Stephen Herring: Watch for new tax legislation - this Chancellor is no simplifier

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Against a background of consistently low inflation and consistent growth, the Chancellor has made stability his key message for the 2004 Budget, a sentiment many in business would welcome, particularly in terms of tax law.

Against a background of consistently low inflation and consistent growth, the Chancellor has made stability his key message for the 2004 Budget, a sentiment many in business would welcome, particularly in terms of tax law.

However, the many press releases and consultation documents issued on Budget day, coupled with the promised merging of the Inland Revenue with Customs and Excise, may spawn a new raft of tax legislation when the Finance Bill is published. This Chancellor does not have a natural inclination towards tax simplification.

Small enterprises may take some heart from his reaffirmation that encouraging enterprise, innovation and productivity is at the heart of the Government's agenda, with promised benefits to 3.8 million small UK enterprises.

Other entrepreneurs may be disheartened by the anti-avoidance measures designed to close some of the benefits that arose when the Chancellor first encouraged small businesses to incorporate as limited companies and allowed them to extract profits tax-efficiently by way of dividends. We consider that the Chancellor should have waited for at least another two years before tinkering with a corporation tax change he himself introduced; ie, the zero per cent tax rate on the first £10,000 of a company's profits.

The Chancellor has also decided that he must act to curtail the more aggressive so-called tax avoidance products marketed by investment banks, law firms and accounting firms. These measures are designed to reduce the more innovative tax planning products which the Inland Revenue consider to have no real commercial substance. They are no longer willing to await the submission of companies' corporation tax computations to review these products, and they expect to receive prior notice when the products have been sold.

Although the Inland Revenue's response may be understandable, these products are often created by our complex tax legislation. The Chancellor appears not to be willing to simplify business taxation and he should not be surprised that businesses obtain advice on how to minimise their liabilities. It would be pleasing to see tax simplification and lower tax rates on business income which would themselves reduce the incentive to undertake aggressive tax planning schemes.

One of the most eagerly awaited aspects of this Budget was announcement of more details about the promised new vehicle for investing in commercial and residential let property. The new vehicle, now referred to as a Property Investment Fund (PIF), is not yet fully developed, and the consultation document does not put forward a preferred option, although the US Real Estate Investment Trust is clearly the main yardstick. Those entrepreneurs promoting property funds which now typically are structured as limited companies or, more tax efficiently, as limited partnerships, will be encouraged by the possibilities for raising equity finance for property development and investment in a specially designed tax-efficient vehicle with a specially tailored commercial and legal structure. There will be a degree of disappointment that the Chancellor has not "come off the pot" and been willing to say what the Inland Revenue would accept as the tax cost of converting to a PIF; surely it is worthwhile being generous to the industry on this matter if it is intended to ensure that a significant market is created for additional equity investment in both residential and commercial property.

As a temporary stimulus, income tax relief for investments in Venture Capital Trusts (which tend to invest in entrepreneurial companies) is to be increased from 20 per cent to 40 per cent. The relief will be available for the tax years 2004-05 and 2005-06. However, the downside is that the capital gains tax deferral relief will no longer be available for gains reinvested in venture capital shares after 6 April 2004.

Among other changes is a welcome increase in the annual investment limits from £100,000 to £200,000 and enhanced flexibility in the application of the detailed rules to mitigate the risk.

Entrepreneurs will welcome the measures on capital allowances, research and credit allowances and the enhanced proposals for Venture Capital Trusts and Enterprise Investment Schemes. However, many will now be comparing tax rates to those of the EU accession countries and noticing that they do not look so favourable even for small and medium sized enterprises.

Also, the Chancellor is not responding quickly enough to the pleas of entrepreneurs for less regulation and greater simplicity. How is it that the Chancellor states that he is removing hundreds of pages of regulations every year but the perception in the business community is that business regulations and tax laws become more and more complex and onerous each year?

The Chancellor must also remember, when implementing the promised new tax avoidance measures, that companies are entitled to organise their tax affairs in a tax-efficient manner. This fundamental principle must be protected if the UK is to remain an attractive location for investment.

Stephen Herring is a Tax Partner BDO Stoy Hayward - Specialist Advisers to Growing Businesses