What direction will UK tax policy take next?

The race to become the next Prime Minister has been whittled down to its final two competitors: Rishi Sunak and Liz Truss.  The battleground being fought over most keenly in this election is the economy, and the candidates’ approaches to tax policy have loomed large as a part of that debate.

Sunak believes that inflation must be tackled before tax cuts can be delivered. In contrast, Truss is prioritising tax cuts to stimulate growth.

Sunak’s Plan

Having set the economic agenda for the past two years, it was always unlikely that Sunak would announce major changes to the current economic direction in this contest.  He announced the rise in National Insurance Contribution (NICs) rates in 2021 with the rationale that it was required to pay for the large amount of public spending on health and social care post-pandemic. This decision breached the 2019 Conservative manifesto commitment not to raise the rates of NICs, income tax or VAT – although that commitment was, of course, set pre-pandemic and before the £400bn+ of extra spending as a result. As Chancellor, he also announced a surprise jump in the rate of corporation tax from 19% to 25% with effect from next April - again an attempt to shore up the public finances by raising additional revenue.  

Despite presiding over the heaviest tax burden in decades, Sunak has stated his aim is to be a low tax conservative and he has made this clear in budget statements throughout his time as Chancellor. He has already announced a reduction in the basic rate of income tax from 20% to 19% in 2024 and a further 3p off by the end of the  next parliment. In addition, Sunak has called for radical reforms to the way that businesses are taxed and incentivised, although has so far provided few details on what that might entail. Sunak also preferred direct interventions to help families with the cost of living by making support of £400 available to help with energy bills with a further £1200 available for the most vulnerable, viewing this as more progressive. However, more recently in the campaign Sunak announced a removal of the 5% VAT on domestic heating if the price cap rises above £3,000, a move which would cost £4.5bn.

When Sunak resigned one of the reasons he gave was that his approach to the economy was “fundamentally too different” to Boris Johnson’s. Some of the tax changes we could expect in future might include a further focus on cutting income tax faster than had previously been planned and greater investment reliefs for business, but coupled with an increased focus on fiscal responsibility and fewer new funding or grant based announcements than have characterised Boris Johnson’s administration.  

Sunak rejects the approach of introducing immediate and steep tax cuts, arguing that further borrowing to fund them at this point in time would damage the public finances and exacerbate the already challenging inflationary pressures on the economy. This tension between achieving growth through tax cuts versus disciplined economic management has so far been the central dividing line in the contest.

Truss’s Plan

Liz Truss has now publicly opposed most of Sunak’s flagship tax policies. Principally she argues that a rise in the corporation tax rate would decrease business investment and “choke off economic growth”. Truss stated in a televised leaders debate that she also opposed the NICs rise privately in “cabinet at the time” and has made reversing it another key part of her pitch to Conservative members. As part of her tax package, she has also stated that the government would suspend green levies on energy bills, which should save people £150 off their energy bills.  

The cost of these measures is not insubstantial, with a reversal of the NIC rise costing £13 billion, halting the rise in corporation tax around £17 billion and suspending green levies around £8.5 billion. At a total cost of £38.5 billion, these measures would likely put further pressure on the public finances and a number of economists believe this would increase the rate of inflation. Truss intends to accompany these measures with a tougher inflation mandate for the Bank of England, radical supply-side reforms, including “full fat” freeports, and changes to how the national debt is structured. Critics of this approach have argued that long term debt is often more expensive for the taxpayer than short term debt and that supply-side solutions that are popular, implementable, and effective are rare.

If Truss did nothing else in her first budget these tax measures would still rank as an extraordinary peacetime fiscal event. For context, the IFS described Sunak’s 2021 pandemic budget as a “once in a decade” event which had a £40 billion net impact on the public finances. Truss’s tax cuts combined with her commitment to raise defence spending to 3% of GDP would exceed this. It would also add further pressure on the national debt, already swollen from the £400bn spent during Covid.

What happens next?

The contest now goes out to a ballot of Conservative party members, and the new Prime Minister will be announced on 5 September. Polling suggests Liz Truss enjoys a substantial lead over Rishi Sunak. However, sentiment can of course change at any moment and, in addition to the TV debates, there are 12 regional hustings underway – which will provide plenty of opportunities for close scrutiny and further announcements, which make the outcome, and therefore the future direction of UK tax policy, hard to predict.

Consultations have taken place in recent months for a number of significant tax changes and reforms, including the potential introduction of an Online Sales Tax and reforms to the UK’s capital allowance regime - which was highlighted as a key mechanism to encourage business investment in Sunak’s 2022 Spring Statement Tax Plan. While the direction of these tax changes is uncertain, in the meantime we would expect HM Treasury and HMRC to continue working on policy development, albeit progression may be altered by a change in political direction.

In the event of a Truss victory, we could expect an early fiscal event to implement her tax-cutting reforms, which may be timed to take place either side of the Conservative Party Conference on 2-5 October. The next budget was expected to be held in late October or early November, so this would be an accelerated timetable, although not dramatically so. Next April’s rise in the main rate of corporation tax to 25% is already on the statute book, so a Truss government would need to pass primary legislation (i.e. an Act of Parliament) following the budget to maintain the current rate at 19%. Further legislation may also be needed to enact changes to personal tax rates and potentially also for suspending the effect of green levies on energy bills. On broader new measures, there is usually a rather long road between a tax policy announcement and the actual implementation of the measure. Whoever wins, there is likely to be a process of consultation and negotiation, so businesses will need to be ready to be part of that debate.

For further support in understanding the direction of UK tax policy, Deloitte’s specialists are on hand to help.