Rishi Sunak has made ‘long-term decisions’ the leitmotif of his government. Today’s Autumn Statement announcement on permanent full expensing – which will allow businesses to write off capital investment costs against corporation tax immediately and in full – shows his Chancellor is singing from the same hymn sheet.
While it might sound dry, this tax reform is a vital step towards fixing one of the key structural weaknesses in the British economy: lacklustre business investment. Hunt’s announcement today will help boost productivity, economic growth and wages. In due course, full expensing should make us all – businesses, workers and consumers – better off.
The current version of full expensing, introduced in the March 2023 Budget but due to expire in March 2026, allows businesses to offset 100 per cent of most types of plant and machinery investment against their tax bill up front. Research by the Centre for Policy Studies and the Tax Foundation suggests that making the current version of full expensing permanent – as Hunt did today – would boost the long-run capital stock by 1.5 per cent, and deliver a 0.8 per cent boost to wages and a 0.9 per cent boost to long-run GDP. Other people’s findings are even more positive.
This is in contrast to traditional investment allowances, where the tax deduction is spread over time. The more you spread out a deduction, the less valuable it becomes because of inflation and the time value of money (‘a bird in the hand is worth two in the bush’). Indeed, for some years before the introduction of the ‘super-deduction’ investment allowance in 2021, the UK tax system ultimately permitted only 62 per cent of investment costs to be deducted (on a net present value basis).
Full expensing, however, will act as a powerful investment incentive for businesses. It helps to eliminate pernicious distortions from the tax system by ensuring investment decisions are treated the same way as day-to-day spending. It thus removes a disincentive to businesses making long-term decisions.
Britain has long had an investment problem. This matters because, in the grand scheme of things, business investment in new equipment and technologies is a key factor in productivity growth – which in turn is the key driver of economic growth and rising living standards.
While most developed countries have experienced a productivity slowdown in recent years, the problem has been particularly acute in the UK. Measured in terms of output per hour worked, productivity increased by just 0.6 per cent per annum in the decade to 2019 – less than a third of the long-run average rate. Largely as a result, GDP per capita is only around 6 per cent higher now than in 2007.
Low levels of business investment have undoubtedly been a major factor in stagnant living standards. In the decade between the financial crisis and the pandemic, gross-fixed capital formation (GFCF) in the UK averaged just 17 per cent of GDP, well below the OECD average of 21 per cent and behind G7 peers like Germany (20 per cent) and France (22 per cent).
Our relatively uncompetitive tax system has been one of the key factors in explaining low investment levels. According to the Tax Foundation’s International Tax Competitiveness Index 2023, Britain ranks 28th out of 38 OECD countries when it comes to corporate tax competitiveness.
Putting full expensing on a permanent footing, as the Chancellor has now done, will go some way towards improving our position. The long-run cost to the Treasury will be relatively low – around £1.4 billion per annum, according to our previous modelling (and between £1 billion and £3 billion according to the Institute for Fiscal Studies). Once you take account of the additional business investment and economic growth – and so tax revenues – generated by the policy, it is plausible that the long-run effect could be a net positive for the Treasury.
But the far more important thing is that the policy will boost long-run business investment. And significantly, given the electoral landscape, it’s a tax reform that Labour seem likely to keep in place. The Chancellor’s decision to commit to permanent full expensing truly does seem to be a long-term decision which will help to improve the tax system, grow the economy and make us all better off.
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