growth. Options that might usefully be considered include tax credits for activities which Invest NI is working to encourage, including Research & Development; Training; and Marketing.

24. A commitment to undertaking ongoing Research and Development is central to businesses’ ability to become and remain competitive in a fast changing international marketplace. Assisting companies to embrace and expand their R&D and Innovation capabilities is a prime focus of Invest NI activity and the availability of fiscal incentives which could further augment this approach would be a valuable addition to assist this work.

25. Research has demonstrated that companies which invest in skills development achieve a productivity gain. However, NI companies have shown a reluctance to invest sufficiently in this area and Government needs to encourage them to invest in training and development activities to support the achievement of their key business objectives. There is a specific need to incentivise companies to increase skills development activity to improve international competitiveness and export-led profitability and growth. Investment support for skills development needs, coupled with the knowledge that the achievement of business objectives is not constrained by skill shortages, would also be considered a key attraction by potential inward investors.

26. Encouraging and assisting companies to grow their exporting capability is a core component of the work done by Invest NI, as export-generated earnings are essential to sustained economic development. Developing and embedding marketing skills within companies in support of their trade related activities is integral to this work to ensure that they are well positioned to maximise opportunities offered by the international marketplace. The availability of fiscal incentives would significantly complement the work which is already being done in this area.

27. Enterprise Zones could also make a valuable contribution to stimulating investment in Northern Ireland, as would a tax credit for TV drama production. While the UK government underpins the film industry with a globally attractive tax credit for film production, it does not support television drama in a similar fashion.  This is in contrast to the Republic of Ireland, France, Canada and many of the United States of America. Invest NI is well aware that Northern Ireland is currently at a significant disadvantage when trying to encourage and attract television drama production as we do not have a tax incentive supporting this activity.

28. In contrast, the Section 418 tax incentive in the Republic of Ireland attracts television drama production from Germany, Britain and the USA which is worth millions of Euros and supports a considerable number of jobs. That the cost/benefit profile of this incentive is positive – as it is with the UK tax credit for film production - is currently beyond dispute. If Northern Ireland were to be declared an Enterprise Zone this could facilitate a special case being made for the region to benefit from an exceptional extension of the existing UK film tax credit to cover television drama.

ANNEX A

LAST CSR SETTLEMENT TO DATE – INVEST NI KEY ACHIEVEMENTS

Between the 1st April 2008 and 30th June 2010 Invest NI has delivered the following outcomes:

INDIGENOUS & EXTERNAL INVESTMENT

§ Invest NI has attracted and supported over £1billion of investment by local and externally owned companies.  (By the end of this financial year, we expect to exceed the three year 2008-11 PSA target of £1.2 Billion target).

§ Invest NI has secured projects promoting annual wages and salaries totalling £346m.  (By the end of this financial year, we expect this number to increase to £399m substantially exceeding the three year PSA target of £345m).

INWARD INVESTMENT JOB PROMOTION

§ Invest NI has supported projects promoting 5,959 new jobs, 3,671 of which pay salaries above the NI Private Sector Median (PSM), with 2,073 paying salaries 25% above the NI PSM.

§ By the end of this financial year, we expect to have promoted 7,655 new jobs, 5,500 of which pay salaries above the NI PSM with 3,042 paying salaries 25% above the NI PSM against three year PSA targets of 6,500, 5,500 and 2,750 respectively.

§ At present, Invest NI’s major challenge is delivering against the 5,500 jobs above the NI PSM target, and resource constraints are likely to prevent this from being achievable.  The agency, however, will continue to strive to maximise outturn in this area.

RESEARCH & DEVELOPMENT & INNOVATION

§ Invest NI has secured £230m of investment in R&D within the NI business base. 

§ By the end of this financial year, we expect this number to increase to £265m against a three year PSA target of £120m.  This outturn directly reflects the increased emphasis placed on this important area by DETI and Invest NI and the success of a number of initiatives undertaken by Invest NI to increase investment in R&D such as the introduction of the single Grant for R&D Programme.

§ Invest NI has supported 243 businesses to undertake R&D activity for the first time. 

§ By the end of this financial year, we expect this number to increase to 327 against a three year PSA target of 300.

EXPORTS

§ 566 businesses have been encouraged to export for the first time.  (By the end of this financial year, we expect this number to increase to 717 against a three year PSA target of 600).

§ 1,141 businesses have been supported to export into new markets.  (By the end of this financial year, we expect this number to increase to 1,431 against a three year PSA target of 1,200).

1 October 2010