3/6/24, 11:26 AM The top 10 UK tax complexities

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Tax
The top 10 UK tax complexities
Full moon or not, many of you howl with anguish at the HMRC’s convoluted system

Vanessa Houlder OCTOBER 27 2017

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© Daniel Mitchell
If the official slogan is to be believed, tax doesn’t have to be taxing. But
with the UK possessing one of the longest tax codes in the world, this
cheery catchphrase does not ring true for many.
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There is nothing quite like the increasing complexity of the tax system
to get experts hot under the collar. “It is a viciously complicated area,”
says Nimesh Shah, a partner at Blick Rothenberg, an accountancy firm.

Tax complexity can itself be a kind of tax borne by the unwary. Philip
Booth of the Institute of Economic Affairs says: “People who are more
astute and use professionals pay less than others. It brings the tax
system into disrepute.”

The reverse can also be true: ordinary taxpayers may not realise how
complex the tax system can be . . . and find out the reality to their cost.
When the Financial Times asked experts for their top gripes about
complexity, it released a torrent of responses. From pensions to
property, from expenses to employment status, here are the 10 top
issues raised, along with an assessment of the prospects for reform.

1. National insurance contributions

People who sell their work through their own business can make
particularly big tax savings, as they can be paid through dividends or
capital gains rather than wages. But the self-employed also have a big
tax advantage, averaging £1,240 a person a year, because of much lower
rates of national insurance contributions.

The varying tax treatment of different ways of working is one of the top
bugbears for Helen Miller, head of tax at the Institute for Fiscal Studies
(IFS), a think-tank. “We have a lot of complexity at the heart of the tax
system, where the personal and corporate tax systems collide, that
creates all sorts of avoidance opportunities and inefficiencies,” she says.

Like many experts, Ms Miller also bemoans the separation of income

tax and NICs, especially as it encourages people to believe, wrongly, that
NICs are a payment for future benefits. She says: “Having NICs operate
effectively like an income tax but having different thresholds and rate
schedules is unnecessarily complex.”

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One illustration of the complications caused by the separation of NICs

and income tax is the plight of people living in Scotland with a taxable
income between £43,430 and £45,000. They will pay a marginal tax
rate of 52 per cent rather than the 32 per cent that applies to those
earning an identical amount in the rest of the UK. That is because the
Scottish government retained a lower threshold for the start of higher-
rate tax (it went up in the rest of the UK) but has no power to make a
corresponding adjustment for NICs.

2. High marginal tax rates

Forget the 45p rate of income tax on those earning more than £150,000
a year. The highest rates of tax are often levied on much lower incomes,
as a result of the withdrawal of allowances and benefits. Abolishing
these “disincentivising and punitive marginal income tax rates” is top of
the wish list for simplification, says Stephen Herring, head of tax at the
Institute of Directors.

High marginal rates are experienced by some of the several hundred

thousand families in which the highest-income adult is on £50,000 to
£60,000, as some of their child benefit is clawed back. The extra
marginal tax rate is about 11 per cent of income and 7 per cent for each
subsequent child.

Several hundred thousand people are also affected by a 60p rate on

earnings of £100,000 to £123,000, caused by the withdrawal of the
personal allowance.

The prospect of taking home just 38p in the pound (after tax and
national insurance) on earnings in that band is a powerful disincentive,
according to Dave Chaplin of ContractorCalculator, a website for
freelancers. He says it is the reason why many surgeons are reluctant to
work overtime for the National Health Service and instead do tax-
efficient private work through a limited company. “The result is less
operating time [for the NHS], waiting lists growing longer, and
disillusionment,” says Mr Chaplin.

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3. Digital dismay
One of the most striking illustrations of the growing complexity of the
tax system is that HMRC’s software does not always provide taxpayers
with the right answer. Robin Williamson of the Low Incomes Tax
Reform Group says: “A good test of whether a policy is workable is
whether the tax authority can program it.”

This year thousands of taxpayers will be required to file paper returns

because of errors in the tax computation software for the 2016-17 tax
year. The problems were caused by the interaction of the new tax-free
allowances for dividends and savings and the zero per cent savings rate
band.

Paradoxically, the reason for the problems is an attempt to simplify the

tax code, according to Jonathan Riley of Grant Thornton. The
government introduced allowances to remove many individuals from
self-assessment. Those who remain, however, have to deal with a
substantially more complex tax system, which, says Mr Riley, results “in
relatively straightforward cases requiring detailed and complex analysis
to identify the most tax efficient position”.

4. Capital gains tax

Working out the relevant rate of capital gains tax is now a lot more
complicated. “Not only are there higher and standard income-tax levels
but also two rates depending on the assets — residential property and
chargeable assets,” says Justin Urquhart Stewart, co-founder of Seven
Investment Management.

Calculating gains where income has been accumulated or reinvested can

be particularly tricky, says Ian Dyall, estate planning expert at Tilney, a
financial planner. “The data required is often long since lost and most
providers can only provide a long list of past transactions, making it
difficult to calculate the gain. Fund mergers and corporate actions can
complicate things even further”.

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A source of extra complexity is the frequent changes to rates, as

chancellors oscillate between keeping them low to encourage
investment and raising them to discourage avoidance. When chancellor
George Osborne slashed capital gains tax rates in March 2016, it was
greeted by the IFS as “the latest episode in an inglorious history of yo-
yoing in CGT policy”.

5. Pensions
The complexity of pensions rules has dramatically increased, as
governments have scaled back annual and lifetime allowances in an
effort to rebuild public finances.

There are particular problems for people earning more than £150,000
who are snared by a new annual allowance taper. If they inadvertently
breach the limit, they face unexpected tax bills of up to £13,500.

There is also a lot of complexity for many pensioners on low incomes,

partly because of confusion over which of their benefits are taxable. Mr
Williamson of LITRG pins some of the blame on the refusal of the
Department for Work and Pensions to operate pay-as-you-earn on the
state pension. This has meant a lot of pensioners have been forced to
complete self-assessment forms.

HMRC is testing a system of “simple assessment” that will calculate the

extra tax they owe, allowing about 400,000 taxpayers to avoid the chore
of form-filling. Mr Williamson says this will “probably alleviate some of
the complexity but it will depend on the ability of the taxpayers to check
the data used”.

Pension freedoms have brought a further complaint over complexity:

HMRC typically applies an emergency tax code to those withdrawing a
lump sum from their pension, resulting in substantial overpayment,
according to mutual pension provider Royal London. It said this week
that in April-June this year, HMRC had to pay about 10,000 refunds
worth more than £26m.

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6. Inheritance tax
Much of the complexity around this tax comes from reliefs for
agricultural land and business property. While many people who seek to
avoid IHT will know the rules, other aspects of the tax can trap the
unwary. One example is the anti-avoidance rules that can hit people
who reorganise their affairs so they can share a home with elderly
parents.

Another source of complexity are the new rules aimed at allowing a

couple to leave a £1m property to their descendants without paying
IHT. The provisions even require users to have an understanding of
algebra.

7. Property
Other than IHT, no tax is less popular than stamp duty land tax. Critics
are particularly unenthusiastic about the surcharge introduced in 2016
for buy-to-let and second homes.

The TaxPayers' Alliance says the new tax has unintended consequences.
House-buying chains may break because temporary ownership of two
properties triggers a charge. This can be reclaimed but buyers still need
to have cash to hand. “One virtue of this tax was simplicity: now people
are asking if they should get divorced to save,” the alliance says.

Cuts to tax relief on mortgage interest, being phased in over four years
from last April, are hitting buy-to-let landlords. Tim Stovold of Kingston
Smith, an accountancy firm, says very few people are aware of the actual
mechanism in the tax calculation that will apply when tax returns for
2016/17 onwards are completed. The way it is calculated is likely to
surprise some people by pushing them into the 60p income tax bracket,
removing their eligibility for child benefit or by reducing their ability to
make pensions contributions.

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8. Savings
The Lifetime Isa, a savings account for the under-40s, left many young
people confused about how best to save for retirement when it was
introduced last April. A lot of savers are bemused by the sheer variety of
Isas. Mr Stovold says: “The continued reinvention of the Isa is baffling
people.”

Complexity is also getting in the way of attempts to encourage business

investment, says Andrew Hubbard of RSM, an accountancy firm. He
says the enterprise investment scheme is “notoriously complicated”.

Investment bonds also contain traps. Paul Aplin, a partner at

accountancy firm AC Mole & Sons, says: “Taxation of bonds is a good
example: they are sold in their thousands but the tax consequences of
partial surrender or death of the bondholder sometimes come as a
shock”. Policymakers who withdraw funds early can face high tax bills
but may be unaware they can apply for relief from HMRC.

9. Trusts
Trusts are a particularly complex area of the tax system, in part because
of the Treasury’s efforts to stop them being used to avoid tax. Mr Dyall,
of Tilney, says many trustees are amateurs who are often unaware of
their responsibilities. Most trusts created since April 2006 are subject to
inheritance tax on every tenth anniversary. The calculation is “the stuff
of nightmares”, he says.

10. Reliefs
Arabella Murphy, head of private wealth at Maurice Turnor Gardner, a
law firm, says if she could wave a magic wand, she would abolish most
niche reliefs and allowances. Instead she would either apply more
generous limits to simple reliefs or reduce the headline rates of tax.

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She says that judging by the height of a stack of tax-law guides, this
would probably halve the amount of tax legislation, which has, roughly
speaking, quadrupled since she qualified in 1996.

Managing complexity
Even the fiercest critics of the tax system accept that simplifying it is
easier said than done. That is vividly illustrated by the struggles of the
Office of Tax Simplification, set up in 2010 with the task of simplifying
the “spaghetti bowl” of tax rules for the Treasury. Over the past seven
years it has conducted 14 big projects, produced about 40 reports and
put forward 450 recommendations, of which more than half were
accepted.

It has had to run to keep still. John Whiting, the first tax director of the
OTS, liked to quote the late chancellor Sir Geoffrey Howe (later Lord
Howe of Aberavon). He said simplification was like painting Brighton
pier while someone else was extending it to France.

Take reliefs, for instance. The OTS successfully recommended the

abolition of more than 40 reliefs, such that for the first 15p of Luncheon
Vouchers, which dates to the time of rationing, yet the number of reliefs
has increased. Lobbying is one reason why more were not abolished:
one example is the relief on the benefit of late-night taxis: employers
whose employees used such taxis argued for it to be kept.

Looking ahead, the OTS has a full programme but tax director Paul
Morton wants to hear more suggestions (email ots@ots.gsi.gov.uk).
Some areas will remain complicated but the focus is on making the tax
system easier to use, just as it is easy to send a text on a smartphone,
which is in itself a complex piece of engineering,

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Is complexity so bad anyway? Some suggest it may be necessary to

achieve fairness. Chris Sanger, global head of tax policy at EY
professional services group and a former Treasury official, says: “The
focus on simplicity is a false one — this should not be an end in itself but
instead the policies [ …] should be no more complex than necessary to
achieve their aims.”

Technology may usher in big changes, he says. For example, HMRC

may be able to capture details for capital gains calculations from
information provided by online trading platforms. More broadly, some
experts think artificial intelligence could be the answer to complexity.

Paul Aplin, a partner at accountancy firm AC Mole & Sons, says this
may be an alternative to putting the brakes on tax legislation, which
otherwise seems unstoppable: “The creation of large volumes of
complex tax legislation now feels like a self-perpetuating process. It
would take considerable political will to halt or even significantly slow
it.”

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