Tackling Corporate Tax Avoidance: EAC Report

Lord Hollick Excerpts

Wednesday 30th October 2013 Lords Chamber

[Lord Hollick (Lab)]

My Lords, it is a great privilege and pleasure to follow the noble Lord, Lord Leigh of Hurley, in his maiden speech. He is very welcome to this House. He and his family have been on the most interesting journey. His 30-year or so perspective on the tax matters that we have been looking at is most helpful. It is interesting that he was grappling with some of the same problems then, although there are also some new ones.

What struck me is that when the noble Lord said that tax arrangements were not fit for purpose, and he speaks with great authority, he used the expression that the UK was “leading the way”. One of the most disappointing things about the Government’s response is their failure to pluck up the courage to lead the way. This is something that as a country we rather hold our heads up high about and say that we believe we can find a way forward on these difficult matters, but unfortunately that has not been the response of the Government. I thank the noble Lord for his remarks.

I also thank our chairman, the noble Lord, Lord MacGregor, for leading us at a brisk pace through a complex area, and for coming up with some important and sharp points that need to be taken on board and considered at length by the Government; indeed, I hope that the House will remind them of the need to do that.

I declare my interests in several companies and partnerships, which are listed in the register of interests. As has been said, corporation tax makes an important contribution to public finances, accounting for between 9% and 10% of total tax receipts over the past decade. As we know, for the vast majority of companies—SMEs and companies that are based here—tax payment is a matter of routine: taxes are calculated, reviewed and audited, and payment is made. However, for many large companies, some based here but also some multinational companies headquartered elsewhere, the tax charge can be manipulated downwards—in some cases, near to vanishing point—to boost profits, to the great benefit of owners. This is because of the sheer complexity and asymmetry of tax laws here and in other countries.

These large companies therefore have the opportunity effectively to game the system. They are aided by a sizeable army of advisers—the big four accounting firms, top legal firms, specialist tax advisers and of course banks—all of which make a very grand living from providing that advice. Of course, many of those people also advise the Government and HMRC on the detailed framing and operation of tax regulations—tax regulations that they are then free to game when they return to the commercial world. It is a case of foxes having a free entry pass to the henhouse. The opportunity to play these games, as we heard, arises from the historic structure of corporation tax based on physical presence in one country, but this has been made redundant by globalisation and digitisation.

When I started in business in the City, tax planning used to fall into two categories: avoidance, which was legal, and evasion, which was not. Today there is a third category, aggressive avoidance, which amounts to a no-holds-barred exploitation of loopholes in national and international statutes. The activities may be contrary to the spirit of the law but they are, just, within it. The Prime Minister put it well when he said at the G8 that forms of aggressive tax avoidance,

“raise ethical issues and it’s time to call for more responsibility”,

from companies,

“and for governments to act accordingly”.

The stock defence for companies that engage in aggressive tax avoidance is that they have a duty to their shareholders to maximise their profits. Farrer, the firm of lawyers, based on opinion from leading counsel, recently published an opinion that said:

“It is not possible to construe a director’s duty to promote the success of the company as constituting a positive duty to avoid tax”,

so that defence falls away. When the Chancellor hailed the G20 communiqué that stated:

“Cross-border tax evasion and avoidance undermine our public finances and our people’s trust in the fairness of the tax system”,

he put his finger on the uncomfortable truth that while most companies and individuals are expected to pay their fair share of tax and are vigorously pursued if they do not, large companies with deep pockets to fund the defence of their tax arrangements are treated quite differently. This is the case with Goldman Sachs and Cadbury—and, I am sure, many others that we do not know about—which are able to negotiate an advantageous settlement that rarely sees the light of day. A tax system that is mandatory for all but the very biggest, for whom it is voluntary, is grossly unfair and, as many noble Lords have said, undermines the trust and sense of responsibility that are essential to the proper functioning of the tax system.

Many witnesses confirmed what business leaders say in private and sometimes in public: that the panoply of schemes to shift profits abroad, and to load up companies with debt, enables them to choose the tax charge that they wish to pay, safe in the knowledge that HMRC will not pursue them. In HMRC’s eyes, legal form triumphs over substance, so a business that earns a substantial economic rent in the UK can divide up its activities—such as purchasing, marketing, brand ownership and financing—into different corporate entities located in different countries, to take advantage of the low tax rates in those countries.

This structure completely defies the way the business is actually run. Nevertheless, it is accepted by HMRC. Google has been referenced. Interestingly, the group profit margin of Google is 22.5%. Assuming that the UK, which is one of its largest markets, would achieve the same margin on a turnover last year of £3.5 billion, it would make a profit of just short of £800 million, on which nearly £200 million of corporation tax would be paid. This compares with the £11 million that was actually paid. That is the scale. As my noble friend Lord Browne mentioned, the tax gap does not include any of this. It is a very difficult number to put your finger on but in one company, Google, that is probably the scale of tax avoidance. Eric Schmidt, the Google chairman, pointed out that Google is only following the rules and it is for the Government to determine the rules, and when they do the companies will respond accordingly. He has a point: it is the Government’s responsibility.

Cadbury, which was investigated in a most illuminating article in the FT recently, appears to have strayed a very long way from its founding Quaker principles. Its tax planning was so aggressive that it decided that a couple of schemes were so likely to raise a red flag that it stopped them after 11 months. Therefore, by the time the year-end came around Cadbury did not have to be audited. However, in the 11 months it had spirited away £30 million of profit. I would be interested to hear from the Minister on this point whether HMRC is now looking at intra-year schemes which might not appear on the books but generate considerable savings. I appreciate that he may wish to write to me on that point.

In response, the Government state that they support the principle that profits and taxing rights shall be linked with economic activities, but to achieve this we need better rules. Indeed, the OECD work is important but, as the noble Lord, Lord Lawson, colourfully described, it makes very slow progress and getting multilateral agreement will be particularly difficult. EU agreement might be easier and it would be interesting to know from the Minister whether the Government are prioritising the co-ordination of rules within the EU to reduce manipulation. Many of the schemes we heard about were in fact EU-based.

Of course, there is scope for unilateral action. In his evidence, Professor Picciotto said that,

“it is inappropriate to treat firms which are economically integrated and centrally directed”—

most of the companies we have mentioned today are—

“as if they were a collection of independent entities”.

He claimed that there was discretion under the existing transfer pricing rules of the OECD for countries to take a dim view of this and to say, “That’s not right, it doesn’t work, it’s a sham”. We should have the courage to look into that because the way these companies are reporting for tax purposes is a complete nonsense. It is a complete fiction.

The Government say—and previous Governments have made the same point—that they do not want to frighten away large companies or do anything to upset them. To be fair, as the noble Lord, Lord Leigh, said, it is important that we have a welcome mat but we do not have to lie down and be run over. Large companies such as Google, Amazon, Starbucks and Apple are not going to leave the UK, which is a major market for them, where they make a great deal of money, simply because we require them to pay the right level of tax. It is important that the Government summon up the courage to close the door on these tax avoidance schemes. Yes, as the noble Lord, Lord Leigh, said, we must be clear and consistent about it, but we must also be disciplined if we are to have a fair system. That will actually help competition because it will create a level playing field with international companies having to pay the same level of tax in the UK as the currently disadvantaged UK-based companies. Perhaps a corporation tax system that requires all companies in the UK to pay, in the PM’s words, a “fair rate of tax” will significantly boost revenues and open the door to far greater reductions in corporation tax. A wider net will raise more money, help the Exchequer and allow corporation tax rates for large and smaller companies to come down substantially below the levels that are currently planned.

Yes, these measures will threaten Luxembourg’s remarkable position as the largest coffee exporter in the world and outlaw such mouthfuls as the Dutch sandwich and the Irish double dip but, frankly, these are all based on fictitious accounting and so we should shed no tears. Will the Minister confirm that the Government will look again at the discretionary measures available to them under OECD guidelines?

Mention has been made about high levels of debt. Having worked in the City and in private equity I am very familiar with the benefits and, occasionally, the disadvantages of high levels of debt. Because of the asymmetry between the tax treatment of debt and of equity as the noble Lord, Lord Lawson, and others have pointed out, the incentive is to pile on more debt. That needs to be looked at but the arrangements at the moment mean that debt can be raised to finance foreign activities and to shift profits out of the UK. The Government and HMRC need to look closely at what is going on here.

The noble Lord, Lord Smith of Clifton, mentioned the Eurobond scandal. This rather curious loophole costs the UK some £500 million a year. Yet the Government, having consulted 30-odd people in the City—the usual suspects—decided not to score. They were in front of an open goal with £500 million as the prize. For the Government to claim, as they do in this response, that they are protecting the UK Exchequer from aggressive loan financing is palpably absurd. As the Prime Minister said, it is really time for them—he did not say “them” but I will—to wake up and smell the coffee. This is now a rampant activity, which is losing the Exchequer a great deal of money.

Informed discussion of the tax system and the performance of HMRC is bedevilled by opaqueness. The Prime Minister put it in a nutshell in Davos in January this year when he said:

“We need more transparency on how governments and, yes, companies operate”.

He prefigured our report. His words have been ignored by the Treasury, whose refusal to embrace transparency for companies and to produce effective parliamentary oversight of HMRC smacks of arrogance and complacency. Without specific details of aggressive tax manipulation schemes, it is impossible for Parliament and the public to comment sensibly on the massive tax leakage the UK is suffering. It is helpful that the newspapers have been able to shed light on this but it should be a matter of public record.

In response to the report’s call for parliamentary oversight, the Government trumpet the appointment of the Tax Assurance Commissioner. Now, he is an HMRC insider. He is marking his own homework and doing his own scorecard. Perhaps the Minister can help us here. Why was this not set up as an independent body answerable to Parliament? It would have more credibility and give more comfort to taxpayers. The response also says that the National Audit Office has full access to HMRC. That is a good thing but how much detailed oversight does the National Audit Office actually take of the workings of HMRC? Can the Minister tell us what resources are deployed by the National Audit Office to oversee HMRC’s performance? How many investigations have been carried out annually over the past decade?

That the Treasury’s response to our report is supine is perhaps not wholly surprising. Our recommendation that the Treasury should review a range of radical tax proposals and promote a more assertive approach to profit manipulation probably falls into the “Too difficult, don’t bother me with that” category. Transparency and effective parliamentary oversight would put the performance of the Treasury and HMRC in the spotlight, which might prove to be uncomfortable. The Treasury and the Government are beguiled by those smart folk in the City and large companies, and do not want to disturb a cosy relationship. Of course, ignoring or sidelining the wishes of the Prime Minister, which have been very clearly set out, is a long-established Treasury pastime.