Matthew Lynn

Sunak’s leaked tax plan sends precisely the wrong message

Sunak's leaked tax plan sends precisely the wrong message
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It is too expensive. It mostly goes to Southerners who already have plenty of money. And it doesn’t even work very well, while the money would be better spent elsewhere.

As the Chancellor puts the finishing touches to his Budget, the leaks suggest that the most generous tax relief for entrepreneurs will either be curbed, reduced or potentially even scrapped completely.

But hold on. That's crazy. It's just about possible that there might be a worse message to send out about post-Brexit Britain – nationalising the banks, perhaps, or a three-day working week – but it is hard to think of one. In fact, entrepreneur’s relief has been a huge success. Instead of scrapping it, we should think about extending it.

In the last 20 years, the UK has put together one of the most attractive packages for encouraging start-up companies in the developed world. The entrepreneur’s rate of capital gains tax means you only paid ten per cent to the government on any money you made when you sold your business. A range of schemes (the Enterprise Investment Scheme, venture capital trusts, and the Seed Investment Scheme) offered investors generous tax relief on the money they put into a new business. 

The government used the tax system to help both people who founded new companies and the people who backed them. The result? A boom in start-ups. 

The UK has one of the highest rates of company formation in the world with record amounts of funding going into new businesses. It is one of the reasons the economy is so resilient, and employment so high.

Sure, that costs the Treasury some money. It doesn’t collect as much cash when someone sells their business as it otherwise would. And occasionally some smart accountants, as smart accountants usually will, have found ways of turning that into a tax shelter (although the rules have been tightened on that a lot. It's very hard to claim entrepreneur’s relief on something that isn’t a genuine business). 

Some studies claim that people would set up companies anyway even if they faced a higher tax bill at the end of it all. Maybe they would and maybe they wouldn’t? Entrepreneurship, as anyone who has tried it will tell you, is a tough road to travel down, and we will never be sure what motivates people to take that journey. 

But why take the risk? If we scrap it, and the rate of company formation goes down, the entire economy will suffer – and at a moment when we need more new businesses, not fewer.

In fact, if we are worried about who benefits from it, perhaps we should extend it instead? We could have a zero per cent rate for start-ups in designated areas, such as Wales or the North East. Set up a company in Wrexham and you pay nothing when you sell it. 

Next, we could offer tax reductions on the dividends paid from start-ups as well. We don’t necessarily want to encourage founders – usually the smartest people who care most about a company – to be forced to sell up get a tax break. Let them take money out tax-free instead. Finally, surely we could extend the tax break more widely to staff. A few with the right type of options can already benefit, but if we broadened that out then founders could reward their teams with tax-efficient shares.

It is surely clear that the UK’s main strength outside the EU will be building the most entrepreneurial economy in Europe. Outside the single market, we won’t be able to offer completely free access to all those countries. But if we can offer the most start-up friendly tax and regulatory regime in the world then that will more than make up for it.

And yet getting rid of the main tax break for start-ups, in the first Budget after we have left the EU, would be precisely the wrong place to start.