Corporation Tax (Northern Ireland) Bill

Lord McKenzie of Luton Excerpts

Tuesday 17th March 2015 Lords Chamber

[Lord McKenzie of Luton (Lab)]

My Lords, it is a pleasure to follow the noble Lord, Lord Forsyth. It is certainly safer than preceding him in a debate. I start by congratulating the noble Lord, Lord Hay of Ballyore, on his impressive maiden speech. The noble Lord clearly brings vast experience, which will serve us well in this House. It was with a degree of hesitation that I was going to speak in this debate because it looked as though most of those speaking had a long-standing commitment to this cause. I feel a bit more relaxed, having heard the contribution of the noble Lord, Lord Forsyth.

I do not propose to dwell on the historical or constitutional context of the Bill, other than to say that I am happy to follow my party’s lead, as my noble friends on the Front Bench have and will outline. We know that the Northern Ireland economy has underperformed in comparison with the rest of the UK, with some rebalancing of the economy to bolster the private sector being overdue, and reducing corporation tax for Northern Ireland would be one component of a package. The tax rate has a particular significance, given the sharing of a land border with the Republic, which has worked hard to retain its 12.5% rate.

My starting point and first observation, which other noble Lords have made, is that addressing the seemingly straightforward proposition of devolving the rate of corporation tax to Northern Ireland requires some 87 pages of highly technical legislation, albeit encompassing just six clauses and two schedules. This reflects in part the complexity of our corporation tax system, as well as the arrangements necessary to address state aid requirements. I do not argue that this complexity is unnecessary—that is for purposes of the Bill; I accept that it probably is necessary, although there are consequences of this complexity, which I will speak to shortly.

The proposition to devolve corporation tax and the implicit understanding that it would involve a reduction from the current rate, resulting in a boost to foreign or domestic investment, are perhaps not unreasonable. However, as other noble Lords have said—the noble Lords, Lord Trimble and Lord Empey, in particular—we should recognise that it is not necessary in all circumstances to determine the issue of where investment is undertaken. Investors looking to invest in the territory will have a range of requirements, not all the same. The transport infrastructure may be the most important issue for some; for others it may be availability of manufacturing or office space, and the cost of that. I have known housing for expatriate executives and proximity of international schools also to feature. The availability of a locally skilled workforce may be crucial.

Taxation is not just a matter of corporation tax. Particularly for smaller enterprises, the issue may be the personal income tax regime, and especially how international tax protection packages are treated—typically a feature of arrangements for employees seconded by an overseas investor. As for corporation tax, as our briefing identifies, it is not only the nominal rate of tax which is important; it is the effective rate, taking account of the variety of available reliefs, offsets and credits. The extent of these is illustrated by the detailed legislation included in the Bill to make them fit the devolved system. As well as defining a qualifying trade, the Bill covers variously the treatment of losses, intangible credits and debits, R&D credits, expenditure on land remediation, film tax relief and more besides. Obviously these other levers, as the Minister acknowledged, are not to be devolved.

Another point to bear in mind in all this is how any tax levied in Northern Ireland would be treated from the perspective of a foreign investor. Are the overseas profits untaxed at parent company level, or is the tax otherwise creditable against home country taxes on one basis or another, and when do they apply? The overseas effective rate may be more significant in the former, rather than the latter, case. We were advised at our briefing, which the Minister was kind enough to organise, that the UK’s double tax treaties would continue to apply to a Northern Ireland company, as defined; and this is obviously important. The Minister might just say whether the Government consider that any corporation tax levied at the NI rate on the uplift on back-office expenses brought within the regime would generally be creditable, given that the tax is based on deemed, rather than actual, profits. There is a potential multiplicity of factors which influence the attractiveness of the territory for inward investment. I have no doubt the Assembly is well aware of this but none of it negates the potential benefit of a devolved rate of corporation tax, which provides a strong opportunity to make a statement about Northern Ireland being open for business in a big way and hungry for investment. It is symbolic of a determination to have a business-friendly environment.

Of course, alongside the complexities of the tax legislation there is the necessity to work out the requirements of the block grant adjustment, to which a number of noble Lords have spoken, so that the arrangements do not fall foul of state aid provisions. This involves calculations of tax initially forgone by HMRC by direct and behavioural means—presumably that is at the 20% rate—as well as how a deduction should grow over time. We are told that much work is going on in this regard, particularly to be able to make the judgment of whether or not, for the purposes of the Stormont House agreement, the Executive are able to demonstrate that their finances are on a sustainable footing for the long term.

Can the Minister confirm my understanding that the starting adjustment to the block grant is to take the profits which are going to be taxable at the Northern Ireland rate at a 20% rate as its mechanism, so on day one you are balancing tax through Northern Ireland at possibly a 12.5% rate against a reduction in the block grant at the 20% rate? As I understand it, that is how it is intended to work. How that adjustment is changed thereafter is the particular focus of some work.

Any tax system which has complexity, new definitions and concepts, especially with differential tax rates involved, will inevitably attract the attention of the tax avoidance industry. Doubtless as we speak, countless accountants and lawyers are sharpening their metaphorical pencils to see what tax advantage may be gained when the arrangements are put into effect. In introducing the Bill, the noble Baroness said that we have dealt with the issue of brass-plate companies. That is only one potential part of tax avoidance; other mechanisms will doubtless be brought to bear.

The soundness of definitions around Northern Ireland company, Northern Ireland employee and Northern Ireland profits and losses, for example, are fundamental. For SMEs, as we know, a company will be a Northern Ireland company if at least 75% of its staff time and costs relate to work carried out in Northern Ireland. This is a novel approach for the UK. However, is it correct that this means that up to 25% of employee effort outside Northern Ireland can effectively qualify for the Northern Ireland rate? If so, what will be the overall consequences of this? In theory, this presumably means that this extra tax will be collected and retained by the Northern Ireland Executive but there will be an additional adjustment to the block grant. We were told that on introduction 97% of SMEs will qualify under this test.

A parallel point arises more generally should tax avoiders get away with organising income to be subject to the Northern Ireland rate with economic activity still remaining outside Northern Ireland. In those circumstances, who is bearing the risk of the overall tax forgone? Presumably it would depend upon when this all took place. Will it feature in the initial adjustment of the block grant and how the growth of the initial deduction is to proceed? If the reality is that Northern Ireland bears the risk of tax avoidance, who is going to bear the cost of compliance and making sure that effort is made to tackle that avoidance? Does that rest with the Treasury more generally or with the Northern Ireland Executive?

It is noted that the test for SMEs and staff time is a per company one and on the face of it there is a risk that, within a group, arrangements will be made to have split contracts. How is it proposed to address this? The provisions for identifying the Northern Ireland profits and losses of a large company follow a tried and tested route and adopt the principles that are attributable to a permanent establishment. Nevertheless, this approach can give rise to disputes, although unlike the international situation, the revenue authorities will be seeing both sides of the equation. Internal royalties and interest payable by the Northern Ireland regional establishment are to be ignored, but again this is only intra a single company. It does not seem to look at the wider group context.

I will not speculate about what might happen in the future should corporation tax ever be devolved to Scotland. There could be a three-way tussle to work out to which establishment profits are to be attributable across three territories. We know also that a number of international companies organise their affairs to avoid UK tax and try to sustain that on the basis that they can presumably argue that they do not have a permanent establishment in the UK. Indeed, it would be ironic if the wider avoidance measures now being taken by the Government caused them to seek the shelter of a permanent establishment in Northern Ireland.

Time does not permit me to go into this more. It is a pity that we are denied the opportunity of at least a detailed Committee process on this Bill. I do not argue that so much from a constitutional point of view, just that it would be good fun to get into some of the detail of these provisions. However, I accept that we must acknowledge the position of the elected House. This is an important and, I believe, ground-breaking measure which we hope will have the opportunity to be implemented and prove a stimulus to the economy of Northern Ireland.

--- Later in debate ---

[Lord Newby]

I am afraid that the Government have not taken that view in the way they have produced this. They have thought about it and decided that they did not want to go down that route.

The noble Lord, Lord Shipley, talked about the broader impact of the measure and of APD on the rest of the UK. I agree with him—he will not be surprised to know—in that these things need to be dealt with under a constitutional convention. Nobody could claim that the devolution picture across the UK is anything other than rather piecemeal and the time is long overdue for us to try to bring a bit more coherence to it, not least in terms of the English question.

The noble Lord, Lord Empey, talked about the necessity for the parties in Northern Ireland to agree on the budget reduction. Everybody agrees that the budget reductions should have been embarked on earlier, but the process has now started and we are determined to encourage and support the Executive in the future as they grapple with these issues. We are totally clear that the Executive must balance the budget and, to do that, welfare reform must go ahead.

The noble Lord, Lord Forsyth, ranged widely over our constitutional issues and problems. He did not mention that Yorkshire Day is in the middle of the Summer Recess and therefore I will be denied the possibility of getting a big set of powers devolved to Yorkshire, for which I am extremely sorry—but we cannot have everything. I think the noble Lord’s characterisation of the extent to which this would complicate the system and make life difficult for businesses was slightly overdone. The rules we are introducing for larger companies are based on existing OECD principles which companies already operate. As he pointed out, the design seeks to retain coherence within the corporation tax regime as whole. Only one variable is being affected and the whole system is being administered by HMRC, with which all the companies already have relationships.

The noble Lord, Lord McKenzie, asked a number of detailed questions, some of which I hope I can deal with. He asked whether the notional profit attributable to back office was creditable in the rest of the UK tax computation. This notional profit forms part of the attribution of trading profits to the Northern Ireland regime, so will not feature as mainstream—to use the language of the Bill—profit; that is, non-chargeable at the UK rate.

[Lord McKenzie of Luton]

I am sorry, but my question was about not whether they are creditable within the UK system but whether they would be creditable to a foreign investor.

[Lord Newby]

I shall have to write to the noble Lord on that point, but I suspect that the answer is yes. However, I am not confident, so I shall write to him.

The noble Lord asked about whether an SME that is determined to be within the Northern Ireland regime but has 25% of its activity within the UK has all its corporation tax charged at the Northern Ireland rate. The answer is yes—all its qualifying profits will be taxed at the Northern Ireland rate. It is estimated that more than 99% of the small and medium-sized businesses affected have 100% of their trading activity in Northern Ireland. That seems rather a large figure but, even if it was slightly less than that, the amount of potential tax forgone for the UK in one guise or another is very small.

The noble Lord asked how it would work in calculating the block grant. If and when this power is in place, the Executive’s funding will consist of three elements. The Barnett formula continues to operate, so there is the Barnett-based block grant. There is then a block grant adjustment, so there is a deduction from what they would otherwise have got, to reflect the CT revenues forgone. Then you put back in the CT revenues that you are collecting. That is the principle of it. I accept that actually doing it is quite complicated, but the principles are quite clear.

[Lord McKenzie of Luton]

I shall not make this a dialogue, but is the consequence that on day one the deduction from the block grant would effectively be at the current mainstream corporation tax rate and the benefit at the Northern Ireland corporation tax rate? Clearly there is a differential between the two, which is why you get a substantial negative in the block grant, at least on day one.

[Lord Newby]

Yes, it is the difference between the 20% and the 12.5%.