Corporate Tax

Maximising shareholder wealth has always been at the forefront of objectives for managers that run publically listed companies. Improving financial performance generates wealth for shareholders. One method of improving financial performance is to cut costs, a more controversial way of achieving this is for companies to alter their tax structure. Why pay 25% corporation tax in the UKwhen taxation loopholes can be exploited, reducing this figure to, in some circumstances 0%. Companies are able to take advantages of such scenarios due to the introduction of double taxation treaties.

Double taxation treaties are agreements drawn up between two states to:

* ‘Protect against the risk of double taxation where the same income is taxable in two states’
* ‘Prevent tax discrimination against UK business interests abroad’(HMRC, 2012)

However,companies can exploit this by “relocating” their company to a tax haven (an area with low corporate tax rates) and therefore only have to pay the corporate tax rate implemented by their state of residence. For example, there has been much speculation in the news over the last year regarding Northern Ireland’s corporate tax rate. The country shares the same tax rate as the UK, around 25%.However, the Republic of Ireland’s corporate tax rate stands at just 12.5%. As a result Northern Ireland’s economy has become heavily reliant on its public sector with private companies simply moving over the border into the Republic of Ireland to benefit from the country’slow tax rates. Many MPs are in favour of granting Northern Ireland with responsibility to determine its own tax rate, lowering it significantly would help to regain competition with the Republic of Ireland. However, Chancellor George Osborne believes Northern Ireland’s government ‘will lose about £200-300m from the NI block grant if the business tax is cut’ (BBC News, 2011).The decision regarding altering Northern Ireland’s corporate tax rate is still pending.

However, it is not only Northern Ireland that is seeing companies from its private sector moving out of the country to benefit from lower corporate taxrates…

Boots the high street retailer is a common culprit for avoiding tax. Founded by John Boot in Nottingham during the 1860s, the firm has always been considered a national corporate treasure. The firm paidout roughly about a third of its profits in UK tax every year and the UK treasury could expect this amount coming in, usually around £100m annually. However, in June 2007 the company was bought by KKR an American venture capital giant for £11.1bn, of which £9.3bn was raised through debt. In 2007 the huge interest payments on the debt (a tax deductible expense) acted as a ‘taxshield’ for the company, wiping out any tax to be paid in the UK.

In 2008 the Boots group was moved to Zug, a tax haven in Switzerland. Although little activity actually takes place at the Zug offices the company can take full advantage of the locations low corporate tax rate, currently around 19%. Although 19% is still quite high when considering other tax havens (for example, the Cayman Islands 0% or the Republic of Ireland 12.5%) it is believed that ‘the chances are good that the officials in Zugwill cut you a deal--something like a 10% rate for a decade’ (Robinson, 2009). Significantly reducing their tax will have a positive effect on the company’s financial performance and potentially increase the wealth of shareholders. Boots aren’t the only companiesto do this, Zug currently has 30,000 companies registered to the location andthis number is increasing by 800 every year.

To understand the extent at which tax evading is present in the UK, a Sky Newsreport suggests that ‘All But Two FTSE 100 Firms AvoidPaying Tax' (Sky News, 2011). Back in 2010 American food giant Kraft bought the British chocolate manufacturer Cadbury’s for £11bn. Under instruction from the new owners the company is to be moved to Switzerland, again, to take advantage of the country’s low corporate tax rates, a move that is said to cost the UKtreasury £60million a year.

An additional way of avoiding paying high tax rates is through ‘transferpricing’. Globalisation of companies allows them to shift profits over borders into countries with low corporate tax rates. For example, a company is situated in a tax haven with corporate tax rates of 12.5%, their subsidiary is located elsewhere with a higher corporate tax rate of 20%. The subsidiary is where manufacturing takes place however once the goods are ready the subsidiary under-invoices their goods to the parent company. Theoretically, the subsidiary hardly turns a profit due tothe low price they charge the parent company and therefore avoids the large corporate tax rate. The parent company however makes large profits but only pays 12.5% tax on them. Roughly about ‘60% of world trade’ (Sikka, 2009) consists of multinational companies trading internally. This provides the opportunity to ensure that profit is shifted to a state with low corporate tax rates resulting in companies paying less tax and retaining more profit.

This strategy of relocating to avoid paying high tax rates is perfectly legal, is the move then just good business?

I imagine my fellow students looking to pay £9,000 tuition fees as of September would argue not. I imagine their argument would be supported by the thousandsof public sector workers made redundant during the cutbacks or any of 2.67million people in Britain currently unemployed. Ultimately it is the British economy and taxpayers that lose out to such controversial behaviour. In December 2011, Britain’s total debt figure reached £1003.9 bn. Many companies that generate their sales and profits in the UK pay their corporate tax elsewhere, to foreign governments, bad business ethics considering the current state of our economy and it is often the taxpayer that has to pick up the bill. I believe businesses owe a moral duty to pay taxes in the countries they generate sales; finding loopholes or ways of evading paying tax is simply exploiting UK society.


Sources Used:

BBCNews. (2011) ‘Chancellor gives 'serious consideration' to tax cut’, BBC News Website, [Online]. Availableat: http://www.bbc.co.uk/news/uk-northern-ireland-13800048(Accessed: 25/02/12).

HMRC.(2012) ‘Double Taxation Treaties’, HMRevenue & Customs Website, [Online]. Available at: http://www.hmrc.gov.uk/taxtreaties/dta.htm(Accessed: 25/02/12).

Oxlade, A. (2012) ‘£1trillionborrowed: So how bad is Britain'sdebt problem?’, This is Money Website, [Online].Available at: http://www.thisismoney.co.uk/money/news/article-2091113/1trillion-debt-How-big-Britains-debt-problem.html(Accessed: 25/02/12).

Robinson, P. (2009) ‘Cutthe Corporate Tax Rate!’, Forbes Website,[Online]. Available at: http://www.forbes.com/2009/09/17/taxes-corporations-business-globalization-opinions-peter-robinson.html(Accessed: 25/02/12).

Sikka, P. (2009) ‘Shiftingprofits across borders’, The GuardianWebsite, [Online]. Available at: http://www.guardian.co.uk/commentisfree/2009/feb/11/taxavoidance-tax(Accessed: 25/02/12).

Sky News. (2011) ‘All But Two FTSE 100 Firms 'Avoid Paying Tax', Sky News Website, [Online]. Availableat: http://news.sky.com/home/business/article/16086749(Accessed: 25/02/12).

CBS News. (2011) 'A look at the world's new corporate tax havens', CBS News Website, [Online]. Available at: http://www.cbsnews.com/stories/2011/03/25/60minutes/main20046867.shtml (Accessed: 25/02/12).