The Northern Ireland tax problem
The government is planning to devolve power over the corporation tax rate to the Northern Ireland assembly. This bold and unprecedented move is intended to enable Northern Ireland to compete with the Irish Republic’s headline rate of 12.5%, and follows the agreement that Scotland should set its own rate for income tax. Taken together these measures represent another nail in the coffin of the fiscal union that is at the core of the United Kingdom.
A decision by Stormont to take advantage of its new rate-setting power is not straightforward. Any reduction in the corporation tax take must, under EU State Aid regulations, be offset by a reduction in the province’s block grant from Westminster.
The amount of that grant is currently arrived at using the frequently criticised Barnett Formula which has historically delivered a more favourable per capita settlement to Northern Ireland than even to Scotland (although the Scottish settlement has attracted the most political opprobrium), with England and Wales the losers. If devolution of tax raising powers signals the end of Barnett there will certainly be few English tears shed. The hope for Northern Ireland must be that any reduction in the headline rate will stimulate additional economic activity there and, in line with Laffer Curve theory, that the tax take will rise.
The devolved rate is intended only to apply to corporate profits arising from genuine and substantive economic activity. This is unlike the situation in the rest of Ireland where it has been open season for tax arbitrage by major multinationals for many years, leading to aggressive, albeit perfectly legal, planning structures such as the infamous “Double Irish” employed by Google and others. Although the Republic has been leaned on to close these structures, it is worth remembering that in the case of the Double Irish at least, users will continue to enjoy the benefits for a further 5 years, presumably to avoid a rush for the exit.
Similar rate-setting powers have not so far been offered to Scotland, though given the likely political dynamic after the forthcoming election it can only be a matter of time. Then Wales? And where does that leave England?
The OECD and the European Union have both set their faces against “harmful tax competition” but over many years have failed to square the circle between genuine harmonisation of international tax systems on the one hand and the sacrosanctity of fiscal sovereignty on the other.
With only the powers of persuasion, and in the case of the EU the State Aid provisions, at their disposal these organisations can do little but encourage and cajole members to buy in to their policy objectives – now articulated in the BEPS Action Plan and the output from the Forum on Harmful Tax Practices.
Member states, including the UK, may pay lip service to EU and OECD exhortations; the UK most recently by apparently embracing enthusiastically the principles in the BEPS Action Plan, and introducing the Diverted Profits Tax allegedly as part of that process. In other areas however the race to the bottom continues, whether through favourable headline rates or special reductions to corporation tax.
Returning to the devolution of tax raising powers, given the state of the European economies, where with the exception of the UK any sort of growth is hard to find, Ulster’s success is bound to be at least partly at the expense of its Republic of Ireland neighbour. This might be down to reduced inward investment or capital flight – but with multinationals beginning to question if Dublin is any longer the place to be will reduced corporation tax in the Northern Ireland once more tip the Republic into recession?
Surely if Brussels has any real part to play in this debate it must be in persuading its members that harmonising their tax systems to a much greater degree than at present is to their mutual long term benefit. In the words of the song “Work and pray, live on hay, you’ll get pie in the sky when you die.”
