Thought Leadership Lecture 2015 - Jeremy Sherwood

Thought Leadership Lecture 2015
Tax Simplification in a Complex World
Jeremy Sherwood, ATAX Research Fellow 2015
jeremy.sherwood@ots.gsi.gov.uk
https://www.gov.uk/government/organisations/office-of-tax-simplification

1.Why is tax so complicated?
2.Why bother about tax complexity?
3.Why do so many tax reforms fail?
4.How can we make tax simplification work?

“A general tax shall be
imposed upon all the
leading branches of
income. No scale of income
indeed which can be
devised will be perfectly
free from the objection of
inequality, or entirely cut off
the possibility of evasion.
All that can be attempted is
to approach as near as
circumstances will permit to
a fair and equal
contribution.”
In the 1700s, taxes were
levied on things as diverse
as windows, wigs, hair
powder, sugar, gloves and
dogs. In 1792-3 the UK
Government earned 23% of
its total tax revenue from
taxes on land and property,
53% from excise taxes on
food, drink and tobacco,
18% from excise duties on
other items such as coal,
iron, soap, cloth and candles
and 6% from stamp duties.
William Pitt, 1799

JOHN BULL at his STUDIES
attended by his Guardian Angell
Anonymous Caricature, 1799

1. The subjects of every state ought to contribute towards the support of the
government, as nearly as possible, in proportion to their respective abilities;
that is in proportion to the revenue which they respectively enjoy under the
protection of the state.
2. The tax which each individual is bound to pay, ought to be certain
and not arbitrary. The time of payment, the manner of payment, the
quantity to be paid, ought all to be clear and plain to the contributor, and
to every other person
3. Every tax ought to be levied at the time, or in the manner, in which it
is most likely to be convenient for the contributor to pay it.
4. Every tax ought to be so contrived, as both to take out and to keep out of
the pockets of the people, as little as possible, over and above what it brings
into the public treasury of the state.
Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations (1776)

“The certainty of what each individual ought to pay is, in
taxation, a matter of so great importance, that a very
considerable degree of inequality, it appears, I believe,
from the experience of all nations, is not near so great an
evil as a very small degree of uncertainty”
Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations (1776)

• What do we mean by tax complexity?
• the inherent design of the tax system, the laws and rules that define
the rates and scope of taxes paid by people and businesses at home
and abroad.
• the administrative processes: information and tax returns, payments
and audits.
• The dictionary defines “complex” as “difficult to understand” or “made up
of many connected parts”.
• OTS favours “usability” – we look at the users of the tax system. Can they
realistically understand and do all that they have to in order to comply?
• Professor David Ulph distinguishes between “necessary complexity” and
“unnecessary complexity”
Aspects of tax complexity

Aspects of tax complexity
Complexity in one part of the system will often (but not
always) lead to complexity in subsequent parts, as a
complex policy invariably requires complex legislation,
which may need to be interpreted into a complex
administrative process. The administrative process is
usually (but not always) the key interaction with the user.
Policy Legislation Implementation
Underlying complexity Impact of complexity

Usability (1): Adult literacy levels are
lower than you think
Level 1
39%
(12.6m)
Level 2+
45%
(14.1m)
Entry 1
3% (1.1m)
Entry 3
11% (3.5m)
Entry 2
2% (0.6m)
55% of the adult population has a
literacy level below Level 2
Entry 1 = age 5
Key Stage 1
NC Level 1
Entry 2 = age 7
Key Stage 1
NC level 2
Entry 3 = age 10
Key Stage 2
NC Level 3
Level 1 = age 11 to 14
Key Stage 3
NC Level 4
GCSE grades D to G
Level 2 = age 16
Key Stage 4
GCSE grades A* to C
Level 3 = age 16+
A level
Level 4
Degree and above
Source: HMRC data, 2008

Usability (2): adult numeracy levels
are even lower
Level 1
29% (8.8m)
Level 2+
25% (8.1m)
Entry 1
5% (1.7m)
Entry 3
25% (8.1m)
Entry 2
16% (5.1m)
75% of the adult population has a
numeracy level below level 2
Entry 1 = age 5
Key Stage 1
NC Level 1
Entry 2 = age 7
Key Stage 1
NC level 2
Entry 3 = age 10
Key Stage 2
NC Level 3
Level 1 = age 11 to 14
Key Stage 3
NC Level 4
GCSE grades D to G
Level 2 = age 16
Key Stage 4
GCSE grades A* to C
Level 3 = age 16+
A level
Levels 4 to 8
Degree and above
Source: HMRC data, 2008

Necessary complexity
– Political/social aims
– Economic aims
– Fairness
– Certainty
– Avoidance
– Boundaries/definitions
– Processes for
assessment, collection
and enforcement
– Change
Unnecessary complexity
– Poor policy design, eg
artificial boundaries
– Too many special cases
– Badly worded law
– Poor guidance
– Complicated and
expensive processes
– Self-assessment?
– Excessive change

Example of Unnecessary Complexity (1)
“It has been argued that a single rate of capital gains tax represents a
simplification. We do not find this argument persuasive, compared with a
system in which capital gains are taxed at the same rate as an individual’s
taxable income. We believe that the benefits of a single rate are overstated…
What is more important for a simple tax system is that different forms of income
and gains are taxed at similar rates. With an 18% capital gains tax rate, a
higher rate income tax payer now faces a clear incentive to convert income into
a capital gain.”
Oxford Centre for Business Taxation, evidence to House of Lords Budget Committee
In 2008 the UK replaced a complex system of 30% capital gains
tax with a “taper relief” based on how long an asset was held with
a single rate of 18% with no inflation allowance. At the time,
income tax rates were 20% and 40%.

In 2010, the UK had 1,042 tax reliefs and expenditures.
“The creation of reliefs or exceptions in the tax system can add to
complexity. Consistent with the broader regulatory reform agenda, the
Government will consider proposals for new reliefs carefully, and will want
to satisfy itself that there is a strong and proven case. To help inform
these decisions, the Government will develop a framework for the
introduction of new reliefs. It also proposes to make greater use of
sunset clauses and post implementation evaluation…”
HM Treasury, Policy Making – A New Approach (2010)
The Chancellor asked the Office of Tax Simplification to carry out a review of
these reliefs, recommending which to retain, simplify or abolish.
The OTS reviewed 155 reliefs in detail, and recommended that 54
remain unchanged, 37 be improved, 17 simplified, and 47 abolished

“Most tax reliefs exist to make the tax system fairer and
simpler, and tax reliefs can be important tools in
ensuring that the Government is able to use the tax
system to achieve wider policy objectives… But all
exemptions must be paid for by other taxpayers, and, in
the long term, reducing the number of exemptions in the
system will lead to a simpler and more stable tax system
with lower headline rates.
In Budget 2011 we announced the withdrawal of 43 tax
reliefs. This will remove over 100 pages of tax
legislation, and is a significant reduction in complexity.”
Financial Secretary to the Treasury, David Gauke MP, May 2011

By 2015, the UK had 1,156 tax reliefs and
expenditures, a net increase of 114.
“HM Treasury and HMRC do not keep track of tax reliefs
intended to change behaviour, or adequately report to
Parliament or the public on whether tax reliefs are expensive
or work as expected. We found some examples where
HMRC and HM Treasury proactively monitored and
evaluated tax reliefs, but in general the Departments do not
test whether their aims for the reliefs are being achieved.”
Amyas Morse, head of the National Audit Office, 21 November 2014

Why is tax so complicated?
Lobbyists want tax
concessions and special
treatment
Media use tax to sell papers, and
interested in controversy not detail The tax system has
evolved over 200 years,
often original policy
intention is lost
Tax complexity is
caused by people
whose real priority
is not simplification
Tax policy makers can have a
complexity mindset, producing
legislation based on
government’s needs and
culture, not the users’
Politicians are under pressure
to make announcements and
satisfy supporters. How many
votes are there in tax
simplification?
Tax advice industry can
drive complexity and
makes money out of it

Why bother about tax complexity?
It doesn’t really matter
• The tax system seems to work – it
brings in the money
• IT can hide underlying complexity
• Tax has always been complex, it’s
not going to go away
• There are bigger regulatory
burdens – employment law, health
and safety, pensions
• Complexity can help disguise tax
rises or unfair taxes, or lead to
people paying too much tax
• Complexity keeps the tax world in
a job – revenue officials, tax
advisers, lawyers and academics
It matters
• There is a substantial economic
cost to tax complexity, but it is
hard to estimate
• Greater complexity creates more
errors and higher Government
administration costs
• Uncontrolled growth in complexity
can lead to a point where no-one
understands the law and everyone
just ignores it
• Research suggests people are
more likely to comply if they
understand their obligations and
feel good about the tax system

Economic costs of tax complexity (1)
The cost of compliance for micro, small and medium-
sized employers (1-250 staff) has risen to £20 billion in
total, with a total of £13.5bn for internal salaried costs and
£6.5bn in external support costs. This is equivalent to
£14,900 per small business (£4,850 in advice/support
and £10,050 in internal costs) or £1,900 per employee.
However the cost for each business owner feels much
higher as the opportunity costs of internal compliance
are £38.6bn or almost three times the actual salaried
costs.
UK Forum of Private Businesses, 2015 survey of 4000 small businesses

Economic costs of tax complexity (2)
Value of tax gap Share of tax gap
Criminal attacks £5.1bn 15%
Evasion £4.4bn 13%
Hidden economy £6.2bn 18%
Avoidance £2.7bn 8%
Legal interpretation £4.9bn 14%
Non-payment £4.1bn 12%
Failure to take care £3.9bn 12%
Error £2.6bn 8%
£34bn 100%
Source: HMRC Measuring Tax Gaps, 2015 edition
Greater complexity creates more errors and higher Government administration
costs

“The UK has one of the longest and most complex tax systems in the
world. Two of the three longest Finance Acts ever were enacted in the last
Parliament. The complexity of our current code undermines confidence,
acts as a burden on business, suppresses entrepreneurs and inhibits
economic growth.”
Michael Izza, Institute of Chartered Accountants of England and Wales,
2015
Uncontrolled growth in complexity can lead to a point where no-one
understands the law and everyone just ignores it
“The UK’s tax code runs to 22,298 single spaced, small font, heavily
footnoted pages. That’s two-thirds the page-count of the 32 volume
Encyclopaedia Britannica, which affected to summarise the sum total of
human knowledge.”
Jolyon Maugham QC, July 2015

Research suggests people may be more likely to comply if they
understand their obligations and feel good about the tax system
“Increase the transparency of tax policy making and modernise tax
administration procedures: these measures would reduce
opportunities for corruption and improve the “taxpayer experience”.
Citizens’ perceptions of public officials, especially tax officials, can
influence attitudes towards taxation.
Simplifying tax regimes, and greater use of information technology are
ways to improve tax morale and compliance. Particular attention
should be paid to experiences at the local level as it is often here that
coercion and corruption are most prevalent.”
What Drives Tax Morale, OECD, 2013

Why do so many tax reforms fail?
Osborne admits he had “got it wrong” on some Budget
measures with political capital expended on “battles that
don’t matter.”
Chapter on 2012 Budget, Cameron at No 10, The Inside Story by Anthony Seldon and Peter
Snowdon 2015
“I am well aware that the tax reformer’s path is a stony
one. Any change in the system is bound, at least in the
short term, to bring benefits to some and disadvantages
to others. And the disapproval of the latter group tends
to be rather more audible than the murmurings of
satisfaction from the former”
Nigel Lawson MP, 1984 Budget speech

Why do so many tax reforms fail?
1990s - Tax Law Rewrite Project: tight control by Government,
unambitious, no scope to change policy, too slow and cumbersome, not
enough contact with real customers, most consultation was with lawyers
and accountants.
2000s – Corporation Tax Reform project: Too many important losers,
transition costs too high, strong lobbying from large business
2010s – 20/20 Vision (Taxpayers’ Alliance): No Government buy-in,
politically unrealistic, over-optimistic assumptions, too long and speculative
2011 - Mirrlees report: Bad timing (in a recession), not enough
Government buy-in, too systematic (Government can’t “cherry pick”)
2011 – Tax/national insurance merger: lack of appetite from business/tax
profession/HMRC, concern over “losers”, especially pensioners, bad timing
due to other changes to pensions and income tax.

How do we make tax simplification work?
1. Understand who holds the keys to tax simplification and persuade
them it is worthwhile for them.
2. Engage with Government and stay engaged. Otherwise nothing will
happen.
3. Quickly establish and maintain your credibility with Government,
senior officials, the tax profession and the media.
4. Choice of personnel is absolutely essential.
5. Move quickly – reforms need to fit into the political cycle.
6. Keep momentum – early and regular success maintains the profile of
simplification and credibility of the office.
7. Don’t be too ambitious – aim for bite-sized chunks that can be
implemented relatively quickly.
8. Anticipate and engage with likely “losers” – understand their issues
and try to mitigate them if possible.
9. Challenge the status quo in a forensic and professional way, informed
by balanced evidence and practical taxpayer experience

Case study: The UK Office of Tax Simplification
• A completely independent office of Tax Simplification was recommended
by ex-Chancellor Geoffrey Howe in a 1998 speech
• This was picked up by the Conservative-backed Forsyth Review in 2008
• 2010 Manifesto commitment by Conservatives to establish the OTS
• 2010 Con/LibDem Coalition Agreement established the OTS as an arm’s
length body of HM Treasury for the lifetime of the Parliament
• 2015 Conservative manifesto promised to expand the role and capacity of
the OTS and make it permanent.
• 2016 Finance Act expected to contain a clause setting up the permanent
Office of Tax Simplification

1. Understand who holds the keys to tax simplification
and persuade them it is worthwhile for them.

2. Engage with Government and stay engaged. Otherwise nothing will happen.
CONSULTATIVE
COMMITTEE
Bo ard m e m be r chairs
Me m be rs fro m tax,
busine ss, inte re st g ro ups
and Tre asury/HMRC
Rt Hon Michael Jack
CHAIRMAN
James Bowler- HMT
Edward Troup - HMRC
Treasury/HMRC
Analyticalsuppo rt and
info rm atio n
Also back o ffice suppo rt
and busine ss suppo rt
5 civil servants from
HMRC/HMT – policy
experts/project managers
SECRETARIAT
Jeremy Sherwood HMRC/HMT
Head of Office
John Whiting
TAXDIRECTOR
2-5 others: private sector/academics
5-10 private sector
secondees (lawyers,
accountants, academics, tax
specialists, HR
professionals)

3. Quickly establish and maintain your credibility with
Government, senior officials, the tax profession and the media.
John Whiting is the Tax Director of the Office of Tax
Simplification, a part-time role he has held since the
OTS was established. Until 2013 he was the Tax
Policy Director of the Chartered Institute of Taxation;
previously, he was a tax partner at Pwc. He is also a
non-executive director of HMRC and a Board member
of Revenue Scotland.
Rt Hon Michael Jack served as the Member of Parliament for
Fylde between 1987 and 2010 following a career in business.
He served in a number of ministerial posts, including as
Financial Secretary to the Treasury from 1995 to 1997. During
his time as Financial Secretary he was responsible for
establishing the Tax Law Rewrite project.
4. Choice of personnel is absolutely essential.

OTS Projects
Finished:
(1) Tax Reliefs – completed March 2011
(2) Small business taxation – 2012
(3) Pensioners – completed March 2013
(4) Share schemes (two stages) – completed March 2013
(5) Employee benefits and expenses – completed July 2014
(6) Tax penalties - completed October 2014
(7) UK Competitiveness – completed December 2014
(8) Partnerships – completed January 2015
(9) Employment status – completed March 2015
Ongoing:
(10) Tax complexity (exploring the causes of complexity and
measures of complexity)
(11) Income tax/national insurance alignment
(12) Small company taxation
5. Move quickly – reforms need to fit into the political cycle.

6. Keep momentum – early and regular success maintains the profile of simplification and credibility of the office.
7. Don’t be too ambitious – aim for bite-sized chunks that can be implemented relatively quickly.
OTS Recommendations to date
- 402 (60 ‘big picture’, 342 other)
- around 50% accepted wholly or partly, 29% under consideration
- (41% of the big picture proposals were partly or wholly accepted)
- Proposals included policy, legislative and administrative changes
- Merge tax and national insurance
- Introduce a cash accounting basis for small businesses
- Improve guidance for people with overseas pensions
- Improve clearance procedures for VAT
- Carry out a full review of travel and subsistence expenses
- Update the rules for tax free living accommodation to make them fairer

8. Anticipate and engage with likely “losers” – understand
their issues and try to mitigate them if possible.
Blind person’s allowance
The blind person’s allowance is an additional allowance for individuals
who are certified blind or severely sight impaired. The relief is not used by
the majority of blind people as they do not earn sufficient income and
there may be better ways to assist those with a visual handicap.
However, we recommend not abolishing this relief until an alternative and
equivalent funding route is put in place.
OTS review of tax reliefs, final report, 2011

How we work
- projects take 6-24 months and are agreed with Ministers
- we try to talk to as many people as possible, eg in the
partnerships project we had 50+ meetings and met 1,000 people
- we also draw on HMRC internal and public data and analysis
- we pull it all together in evidence-based practical
recommendations, working closely with HMRC/HMT to test them
- Sometimes disagreement and tension occur, but usually
relations are good. HMRC is most concerned about avoidance,
administrative cost and resources.
9. Challenge the status quo in a forensic and professional
way, informed by balanced evidence and practical taxpayer
experience

‘What the government can do to further improve competitiveness of
the UK tax administration....with particular regard to World Bank
‘Paying Taxes’ report...particular focus on SME sector ’
World Bank paying taxes
Three indicators: Total tax/time to comply/number of payments
Work programme:
• Recruited the former Head of Tax at Tesco plc and a SME tax specialist
• Initial thoughts & call for evidence published with Budget in March 2014:
• Extensive series of meetings (c60: April-July), met most of FTSE 100 plcs
• Researching particular issues, other countries etc.
• Report published October 2014, Government response in December
Example project: Improve UK tax competitiveness

Top 10 recommendations
Corporation tax/income tax
1. Align tax and accounting profits...(eliminate tax nothings, capital allowances -
are they worth it? corporate capital gains: necessary?) (Consider)
2. Trading/investment distinction – abolish (Consider)
3. Debt cap, transfer pricing – streamline (Consider)
VAT
4.Greater certainty needed: boundary issues, rulings (Accept)
Payroll taxes
5.Income tax/National insurance harmonisation (Consider)
6.Real Time Information process – review including ‘on or before’ (Accept)
7.Extend short term business visitor rules (Consider)
HMRC administration
8.Extend Customer Relationship Manager model (Reject); explore how to give
greater certainty to smaller businesses (Consider)
9.Continue to improve call centre times etc; e mail service needed (Accept)
10.Single tax account service for small businesses (Accept)
…50 recommendations in all…49 being taken forward

And finally…
‘The art of taxation
consists in so plucking the
goose as to obtain the
largest amount of feathers
with the least possible
amount of hissing’
36
Jean Baptiste Colbert

Thought Leadership Lecture 2015 - Jeremy Sherwood

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