Kingston Smith's pre-Budget predictions

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London, 17 November 2009 – Recent pre-Budget reports (PBRs) have tended to contain more significant announcements than many regular Budgets. With a general election looming and the public finances in a parlous state, this year’s PBR is the Chancellor’s opportunity to spell out the Government’s economic agenda and, in particular, how it proposes to tackle the ever-growing budget deficit.

Spending: There is a broad political consensus that we cannot continue to borrow indefinitely and spend our way to growth. Painful spending decisions are anticipated; although it is unlikely too much policy detail will emerge in the PBR, save to reassure the electorate, once again, that schools and hospitals will be safe from the axe.

Measures that may well be trailed are the sale of public assets – although presumably not Royal Mail! – to finance planned infrastructure projects, public sector pay restraint (but not cuts in the public sector payroll, however inevitable this may be), and a realigning of defence priorities in favour of the mission in Afghanistan.

Income tax and National Insurance: Given the state of the public finances an increase in the proportion of GDP taken up by taxation is inevitable. Increasing tax rates for the highest earners is totemic, but raises little additional revenue. Andrew Shaw, a personal tax partner at Kingston Smith LLP, says: “Raising income tax rates for middle-income earners would be an extremely unpopular move, particularly in the current economic climate. The Government is more likely to raise National Insurance, which it doesn’t class as a tax per se and which might therefore be less controversial.” Increases to National Insurance Contributions for employers and employees are already in the pipeline and due to come into force in April 2011. Expect further announcements in this area.

Tax credits: Earlier this year, Tory leader David Cameron indicated that under a Conservative government, tax credits may be scrapped for families with a joint household income of £50,000 or more. Alistair Darling may seize this opportunity to steal the Tories’ thunder and make a similar announcement.

Non-domiciliaries: The remittance basis for non-UK investment income and gain is expected to continue, but the annual levy for those who have been resident in the UK for at least seven out of the last nine years could rise from £30,000 to £50,000. Andrew says: “It hasn’t been long since the changes to the tax rules relating to non-UK domiciled individuals were introduced. The Government may therefore prefer to wait and assess their full impact before tinkering with the system even further.”

Anti-avoidance: The Government is expected to introduce a raft of anti-avoidance measures preventing individuals and businesses from avoiding the 50% tax rate due to come into effect next April. HMRC has warned that it will crack down on higher earners intending to convert income into capital gains, which is taxed at a much lower rate. “We may also see specific anti-avoidance legislation directed at certain practices which HMRC has tried to target in the past, such as carried interest structures of hedge funds,” says Tim Stovold, a partner at Kingston Smith LLP. “However, what we must not forget is that these individuals are freely and internationally mobile, and a measure of this sort could encourage them to leave the country.”

Also in the frame are large numbers of profitable family businesses looking to pay dividends to shareholders before the 50p rate is introduced. Chris Lane, partner and head of entrepreneurial businesses at Kingston Smith LLP, says: “What these companies are doing is common sense and perfectly legitimate. But the Government won’t be happy about losing revenue and may look to put a halt to this practice.”

CGT: A disparity between CGT and income tax rates means the Chancellor may raise CGT from 18% to income tax levels of 25% or even 40%, possibly with a corresponding extension to Entrepreneur’s Relief (from £1m to £2m). “If the rate is increased to 40% then the annual exempt amount (£10,100 for individuals and £5,050 for trustees in 2009/10) is also likely to rise,” says Chris. “CGT doesn’t affect many Labour voters so increasing the rate is unlikely to be too damaging.”

Corporation tax: Over the past few years, surprisingly, the small companies’ tax rate (currently 21%) has risen while the large companies’ tax rate (currently 28%) has fallen. Graham Morgan, a partner at Kingston Smith LLP, says: “With several large companies having already left the UK because of the corporation tax rate the Government might consider introducing a flat rate of 25% or 26% and sugaring the pill by doubling the Annual Investment Allowance from £50,000 to £100,000.”

VAT: In his last pre-Budget statement the Chancellor announced that the VAT rate would remain at 15% until 31 December 2009. “The VAT rate will almost certainly rise to 17.5% in the new year,” says Adrian Houstoun, VAT partner at Kingston Smith LLP, “but to raise revenues the Government might consider ‘designer’ rates of 20% on luxury goods and announce a root and branch review of zero-rating reliefs, with the review body reporting its findings some time after the general election.”

Banks: In the last pre-Budget report the Chancellor announced an extension to the rules that allow companies and unincorporated businesses to carry back trading losses to set against the profits of earlier years. Losses arising in accounting periods ending between 24 November 2008 and 23 November 2009 (which for most businesses will be a single year) can be set against total taxable profits for the preceding three years. Carry back of losses to the immediately preceding year remains unchanged and is uncapped. “With bank bashing in vogue, a measure that may have populist appeal is limiting loss relief for banks,” says Graham. “The downside is of course that it will take banks longer to return to profit and pay back their debts.”

For further information, contact:

Andrew Shaw, Personal Tax
020 7566 3807
ashaw@kingstonsmith.co.uk

Tim Stovold, Employment Tax
020 7566 3579
tstovold@kingstonsmith.co.uk

Chris Lane, Entrepreneurial Businesses
020 7566 3805
clane@kingstonsmith.co.uk

Graham Morgan, Corporate Tax
020 7566 5689
gmorgan@kingstonsmith.co.uk

Adrian Houstoun, VAT
020 7566 3802
ahoustoun@kingstonsmith.co.uk

For PR enquiries, contact:

Layisha Laypang, Senior PR Executive, Kingston Smith LLP
020 7566 3574
llaypang@kingstonsmith.co.uk