Labour must be bolder and more radical if it wants clamp down on tax dodgers

Without eliminating anomalies and freeing tax policymaking from the tentacles of the avoidance industry, Labour is unlikely to make a significant dent in the leakage of tax revenues.

An image showing bank notes and pound coins

Prem Sikka is an Emeritus Professor of Accounting at the University of Essex and the University of Sheffield, a Labour member of the House of Lords, and Contributing Editor at Left Foot Forward.

The UK’s Labour Party has announced that if it wins the next general election it will tackle tax avoidance by investing an extra £555m per year in additional resources for His Majesty’s Revenue and Customs (HMRC). The party claims that the investment will result in more rigorous compliance, deter tax dodgers and help to generate additional tax revenues of £700m in 2025/26, rising to £5.1bn a year by 2029. The announcement may be popular but needs to connect many dots.

Labour has been policy-lite, but has promised to inject extra resources into the National Health Service (NHS) and fund free school breakfast clubs in primary schools. That pledge became precarious as the ruling Conservative government stole Labour’s policy on curbing tax perks enjoyed by non-domiciled individuals, leaving Labour short of £2.7bn to fund its pledges. Hence the focus on tax dodges.

Labour wants to reduce the tax gap, which is the difference between the amount of tax actually collected and what should be collected. HMRC’s latest annual estimate of the tax gap is £35.8bn, which means that since 2010 nearly £500bn of tax has not been collected due to evasion, avoidance, error and organised crime. This does not include taxes lost through intragroup and related party transactions, the shadow economy and trusts. HMRC admits that it has no idea how much tax is being evaded by UK residents holding around £850bn in foreign assets, including £570bn in offshore tax havens. Alternative models estimate the tax gap to be around £90bn a year, but even that is likely to be incomplete.

HMRC needs extra resources because it is pitched against the economic might of rich individuals and corporations, and a tax avoidance industry consisting of banks, law and accounting firms. In 2009-10 HMRC had a budget of about £4.3bn and the planned allocation for 2024-25 is £4.7bn, a massive cut in real-terms. Staffing numbers have declined from 77,758 in 2009-10 to  67,621 in 2022-23. In 2022-23 it had only 397 (398 in 2021-22) staff working on international tax issues, transfer pricing, Diverted Profits Tax, Controlled Foreign Companies, and cross border debt. Big four accounting firms alone have around four times as many international tax specialists.

Against a background of real-term cuts, the number of concluded tax prosecutions has fallen from 749 in 2018-19 to 240 in 2022-23. The prosecutions of wealthy individuals for the same period fell from 20 to 11. Additional investment in HMRC staffing is economically desirable because even the most difficult fraud cases have netted 1,500% return on investment. Each extra £1 invested in staffing to investigate large businesses has resulted in £69 return.

However, it is not clear just what the additional £555m promised by Labour will buy and how far it will equip HMRC to challenge the economic might of corporations and the tax avoidance industry. An investigation into a small company can take 3-6 months, and for large businesses it could take 36 months. Investigations into transfer pricing arrangements of a large corporation take around 22 months on average though investigation of Google’s practices took six years. Continuity of the investigating team is vital, but due to poor remuneration HMRC haemorrhages staff to banks, law and accounting firms. So, additional resources would be needed to pay competitive salaries and retain staff.

At the heart of tax investigation and prosecutions is the recurring question of what does the law mean. Lawyer and accountants in the service of their clients have been willing and able to put forward novel interpretations of law. Some of these games can be reduced by writing tax laws in a clear language. HMRC will also need to bring more test cases. If it succeeds, then some of the avoidance schemes can be laid to rest. If it loses, the government has to be willing to quickly enact remedial legislation.

Additional investment in the legal infrastructure would also be needed as taxpayers are likely to challenge HMRC’s interpretation of law. At March 2023, there were around 50,000 unresolved cases at the First-tier Tax Tribunal, 33% higher than at the end of the 2021/22 tax year and double the figure at the end of 2020/21.

Despite numerous laws dealing with ‘the enablers’ facilitating tax avoidance, no major accounting firms has been investigated, fined or prosecuted even when the courts judged that they engaged in unlawful practices. Without effective penalties, it is hard to see how the tide of tax avoidance can be stemmed.

HMRC needs help from citizens and parliamentary committees, but that remains elusive as tax returns of large corporations and wealthy individuals remain confidential. For example, HMRC has been known to have entered into ‘sweetheart deals’ with large corporations and wealthy individuals. Such deals are always secret and beyond parliamentary scrutiny because tax affairs of each person are confidential. The occasional scrutiny by the National Audit Office begs more questions. As the House of Commons Committee of Public Accounts put it; “in the absence of full transparency over the details of this settlement and how it was reached we cannot judge whether it is fair to taxpayers”. The only way of empowering citizens, press and parliament is by making the tax returns of wealthy individuals and large companies, about 8,000 as defined by the Companies Act 2006, publicly available. The public availability of information will help to increase pressures on company boards not to use aggressive tax avoidance strategies, and thus increase tax revenues. The public availability of tax returns will improve the quality of information available to parliamentary committees to scrutinise the effectiveness of HMRC in meeting its objectives.

A fundamental transformation of HMRC management structures is needed. It is too close to big corporations and the tax avoidance industry and lacks public accountability, as the example of ‘sweetheart deals’ (see above) shows. Its current  and recent past management has come from big corporations and the tax avoidance industry. HMRC’s closeness to big business gives corporations and accountancy and law firms an ‘insider’ status. Representatives of large businesses enjoy privileges in drafting tax laws and shaping the enforcement practices. Big accounting firms have been known to exploit their inside knowledge to make private profits. The best way to curb cognitive capture is by empowering the people to supervise the executive board responsible for day-to-day operations.

There should be a Supervisory Board to watch over HMRC Executive Board to give it direction and enhance its public accountability. The Board shall also act as a bulwark against corporate capture and inertia. The Supervisory Board shall consist of stakeholders and meet in the open at regular intervals. The Supervisory Board shall not have any responsibility for the day-to-day running of HMRC. No stakeholder group shall be in a majority, thus ensuring that dialogue and consensus would be necessary to reach decisions. Board minutes and background papers must be publicly available.

Yet, such reforms are not on the Labour agenda and, if anything, it has deepened the capture of tax policy. Labour has decided to seek advice on tax avoidance from a four person panel which includes the Labour MP Dame Margaret Hodge, a former chair of parliament’s public accounts committee; Mike Bracken, former executive director of the UK Government Digital Service; Bill Dodwell, retired senior partner at Deloittes; and Sir Edward Troup, veteran tax avoidance lawyer, former Head of HMRC and one-time adviser to a Conservative Chancellor. Most notably, the panel has no representation from civil society, trade unions, academics or former tax judges.

Deloitte is a major player in design and marketing global tax avoidance schemes, some of which have been judged to be unlawful by the courts. As chair of parliament’s public accounts committee Margaret Hodge had criticised Dodwell and Deloitte for benefiting unfairly from links to the treasury.

Sir Edward once famously said that “Taxation is legalised extortion“, and has opposed tax transparency. In his oral evidence to the Treasury Committee in 2004 he was relaxed about tax abuse by small businesses and resulting inequalities, and said:

“I would not like to support anything which is perceived as tax avoidance, but you have got to remember that this is money left in the economy and this is not necessarily a bad thing for the economy. It may give a bit of an imbalance of incidence of tax between certain groups of people, but all we are actually saying is that some small, self-employed owned and managed businesses are actually paying less tax than the Government might have intended, which is not necessarily a bad thing, except to the extent that it creates inequity between equivalent classes of individuals.”

Margaret Hodge had been very critical of Sir Edward. In 2016, when he was appointed Head of HMRC, she tweeted, “I hear Edward Troup to head HMRC … Good news for big biz. Bad news for ordinary taxpayers”.

Now the leading players from the tax avoidance industry will formulate policy for the next Labour government. Conflicts of interests are inevitable and poachers rarely make good gamekeepers.

Labour’s announcement shows no reflections on how the party itself is perpetuating tax avoidance. For example, wealthy individuals hire accountants to convert income to capital gains as wages are taxed at the marginal rates of 20%-45%, whereas capital gains are taxed at the marginal rates of 10%-28%. Such games result in loss of tax revenues and can be ended by taxing capital gains at the same rate as wages, but Labour has promised not to do so. Without eliminating anomalies and freeing tax policymaking from the tentacles of the avoidance industry, Labour is unlikely to make a significant dent in the leakage of tax revenues.

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