Brown and Darling take note: tax doesn’t have to be taxing

In his 10 years as Chancellor, Gordon Brown never tired of telling us how much he was in favour of enterprise.

The rule proved very popular with economists, who said it encouraged capital creation; but the new rules also applied to gains such as the “carried interest” of partners in private equity firms. So Darling changed it again to a flat rate of capital gains tax for everything of 18%. However, he also did away with the tax-free allowance and, even more importantly, the indexation for inflation. When that produced howls of fury from the business lobbies, who complained with much justification that this amounted to a 80% tax rise on entrepreneurs but a tax cut on buy-to-let investors, Darling caved into the pressure and changed the system again.

Now, the first £1m ($1.99m, e1.35m) of gains made on any business asset will only be taxed at the lower rate of 10%. So now there are two different rates of capital gains tax, depending on the type of asset and how long it has been held, as well as two different rates of income tax. As the accounting firm MacIntyre Hudson put it in its analysis of the change: “The saving grace of the reform published in October was its simplicity, with a single rate and the abolition of the distinction between business and non-business assets. Now even these small advantages will be lost.”

Quite so. There is now scope for endless arguments about what counts as a business asset and what doesn’t. Shares awarded through a company saving scheme, for example, won’t count, although it is hard to understand why that isn’t an asset. There will be disputes about whether the lifetime limit has been reached.

And like any arbitrary tax rule, it will distort the market. There is now an incentive to sell your company as its value approaches £1m. Don’t be surprised to see lots of medium-sized enterprises sold for £999,000, even though they would have been far better run by their founders as their value climbed to £2m or £3m. And don’t be surprised if lots of things that used to be income suddenly start getting turned into capital gains to benefit from the lower rates. Even worse, any entrepreneur who has already made £1m from one company will have a huge incentive to move his next venture offshore. How is driving your smartest business brains abroad helping encourage enterprise?

But then corporate taxes keep getting more and more complex. In his final Budget as Chancellor, Brown raised the tax rate on smaller companies, then claimed he was compensating for that by raising capital allowances. They would allow revenues to be recycled to “legitimate businesses investing for the future”. But only someone with Brown’s total faith in the wisdom of the state could believe the government could possibly know what businesses are “legitimate” or not, or indeed what “investing in the future” might actually mean.