Our tax system needs purposeful change, not tinkering

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George Osborne has, it is reported, abandoned plans for root-and-branch reform of the taxation of pension saving and will content himself with tinkering with rates of relief. He will continue the annual cycle of small, but significant, changes to the pension tax regime which has now run for more than a decade — the lifetime limit to the total pension savings that qualify for relief has been lowered gradually since 2010 — while providing more flexibility on drawdown.

More than any other financial decision, pension saving requires considered, long-term decision-making. But the frequency of changes in rules is such that only a handful of specialists in pension taxation can possibly know at any particular time which are the relevant rules.

Building a business is another lifetime choice. But in my lifetime, the rate of tax on business capital gains at realisation has been variously 18 per cent, 28 per cent, 30 per cent, and 40 per cent. An indexation allowance was introduced, and then withdrawn. The scale of relief for business assets has varied widely and so have the definitions of such assets. Even the best-advised small-business founder cannot possibly know what liabilities might be incurred when the time comes to enjoy the fruits of success.

The instinct to fidget is part of human nature; just ask a small child to sit still, or an adult to stop fiddling with the smartphone. Or a politician to eschew fresh initiatives. The British budgetary system, with its powerful executive and red box of Budget secrets, is particularly vulnerable to the fidgety minister; the restlessness of Gordon Brown knew few bounds. But Mr Brown was not the only culprit. Each year, all chancellors canvass their advisers for wheezes to be included in the next Budget, and all have an opportunity to ride their hobby horses.

The bias to action is pervasive in business and finance. The dynamic leader storms into the C-suite, determined to make a mark; perhaps it is time to focus on the core business, or an opportunity to leverage the company’s strengths by diversifying into new markets.

Almost everyone in the lengthy chain of financial intermediation between saver and investee is rewarded by reference to the volume of their activity. It is difficult to charge much for the often sensible advice to do nothing. But there is wisdom in the legal academic Frank Partnoy’s elegant book Wait: The Useful Art of Procrastination, in which he argues that snap decisions, or those made on “gut instinct”, are not necessarily best.

And yet. No one can have spent so much of their life in universities, as I have, without seeing that deferring a decision is itself a decision, and rarely a good one. What is needed in our tax system — as in so many other areas of political life — is purposive change: reforms may well be implemented in piecemeal fashion but should be motivated by a sense of strategic direction.

And in our patchwork quilt of a tax system there are many areas in more urgent need of reform than pension saving — corporation tax immediately comes to mind. The basic principle underlying pension tax relief — the opportunity to defer tax on income diverted to retirement saving — makes sense on grounds of both economic efficiency and overall fairness.

The drive for change comes from two sources, one foolish, the other discreditable. The foolish idea is that you should aim to create the appearance of progressivity, not just in the tax system as a whole, but in every part of it — an idea which has added much avoidable complexity to the tax system in the past two decades. And the discreditable idea is that if you fiddle with the rules to raise more revenue now, the consequences will be a matter not for you but for your successors.

This article was first published in the Financial Time on March 9th 2016.

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