Having delivered painful but necessary austerity measures in the face of popular protest, UK chancellor George Osborne is now navigating a difficult line in shoring up public finances while also keeping the UK in a competitive FDI position vis a vis taxes.
A recent survey by the World Bank and PricewaterhouseCoopers warned the UK is sliding down the list of the best tax systems in the world for business. The survey placed the UK in 16th position out of 183, compared with 11th position in 2009. The report said despite the headline rate having been decreased from its previous 30%, this advantage was negated by a restriction in tax allowances for capital expenditure. The treatment of ‘controlled foreign companies’ (CFCs) in the tax code attracts particular ire. (This applies, broadly, to companies controlled in the UK but resident in an overseas territory in which they are subject to a lower level of tax. Exemptions apply, but where a company is deemed a CFC the relevant portion of its profits is brought into UK tax in the computations of its UK resident corporate shareholders.)
“I’ve already taken steps to bring the UK’s corporation tax rate down over the next four years – 1% a year – so it remains the lowest in the G-7 and fifth lowest in the G-20. I think that is a good headline rate and good for the UK but we also have to address the problem of the CFC regime, which has clearly been a cause of concern for some companies and indeed led directly to some companies leaving the UK,” Mr Osborne told fDi Magazine during the IMF-World Bank annual meetings in Washington, DC, in October.
“It is a very, very complex regime so there isn’t a straightforward answer but we are engaging in it and we’ve explicitly put it on the table – it was in our manifesto as something we wanted to address. And we are hopeful that over the next few months we will build up to the next budget and can get an answer [on CFC rules] that not only stops international businesses moving out of the UK but actually starts to attract some of them back. So we get most if not all our numbers back.”
The tax conundrum
Questions of tax-and-spend are as complicated, and emotive, in the UK as anywhere post-crisis, and certainly there are few straightforward answers. Mr Osborne defends the decisions to stick to an increase in value-added tax levied by the previous administration at the beginning of the year as well as a rise in the top band of personal income tax to a rate of 50%, the latter of which has been criticised for potentially driving wealth creators and international talent out of the country. As a Conservative chancellor, Mr Osborne must protect his right flank and keep business leaders happy while not being open to charges of protecting the rich at the expense of public services or low earners.
“Although it wasn’t at the centre of political debate there was a fiscal tightening by an increase in taxes,” he says, citing the VAT and ‘high earners’ income rate rises.
“As a new government we found £6bn [$9.46bn] savings in public spending and so I don’t think you could point to a material impact on the UK economy this year,” he adds. “When it comes to next year, if you look at all the available evidence I’ve seen and all the international advice and best practice, it all suggests [that a government should] increase consumption taxes and reduce corporate taxes and try to focus public expenditure savings on welfare and transfer payments – in that sense we are doing it by the book."
UK FDI fall
The UK’s FDI position is strong, but not assured indefinitely. Figures from the United Nations Conference on Trade and Development (Unctad) suggest foreign investment in the UK fell sharply last year. Its annual World Investment Report said overall FDI (which includes equity and portfolio investment as well as new and expansion projects) into and out of the UK plummeted below global averages in 2009, largely owing to merger and acquisition (M&A) activity drying up in the credit crunch.
The UK fell from fourth to fifth place globally as a recipient of total FDI inflows last year – with investment down to $46bn from $91bn in 2008, according to Unctad. The 49% drop compared with a global fall of 37%.
But Unctad noted the dive was likely to be a recession-related blip rather than the start of a new pattern for UK investment flows. And the picture for strictly greenfield investment – if the more volatile M&A figures are stripped out – looks more positive. Investment monitor fDi Markets cited the UK as one of the few major economies globally to have experienced a rise in inbound greenfield projects in 2009, off the back of strong performance in sectors such as business and professional services and information and communications technology. Manufacturing remains more solid as a sector than is often assumed.
Investment promotion overhaul
Nothing if not bold, the UK coalition government (which involves a Conservative partnership with the Liberal Democrats) is also pushing a radical overhaul of the UK’s investment promotion framework which will see the existing regional development agencies abolished in favour of local enterprise partnerships (LEPs).
Mr Osborne says he thinks LEPs will be more responsive and effective than the bodies they are replacing. Asked whether the new system might leave the UK investment promotion landscape fragmented into too many disparate pieces, the chancellor insists that will not be the case. “I’m an MP in the north-west of England and if you have an LEP for the whole of greater Manchester or the whole of Merseyside, they are going to be pretty powerful and focused bodies,” he says.
“[The new system] will be better than what we had, for example, in the north-west of England, which was a body covering the whole of the region from near the Scottish border to a couple hundred miles south. The LEPS will be better and more effective.”
A government White Paper on the subject, published in October, stated that 24 LEP proposals have been given the go-ahead. The government also announced a £1.4bn Regional Growth Fund to “support communities currently dependent on the public sector, helping them make the transition to private sector led growth and prosperity”.