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Outlook: Brown makes companies pay for tax reform

Gordon Brown's pre-Budget statement on Tuesday completed the redrawing of the corporate tax system that he began in July. Unfortunately, and despite the Chancellor's pro-business rhetoric, the net effect is to leave the corporate sector worse off, not better off, both in the short and long term. The abolition of Advance Corporation Tax, following the ending of tax credits on dividends in July, will leave Britain with a simpler structure and the lowest rate of corporate tax outside Scandinavia and Ireland.

Many interested parties had advocated these reforms, and the Chancellor's announcement has been broadly welcomed by everybody from the academics at the Institute for Fiscal Studies to business organisations like the CBI and IoD. The proposals even include a measure that will permit companies with surplus ACT to run it down as much as they could have under the old system, so none should be left high and dry by the abolition of ACT.

So how come the cheers are so half hearted? The abolition of ACT and the corporation tax cut announced on Tuesday will be combined with a switch in the timing of tax payments that will, over a four year transition period, bring them forward. The cost to companies will be around pounds 2bn a year for the four financial years to 2003.

The Treasury paints this as a temporary cash-flow hit that will enable business to have the kind of tax structure it has been asking for. This is disingenuous. It is, in reality, a temporary tax increase, a real, one off hit on the corporate sector of pounds 8bn. The public finances look that much healthier for the four year transition period, but let's not pretend that corporate cash flow does.

It is true that business will pay pounds 2bn a year less in tax after the transition period. Regrettably, this does not offset the increase in the tax burden announced in July. The abolition of the dividend tax credit will cost pension funds nearly pounds 4bn in 1998/99 and more thereafter. Companies will bear much of that burden in the short term even though future pensioners will carry it in the long term. Nor is this cash flow hit offset by the July cut in corporation tax, which knocked pounds 1.4bn off next year's corporate tax bill. The bottom line is that for the next four years, British business will be paying pounds 5bn a year more in tax.

Somebody has to pay taxes, and most voters would prefer them to fall on business than themselves. But the Chancellor cannot get away with his claim that these measures support business or help boost investment in the short term, even if he has set up a better long term structure for corporate taxation.