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09.04.2004

Click Here for Budget 2006-2007

Quick Budget Overview 2004

Andy Lindley sifts through the 2004 budget and details the consequences for you and your business.

BUDGET 2004 Analyst's Report

IT’S THE ELECTION SOON

This is a dull Budget with only modest headline adjustments, confirming that the election run-up has started.

This Budget increases taxes by only a nominal amount. The actual situation is however very different as massive earlier tax increases along with good economic growth result in a sharp rise in tax-take. All economic growth is taken by tax in 2004/5.

The massive growth of public expenditure continues concentrated on health and social security and now also on education in England. The scope for cost savings has sunk in and planned are £20billion savings per year and job cuts of 43,300.

The Budget deficit may be peaking out and might actually decline, maybe.
Under the dull picture the Chancellor continues to fiddle with micro-managing the economy, so there is a cascade of measures, with some stings and pleasant surprises.

The economic outlook at present appears benign with rapid growth and public finances remaining just sound. The underlying financial position is good even including off-balance sheet financing.

There are risks about, notably from inflation and interest rates, but they only come home to roost in 2005. So far success continues and the Chancellor has co-ordinated the political and economic cycles.

Even the Construction Industry should only have smaller problems to complain about e.g. the 19% corporation tax on very small companies, cost inflation and the revised scheme for taxing the self-employed.

However it all depends on confidence remaining high to keep most people borrowing. A nasty shock or two and the vulnerability of the situation will be exposed.
Let’s hope there are no big shocks.

Tax Measures:
  • As a result of this budget taxation of personal incomes is slightly reduced, by £943mn in 2004/5. In contrast actual tax-take is projected to jump by £12.2billion, +8.3% due to increased employment, strong income growth and fiscal drag.
  • Taxation of personal assets and savings rises sharply by ca. £3,600mn to ca. £33.4billion +12% from sharp rises in the take of Inheritance Tax, Stamp Duty, Capital Gains Tax and Council Tax. Private housing bears £27.6 billion of taxes.
  • Indirect taxation increases by £685mn due to this Budget. Tax-take jumps by £5.2billion, 4.5% to £119.9billion.
  • Business taxation suffers a mass of changes. For those with tax projections tax increases by £935mn. Total tax-take rises by £6,300mn, +12% to £59.5billion. Corporation tax is £6,100mn of the rise, with a 21% jump to £34.8billion.
  • Changes increase total taxes by only £675mn, but actual total tax-take is projected to jump by £28,300mn, +7 % to £434.3billion. In 2003/4 actual tax-take rose by £27,200mn also +7%. 69 % of the total increase in money GDP in 2004/5 is to be taken in tax, up from the 60% projected for last year.
Expenditure Measures:
  • Social security expenditure jumps by £6,400mn, only 4.9% to £137.1billion in 2004/5 or to £145.2billion, 29 % of all government expenditure once the cost of running the DWP is added. The modest percentage rise results from inflation increases, plus a number of small changes offset by very low unemployment.
  • Education in England is to receive a 4.4% real increase per year for each of the next 4 years. This appears largely to be a catch-up increase with other parts of the UK and total education spending will rise by +6.4% to £63.2billion in 2004/5
  • Other expenditure plans remain as before with the contingency margin rest-set along with the notable increase in health spending. Overall public expenditure including tax credits and payments to the EU is to jump +5.8% or £27.7billion to £502billion, 42.6% of GDP.
The Budget Balance:

The deficit budget balance continued to deepen last year reaching £37.5billion. The first sign this deficit may be peaking out came in the final quarter with a smaller figure than expected.

The current deficit is sustainable being no more than gross capital investment, and in the future deficits are less than gross capital investment. They of course substantially understate the true deficit due to off balance sheet financing through the burgeoning cost of rail upgrades plus PFI capital investment. These might add £60billion to £80billion to the National Debt taking it to £455billion to £485billion by end 2004/5 or 38.6% to 41% of GDP, still good figures.

The table sets out the budget balance comparing projections from the previous 2 Budgets with this one. They include taxes paid direct to the EU and tax credits, that count as increased expenditure in economic terms. These items do not alter the balance, but make both the tax and expenditure figures larger than the net figures used in the Budget. In 2004/5 they add £7.8billion to both sides. The totals may still understate the true figures.

 

 

Taxes etc., Expenditure and their Balance
£ Billions

 

 

2002/3

2003/4

2004/5

2005/6

2006/7

   

actual

estimate

projections

 

 

Taxes and
Other income

 

410.1

436.8

469

504

534

% change

 

+2.1

+6.5

+7.4

+7.5

+6

Expenditure

 

433

474.3

502

535

561

% change

 

+7.9

+9.5

+5.8

+6.6

+4.9

   

 

 

 

 

 

Balance or Net Borrowing

 

 

 

 

 

 

Budget 2004

 

(22.9)

(37.5)

(33)

(31)

(27)

Budget 2003

 

(24.0)

(27)

(24)

(23)

(22)

Budget 2002

 

(10.6)

(13

(13)

n.a.

n.a.

In 2004/5 total tax-take plus other income, including EU taxes and not netting off tax credits is 39.75 % of expected money GDP and expenditure is 42.6 % on the same basis. The deficit is just below the critical 3% of GDP of the EU Stability Pact.

As usual the increase in future expenditure is slower than in the past causing the projected deficit to fall. As usual achieving this depends on economic forecasts plus unknown future changes in expenditure. So far this tricky tiger has been ridden successfully, and anyway beyond a 2005 election is another world. The Chancellor has been warning expenditure growth will slow, but the option of higher taxes post-election is wide open, if needed, and there are plenty of possibilities. Even higher stamp duties on housing, higher NIC rates, or tax relief on pension payments limited to standard rate, or all three are available.

How tight the present situation actually is, is made clear by the sharp cuts, currently being sought in defence for the short term despite widespread commitments.

The Economy:

In 2003 economic growth was +2.3% of GDP, in the middle of the 2% to 2.5% range given in the 2003 Budget. This was better than most expectations due largely to sustained growth of consumption based on sharply higher borrowing by both government and households. The MPC helped sustain this by reducing base rate to 3.5% for some months, perhaps due to misleading data. In the final quarter growth was running at 3% as the general world recovery became clear. In this situation the private housing boom continued despite tax increases and sharp price rises that have cleared away a proportion of first time buyers.

The Budget forecast is for 2 years of boom with growth at 3% to 3.5% for both 2004 and 2005. These forecasts stand from the 2003 Budget. In 2006 slower growth is forecast of 2.5% to 3% as capacity limits bite. On the basis of these forecasts the Chancellors golden rule of a balanced budget over the cycle is just met.

At the present time the 2004 forecast has a good prospect of being achieved as consumption growth continues, unemployment falls to record low levels, the growth of several major economies is strong and even the Euro-area recovers. In consequence world trade is expected to grow much faster.

In this situation the housing boom looks set to continue despite a steadily rising base rate as there are no shocks to sharply change perceptions. The present 4.25% rate is expected to progressively rise to 5% and on to 5.5% by mid 2005. At best there could be the frequently forecast, but yet to happen slowing in the housing boom. The problem with the situation of huge individual debts is its vulnerability to any event that changes perceptions.

The main risk to the situation is inflation. China is running a massive inflationary boom that has pushed up many commodity prices. Oil prices are at peak levels around 40$bbl from US demand, the Iraq situation, China and general recovery. Increased output from OPEC is not keeping up with demand. Oil futures indicate high prices persisting for some time. Earnings in the UK are rising rapidly with labour shortages. The outlook is for rising inflation. The B of E and the Treasury expect CPI prices to reach the 2% target next year from 1.1% currently. This infers RPI prices rising by 3% to 3.5%. Growth in 2005 is therefore at some risk.

Only in the event of a much higher than expected base rate to suppress inflation, say 7%, will a crash stop take place in the housing market and in rising borrowing generally. It would also slow the economy sharply after a lag of about a year.

Construction:

The combination of the economic forecasts and the Budget expenditure plans make the outlook good for Construction and it’s linked industries and professions. Public sector capital investment continues to, at first grow, and then stabilises at a high level, as the following figures show.
Public Gross Capital Expenditure

Public Gross Capital Expenditure

 

2002/3

2003/4

2004/5

2005/6

2006/7

2007/8

 

actual

estimate

 

projections

 

 

£ billion

31.1

37.0

43

47

48

53

% change

+14

+19

+16

+9

+2

+10

Obviously construction is only part of this investment. In addition there are PFI projects underway with private sector capital expenditure estimated at £9billion in the next 3 years plus £5.2billion of projects at preferred bidder stage for the same period. The overall flattening off in growth of public investment may mean a dip in New Orders for Construction at some point. Major industries are also positioning themselves to finance the next wave of investment in the mid-term, e.g. power and water.

New private housing demand, although vulnerable as described above, at present seems likely to slow down in the next 2 years and not crash. Other private construction should be sustained by the growth of consumption. Labour supply should be helped by free entry from the new EU members.

Some problems are in the details. Having enticed many thousands of self-employed men into company status with the tax-free first £10,000 the Chancellor closed the trap with a 19% corporation tax, see tax measures below. The revised Construction Industry Scheme has the intention of sharply increasing tax on evaders, by £140mn in 3 years, if it works. The various environmental taxes are frozen although past rises are playing catch-up. Happily Tax-Credits are hopefully to be paid direct by Government in future.

Construction is quite transport intensive and very materials intensive so cost pressures must rise from oil and commodity prices. The whole generally benign picture depends as usual on the economy and government finances as shown above so caution rules, but the Chancellor has made it work so far. The betting is he will continue to do so at least until the election in 2005.

The Measures:

There are some 84 sets of measures that flow from the Budget process including the PBR and earlier Budgets. Some 43 were announced in this Budget, 28 in 2003/4 since the last Budget and 10 from earlier Budgets plus Council Tax and Business Rates. They are grouped, listed and assessed below.

Personal Taxation: Incomes

1. Personal and age related allowances are indexed for RPI inflation as at October 2003. This increases the single person’s allowance by £130 or 2.8% saving tax of £28.60 per year at basic rate. Age related allowances are increased somewhat more, typically by 3.3%. Overall tax reduction 2004/5 £710mn.

2. Starting points for income tax bands are indexed with the Starting Rate 10% band widening by £80, 4% to £2,020, saving £8 per year! The Basic Rate 22% band widens by £841, 2.9% to £29,380, saving up to £151.38 per year. Now the Higher Rate 40% band starts at £36,145 including the single persons allowance. The band adjustments are projected to reduce taxation by £610 million in 2004/5.

3. NIC rates are increased for the self employed plus various other small categories e.g. volunteer development workers, share fishermen etc., and the threshold and upper limits are indexed for inflation. From 23.2.04 it is clarified that payments to employees by connected third parties, e.g. companies in the same group, are subject to NICs. Income tax relief will be given to employees who bear employers NIC liability on post-acquisition earnings on certain share schemes. The combined NIC rate for employees and employers remains at 23.8% below the upper limit of £31,720 per year and at 13.8% above it. The increase in taxation is £305 million.

4. The Pensions Earnings Cap is indexed rising to ca. £102,000 per year. Tax reduction £5million in 2004/5.

5. A new package of personal pension measures is to be introduced in April 2006 radically simplifying the situation. The main feature is the lifetime tax-free allowance or pension pot of £1.5million in 2006/7 rising to £1.8million by 2010. Individual contributors will also be able to increase their tax-free contributions to 100% of income in their final year of employment, whilst maintaining the tax-free lump sum withdrawal on retirement. This is a deferral and an easing of the original proposals. A major aim of the scheme is to limit tax avoidance by higher earners through pension payments and lump sums sometimes based on inflated final salaries. It will generally catch those earning above ca. £100,000 per year with a good contribution record and successful investments. It is estimated, by government that it applies to only 1,000 people a year, i.e. 10,000 after 10 years. This is however hotly disputed with figures up to 600,000 being quoted as caught. The initial effect is projected as a reduction in tax of £25 million in 2006/7. Most members of company schemes are already limited by the Pensions Earnings Cap, which produces a similar effect. This measure does not, however, apply to the pension pots of MPs, government ministers or any public servants with accrued rights with costs well in excess of the limit proposed and sometimes many times the limit.

6. A Payroll Giving Scheme for SMEs will be launched from April 2004. Tax reduction £5million.

7. All independent tax advisers will be required to give the Inland Revenue advance details of any tax avoidance schemes they are intending to sell to clients. The intention is that the Revenue can get their counter punch in quicker, if not first.
The tax increase appears to be part of the Direct Taxes Compliance Package, which produces, net of extra funds for the IR, 2004/5 £155mn, 2005/6 £465mn, and 2006/7 £925mn. How much of this arises from the “Tell in Advance” legislation is not known, nor how much applies to individuals instead of companies.

8. The Construction Industry Scheme for site workers is to be reformed. Details given in the Construction section. Income Tax increases projected as 2004/5 £20mn, 2005/6 £40mn and 2006/7 £80mn.

9. The Company Car Tax emissions level for minimum charge announced in Budget 2003 commences with a negligible effect in 2004/5 and tax increases 2005/6 and 2006/7 now revised down by £25mn to £100mn per year.

10. The tax rules covering Company Vans will be eased so employees who have to take them home e.g. those on call will not be liable to income tax on the benefit in kind from 2005/6. This is claimed to remove 85% of those currently liable from the system. Tax reduction £30mn. However from 2007/8 unrestricted private use will be taxed as a benefit of £3,000, plus £500 for fuel and somehow all van users will have to prove no private use!

11. The benefit in kind taxation on emergency service vehicles, e.g. fire and ambulance vehicles taken home at night to speed up response times will be removed from 2004/05. The tax reduction is negligible except for the individuals concerned.

12. A measure is introduced to ensure the continued tax exemption of immediate needs annuities payments for long term care.

13. The foreign earnings deduction will be redefined to ensure it is given only to genuine seafarers.

Total income tax and employee NICS are to reduce by £943mn in 2004/5. However actual tax take is projected to rise by £12.2billion to £162.6billion +8.3% from higher employment, faster income growth and fiscal drag. Tax in 2004/5 will be ca £5,766 for each of the 28.2mn people employed, up £53 per person or almost +1% on last year.

Personal Taxation: Savings and Assets

14. The inheritance tax threshold will increase by £8,000 to £263,000, +3.1%. Tax reduction projected as £55million in 2004/5. However IHT take is projected to rise by £300 million to £2.8billion, +12% in 2004/5. Various changes in legislation will be made to extend the simplified IHT reporting procedures affecting ca. 30,000 more estates a year and IHT tax penalty rules will be brought in line with those for income and capital gains taxes.

15. Schemes by which IHT and or CGT are avoided on housing or gifts have been made void. These schemes operate by exploiting the interaction between rules for these taxes on gifts, gift relief on disposal to settlor trusts or the exploitation of gifts with reservation made to a spouse. The change of rules was from 10.12.03 or 20.6.03 respectively. This change appears to be retrospective back to 1986 and is a major tax increase largely closing a loophole allowing the inheritance of the family home tax-free. It will ensure that either income tax is liable on the benefit in kind of schemes or they are included in estates for IHT. There are exceptions where a property has already been inherited by a spouse, or where it was sold at the open market price, although to a connected party. It can affect up to 1.5 million homeowners at present, based on house prices. In the longer term most homeowners are potentially affected if house price inflation continues to exceed general inflation. The tax increase is included either under item 11. IHT, or under 13 below.

16. In parallel with stopping the avoidance schemes noted above Trusts are to suffer an increase in tax rates from April 2005. This will standardise definitions of trusts and tests across income tax and capital gains tax and introduce a basic rate band for small trusts for up to £500 of income per year. Trusts will have their tax rate increased to 40%, from 34% and their dividend trust rate increased to 32.5% from 25%. Additionally the repo or stock lending rules will apply from 17.3.04 to remove income tax avoidance. The tax increase is £35mn in 2004/5 rising to £150mn in 2005/6 but falling back to £145mn in 2006/7, including the effects under item 14 above.

17. The Capital Gains Tax exemption is increased to £8,200, or by £300, 3.8 %. The recovery in the stock market however results in tax take rising by £300mn to £1.5billion, +25% in 2004/5.

18. UK equity repos and stock lending by individuals will be subject to the same measure applied to trusts noted in item 15.

19. The use of life insurance policies by higher rate taxpayers to manufacture deficiency relief is stopped from 3.3.04 for new policies, when additional payments are made on existing policies or policies are used as security for borrowing. Tax increase is £30mn in 2004/5 and £90mn in 2005/6.

20. Gilt strips will, from 15.1.04, be subject to a measure to prevent artificial losses on strips on government bonds being set against other income. From 17.3.04 this will be extended to prevent capital losses from such arrangements.

21. Stamp duty rates remain at the present levels with no inflation adjustment. This real tax increase and continuing sharp house price inflation together result in tax take jumping by £1.9billion to £9.4billion in 2004/5. Of this ca. £6.6 billion arises from property transactions. Stamp Duty from share trading has withered away as more investors switch to derivatives. It is estimated by the Revenue to have fallen to £2.6billion in 2003/4 compared to £4.5Billion in 2000/1, despite higher stock market turnover in 2003/4. The Stamp Duty Land Tax is dealt with under Business Taxation.

22. ISAs will have their annual tax-free investment limit reduced to £1,000 from £7,000 or £3,000 for mini-cash ISAs in 2005/6. Tax increase not given. Medium term products will also be brought into ISAs. Tax reduced by £20mn in 2005/6.

23. Venture Capital Trusts will have their income tax relief increased from 20% to 40% for the next 2 financial years. In addition GCT deferral relief will be abolished and the income tax relief will be increased to £200,000 p.a. for both VCTs and the Enterprise Investment Scheme. Tax reduction, including on companies involved is nil in 2004/5 and £55mn in 2005/6.

24. Enterprise Management Incentives will be widened, by extending the subsidiaries rule to those with less 75% ownership. This will apply to all companies granting EMI share options and their employees who benefit.

25. Tax relief for investors in new films will be abolished when they expire in 2005, as it has been used to gain a permanent tax shelter. The reliefs will be transferred direct to the filmmakers.

26. Cross border tax evasion on savings income will be combated by requiring UK paying agents to report savings income paid to certain overseas residents. This will enable the UK to implement the EU Savings Directive and begins on 1.1.05.

27. The rules governing distributor status for offshore funds in other EU countries are to be relaxed so more can gain the CGT allowance. This is to apply to accounting periods ending on or after the Royal Assent to the Finance Act. Tax reduction not known.

28. A Landlord’s Energy Saving Allowance will be introduced from 6.4.04. It will allow landlords to offset against income tax up to £1,500 p.a. spent on loft or cavity wall insulation. Tax reduction £10mn in 2005/6.

29. Finally Council Tax is expected to rise by £1,100mn or by 6% to £19.7billion in 2004/5. Some 6 councils are to be capped for higher increases.

Changes in tax on personal assets and savings cannot be calculated on the information given. However total tax-take in this sector is estimated at £33.4billion in 2004/5 up £3.6billion, +12%. Private housing alone attracts tax of ca. £27.6 billion from council tax, stamp duty and IHT.

Indirect Taxation

30. VED rates are frozen for all vehicles. Tax reduction £130mn on an inflation indexed basis in 2004/5.

31. Fuel Duties are revalorised from 1st September 2004, plus anti-fraud measures on red diesel as follows. - Ultra low sulphur petrol and diesel +1.92p per litre, Sulphur free petrol and diesel +1.42 p per litre and Red diesel etc. +2.42p per litre.
Substitutes used in diesel engines to generate electricity will be made exempt from Fuel Duty. The 20p per litre rebate on bio-diesel and bio-ethanol is guaranteed to 2007, and the duty differential for LPG etc. is given for three years as 40.7 p 2004/5, 39.7p for 2005/6 and 38.7p for 2006/7. The natural gas differential is set at 41p until 2007. The tax increase is £440mn in 2004/5.
At present oil prices are exceptionally high at 37.59$bbl on 12.5.04, with futures prices predicting high prices for some time, e.g. the September oil future was 39$ bbl at the time of writing. These high prices could add £1,500mn to £2,000mn to tax yield and make the increased tax rates unnecessary.

32. Alcohol Duties are frozen on spirits, sparkling wine and cider and revalorised on wine and beer increasing prices by ca.1p per pint or ca. 4p per bottle respectively. The net tax increase is £155mn in 2004/5. Legislation to be put in place to require spirits producers to apply a UK tax paid stamp on some products from2006/7 this sharply increases the tax by £175mn in that year, other anti-fraud action increases tax by £5mn in 2004/5.

33. Tobacco Duties are revalorised from Budget day increasing prices by ca. 9.2p per packet of 20 cigarettes. Tax take is however projected to fall by £15mn in 2004/5 due to reduced smoking and smuggling.
25. Air Passenger Duty is to remain frozen. Tax yield is projected to rise by £100mn, +12.5% such is the growth of air travel.

34. The usual large package of VAT measures includes:-
• Revalorising the threshold to £58,000, a tax reduction of £10mn in 2004/5.
• Increasing the turnover ceiling to £660,000 for both the cash and annual
accounting schemes.
• Betting shops will have a new limit of £660,000 p.a.for quarterly reporting.
• A revised flat rate scheme for new businesses from 1.1.04 with a reduced rate.
• Some cultural organisations e.g. museums and zoos exempt from 1.6.04 and
and can reclaim VAT on major building projects then up to 31.5.07.
• Gas or electricity supply rules amended to determine the place of supply so
tax is levied where the supplier is based or consumes the product.
• Fund management services by third party managers made exempt.
• VAT car fuel scale charges increased to catch fuel supplied by businesses for private motoring.
• Demonstrators cars made available to employees for their own use will be countered by new rules to levy VAT.
• Abusive grouping will be countered by rules on joining a VAT group
• Rules to time-limit the use of the unfair partial exemption method, from 1.1.04.
• The bad debt loophole with associated businesses was closed on 11.12.03.
• A loophole allowing VAT avoidance on the purchase of commercial buildings
was closed from 18.3.04.

The tax increases in 2004/5 are £215mn. However the tax take of VAT is projected to be £73.1billion in 2004/5 up £3,400mn +5% from growth and inflation.

35. The Insurance Premium Tax rate is frozen but Guaranteed Asset Protection insurance sold through motor distributors will be subject to the higher rate of IPT from 1.4.04, tax increase £15mn.

36. On betting Gaming Duty band thresholds are increased for accounting periods on or after 1.4.04. Amusement machine Licence Duty rates increased for inflation. Pool betting rules are clarified. Overall there will be no increase in taxation.

Aggregates Levy, Climate Change Levy and Landfill Tax are dealt with under the next section.

Total indirect tax changes increase taxes by a modest £685mn in 2004/5. Actual tax take is however projected to reach £119.9billion up £5,200mn, +4.5%.

Business Taxation

37. Climate Change Levy rates are frozen and criteria for 80% discounts are widened. Together these changes reduce CCL by £30mn in 2004/5 and by £50mn in 2005/6.
The yield of this tax remains static at £0.8billion.

38. Landfill Tax will increase by £3 per tonne from 2005/6 adding £125mn to tax in that year and rising to £245mn in 2006/7. This is on top of the earlier increase of £1 per tonne per year from 2000 to 2004. Together the rises add £140mn in 2004/5, £270mn in 2005/6 and £395mn in 2006/7. The rises will be introduced in a way that is revenue neutral to business and local authorities and repays £245mn of tax in 2006/7. The yield of this tax remains static at £0.6billion.

39. Aggregates Levy rates are frozen at £1.60 per tonne. The Northern Ireland relief scheme will be extended to companies signing schemes of environmental improvement in operations. These changes reduce tax by £25mn in 2004/5 rising to £30mn in 2005/6. The yield of this tax remains static at £0.3billion.

40. A mass of changes will effect Corporation Tax, although the rates are stated as frozen. The changes are as follows:-
• A minimum 19% rate of tax will be levied on very small companies with profits under £10,000 p.a. that pay dividends. This closes a nil tax loophole deliberately created by the Chancellor in 2002 to attract sole traders into forming companies. They could pay themselves the personal tax-free allowance and take the balance as dividends. This has been so successful that up to £1,000mn p.a. reduction in tax was likely, several times the original projection. Any retained profits are taxed at nil or present low levels for SMEs with larger profits. There has been a furious reaction from representatives of small businesses who feel they have been suckered.
• Tax on dividends of companies jointly owned by married couples will be levied based on the actual % of shares owned to close the loophole of most dividends being paid to those with the lowest tax rate.
• E payment for large employers commences resulting in a tax rise of £10mn in 2004/5. Next year E-filing incentives for payroll will start with a tax reduction of £40mn, rising to £110mn in 2006/7.
• There will be a package of measures to correct anomalies in the Income Tax (Employment and Pensions) Act 2003. This affects both companies and individuals from 1.4.03 or 6.4.04.
• Capital Allowances will be increased from 40% to 50% for one year for SMEs spending on plant and machinery. This will reduce tax by £55mn in 2005/6.
• The definition of SMEs will be altered to the maximum allowed under EU regulations. This doubles the level of investment subject to increased first year capital allowances of 40% on plant and machinery and 100% on first year allowance on information and communications technology. Tax reduction £100mn in 2004/5 rising to £270mn in 2005/6.
• Enhanced Capital Allowances will be given for additional energy saving technologies from 2005/6. Tax reduction £5mn.
• R&D tax credits for both SMEs and companies in vaccines and medicines are to have both the range of costs widened and the R&D definition simplified. The changes will take place from 1.4.04 for larger companies and for SMEs once state aids approval is given by the EU. The tax reduction is £15mn in 2004/5 and £25mn in 2005/6.
• Management expenses for the cost of managing investments will be given tax relief even if the companies are not investment companies under current legislation. This applies mostly to life assurance companies and any with investment business. Tax reduction £20mn in 2004/5 and £35mn in 2005/6.
• Thin capitalisation requirements and transfer pricing will be abolished for SMEs will be abolished in most circumstances and extend transfer pricing rules for other businesses to internal UK transactions. These changes will increase tax by £25mn in 2004/5 and £40mn in 2005/6.
• NHS Trusts non-healthcare activities carried on outside companies will be made liable to tax. Such activities carried out within companies are subject to tax in the normal way.
• The tax threshold on registered Community Amateur Sports Clubs will be doubled to exempt those with turnover of less than £30,000 or gross property income of below £20,000 from tax on these sources.
• Loan Relationships and Derivative Contracts rules are further amended to counter avoidance and increase certainty.
• Insurance company rules are further amended to counter avoidance via financial reinsurance, to remove a tax disincentive to company reorganisations and correct small errors in legislation. The tax increase is projected as £5mn in 2004/5 rising to £10mn next year.
• Property Investment Derivatives will be allowed, when new regulations come into being. Draft regulations are published on the IR web-site. This will be potentially a useful measure in managing risk and widening the property investment market.
• An Exploration Expenditure Supplement will allow 6% p.a. to be added to the value of unused capital allowances for oil exploration for 6 years. This is to alleviate the problem that oil exploration is so front loaded with costs and back loaded with profits that capital allowances are eroded before they can be relieved against profits.
• Tax law will be changed to allow companies to adopt International Accounting Standards instead of UK Generally Accepted Accounting Practice with broadly equivalent tax treatment. This will be in place from 1.1.05.
• Double Benefit Leasing where businesses sell and leaseback plant and machinery but retain capital allowances and rentals are allowable for tax will be stopped. This to apply to all schemes from Budget day. Additional tax 2004/5 £75mn and 2005/6 £110mn.

41. Stamp Duty Land Tax was introduced on 1.12.03 from Budget 2003. It largely replaces Stamp Duty for purchasers and lessees or tenants of land. It is basically aimed at complex commercial transactions. A number of changes were made in December 2003 to counter avoidance, clarify uncertanties and extend some reliefs. Some 25 further changes are being made in the Budget for the same reasons. The tax take mostly from this new tax was given as £350mn for 2004/5 and £450mn for 2005/6 in Budget 2003. It is also extended to certain partnership transactions that add a further £25mn to tax in 2004/5. When introduced it was to be levied on the full value of a lease over its life, but levied immediately. The rate is 1% of the net present value of rental payments on new commercial leases above £150,000. It is also levied again whenever rents are increased. It is therefore a major burden on longer leases.

42. Minor changes will be made in UK tax law to enable European Companies or “Societas Europaea” (SE) formed under the European Company Statute EU Regulation to operate under our tax system, from 4.10 04.

43. Petroleum Revenue Tax regulations are to be amended to remove anomalies and avoid tax leakage by stopping artificial costs being generated by purchase of a North Sea asset at an inflated price and to avoid the enhancement of unrelieved field losses by successive transfers of fields between owners.

44. Business Rates are indexed for inflation and the tax take rises by £400mn, 5% to £19.7billion.

The overall result of this mass of measures is not clear. For those where a projection is given tax will increase by £935mn in 2004/5. Actual tax-take is projected at £59.5billion, up £6,300mn +12%. This comes almost entirely from Corporation Tax, which is expected to rise by 21%, or £6,100mn to £34.8billion.

Expenditure:

45. Major cost savings “equivalent to £20billion per year” are being sought by 2007/8 through net job cuts of 43,300. This includes 30,000 in DWP, 10,500 via merging the Inland Revenue with Customs and Excise and other high percentage cuts in Education and Science and Health departments. These are aimed at administration costs with the savings transferred to services. Significant savings have been identified and some achieved e.g. approaching £400mn by direct payment of benefits to bank accounts.

46. Social Security and Tax Credit payments are enhanced as follows:-
• £100 will be paid to all over 70s. Cost £475mn in 2004/5.
• Pension Credit backdating for up to 12 months due to backlog of claims. Cost £5mn.
• Housing Benefit rules to be aligned with tax credits. Cost £5mn rising to £35mn.
• Housing Benefit and Council Tax Benefit backdating for up to 12 months and also extended to bands F, G and H. Cost £20mn.
• Housing Benefit second round pathfinders with nil cost this year.
• Child Tax Credit is increased above earnings commitment. Cost £885mn 2004/5.
• Working Tax Credit indexation of elements. Cost £200mn.
• Working Tax Credit for first time parents. Cost £10mn.
• Capital limits are increased within means tested benefits. No cost this year.
• State Pension deferral is improved with a lump sum and increments. No cost this year.
• Housing Benefit disregard starts from 2003 Budget. Cost £45mn.
These changes plus the general indexation of pensions and benefits results in total social security and tax credits expenditure rising by £6,400mn, +4.9% to £137.1billion in 2004/5. To which must be added the £8.3 billion cost of the DWP to give a final gross cost of £145.2billion.

47. Education is to receive 4.4% real increases per year in England for the next 4 years and adding expenditure in Scotland, Wales and N. Ireland will increase the share of GDP for education to 5.6% by 2007/8. Actually only a modest 0.2% rise in share over 2004/5. Total education spending rises from £59.4billion last year to £63.2billion in 2004/5, +6.4%. How much this will add to real expenditure is not clear as employment costs dominate the scene. The picture should be better for England alone where it appears to be a catch-up increase with other parts of the UK.

Sources: The Budget Speech, The Red Book, 10 Other Budget Papers released in the Budget Pack, the Draft Finance Bill, the National Accounts published ONS and extensive press comment.

Written by A. Lindley 9.4.2004
See previous year's report (2003): click here


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last modified: April 9th 2004