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Official estimates have “vastly inflated” the long-run cost of extending a tax break that businesses see as crucial to boost investment in the UK, according to analysis by a leading think-tank.
The temporary relief, put in place by chancellor Jeremy Hunt in April alongside a big increase in the main corporation tax rate, allows businesses to deduct the full cost of investments in IT equipment, plant or machinery from a levy on their profits.
Hunt said then that the “full expensing” policy, in place initially for three years, would make Britain’s capital allowance regime the joint most generous among rich economies, signalling his intention to make it permanent “as soon as we can responsibly do so”.
Business groups, including the CBI, are pressing the chancellor to put the measure on a permanent footing in next month’s Autumn Statement, despite Hunt’s warning that tax cuts are “virtually impossible” at present. They argue it is vital to help the UK compete for international investment.
The Institute for Fiscal Studies said on Friday that in its current form, the measure would carry big upfront costs but would have “little or no effect” on the UK’s capital stock, because businesses would accelerate existing investment plans but lack the certainty needed to plan complex new investments.
“The corporate tax base has changed almost every year since 2010,” said Helen Miller, IFS deputy director. “On the back of all that, a temporary policy is particularly problematic . . . If there is a change of government, it adds to the uncertainty.”
The IFS analysis, published on Friday, found that while the Treasury estimated the policy would cut government revenue by about £10bn a year in the short run, this gave a “vastly inflated impression of the long-run cost”, which would ultimately be just £1bn to £3bn for each year the relief lasted.
This is because in the policy’s absence, companies would still be able to deduct investment spending over a longer time period — lowering their tax bill in later years.
“Full expensing merely allows firms to deduct their investment spending earlier, and so pay tax later, than they otherwise would,” the IFS noted.
The think-tank said there were still downsides to the policy, as it increased an implicit subsidy for debt-financed investments, which could make some projects profitable even if they were not otherwise commercially viable.
It also created a bias towards investments in plant and machinery rather than those in buildings, training or other intangible assets.
Despite these trade-offs, the IFS said making the policy permanent would be preferable to letting it expire — ideally in the context of broader reforms to treat debt and equity financing equally, and to extend full expensing to other investments.
