The Dark Side of the Deficit

Posted on: January 29th, 2016

What is forecast to cost £386bn this financial year: up by a sixth or £50bn compared to 2012-13? The answer is the cost of tax expenditures and structural reliefs from the main money spinning taxes 1.

Given the focus on deficit reduction and the fact that the deficit is broadly the gap between what the government spends and what it collects, it is surprising how little public attention is paid to the income side of the debate beyond the politically “safe” contest of the parties to outbid each other on reducing tax evasion. Forgoing income does not carry the same stigma as spending it.

Of course some of these costs are structural, the largest one being the income tax threshold, and reflect the way the tax is designed to work. Other expenditures and reliefs are long established and politically risky to address. The VAT exemption for food, created with the introduction of tax in the very different social conditions of the 1970’s, is a good example, yet the costs of that relief this year are projected at £17.4bn, an increase of £1.6bn in just 3 years. The default position in thinking about this is that it is “wrong” to tax the essentials of life. But at a time when obesity, driven in part by over consumption of the wrong types of food, is recognised as a major social problem and one third of food purchased is thrown away uneaten, is it impossible to have a debate about the blanket exemption of food from VAT? A more limited exemption could both nudge people towards healthier food choices and create funds to support comprehensive arrangements to provide food to those who genuinely cannot afford to eat properly.

Or take another example: capital allowances to encourage investment by business. These are projected at £22bn this year, up by £3bn in 3years. Here the question is more – are these allowances working and do they represent value for money? The general consensus is that UK business is underinvesting and much of the investment that is happening is not supporting the type of investment the government says is needed for the UK’s future prosperity. That is perhaps why the basic allowance scheme is supported by a plethora of smaller schemes for particular sectors and business type.

This multiplication of reliefs is itself a problem. An NAO report in November 2014 identified a total of 398 tax reliefs. Half of those seemed to have the objective of supporting some economic or social purpose and more than half of those had no cost data estimated or published. As the NAO points out, this introduces immense complexity to the tax system and is itself a source of tax avoidance and evasion. Critically this lack of transparency does not enable or encourage analysis of the effectiveness of the reliefs. There is now a mechanism, through the Office of Tax Simplification, to address the issue of complexity but what about value for money in existing and proposed future reliefs?

Tax reliefs are, of course a valid means to deliver policy outcomes, but in line with the BGI’s view on all policy and legislative developments, they should be subject to the same disciplines. There should be a clear objective and identification of alternative ways to address them including where appropriate the relative merits of a spending programme rather than a tax relief. There should be consultation with those who will be affected, and those that have to implement it; and a proper impact assessment of the benefits and costs. Tax reliefs should not be chosen because “they are not public spending“ since their financial effects are the same. These views are not dissimilar to those of the NAO whose report, dealing only with the administration of tax reliefs, said:

“We believe that effective administration of reliefs would require HMRC to:

  • collect, analyse and report information about their costs and benefits;
  • where relevant, review the extent to which they are achieving their objectives;
  • identify and intervene to tackle risks to the exchequer, including evidence of abuse;
  • have sufficient governance in place to manage its overall administration of tax reliefs, share knowledge and good practice, and achieve proportionality;
  • be accountable as the custodian of the tax system for providing evidence to policy-makers and Parliament where tax reliefs are not working as intended. “

No doubt they would take a similar view on the discipline to be applied to the creation of new taxes and reliefs.

The Autumn Statement in November 2015 did include a number of proposed changes to tax reliefs along with costings checked by the Office of Budget Responsibility. These were, with a few exceptions, minor maintenance changes and did not suggest any concerted effort to review reliefs equivalent to the effort or political will applied to finding expenditure reductions.

In part this relatively low priority for looking at the income side of the deficit divide reflects a political and philosophical bias in favour of low spending and low taxes, although the autumn statement did include tax increases through a new apprenticeship levy and by lifting the cap on local council tax to fund social care and the police.

There is, however, a structural reason why tax is treated asymmetrically when considering the deficit. A department wishing to spend money needs to have the agreement of the Treasury and will be expected to answer essentially two key questions: does this represent good value for money and does it represent better value for money than spending the same sum somewhere else? In the current climate the Treasury approach may be a bit more broad brush, but those questions will essentially underlie the discussions about how much of a Department’s expenditure ambition is affordable.

When it comes to tax, however, the Treasury is judge and jury in its own cause. It reserves matters of taxation to itself, feels no obligation to consult and never has to face cabinet colleagues in Committee or the Star Chamber. In a compelling article for the Institute for Government, Jill Rutter 2, herself an old Treasury hand, called for an end to the special treatment of the Treasury in relation to tax. She identified six ways in which the Treasury avoids the scrutiny imposed on others. These include the lack of cabinet committee discussion of tax proposals, the lack of a cash limit, no scrutiny by the Regulatory Policy Committee and a reluctance to be held accountable. The Treasury is currently in dispute with the NAO about whether tax reliefs come within their remit at all since they are all sacrosanct as expressions of policy.

There are many elements that contribute to better government, but at the heart of the process must be the establishment of clear objectives and the marshaling of available resources to achieve those in the most effective way. If our systems push us to look for one club solutions and do not allow for an open debate about whether a problem is best addressed by a tax relief or a targeted expenditure programme we are making life harder than it needs to be and that is already hard enough.


  1. See HM Main Tax Expenditures and Reliefs December 2015
  2. See also her piece for the Social Market Foundation