Vince Cable: Government cannot wash its hands of tax

Progressive taxation will not, of itself, neutralise the problem, which has to be dealt with at source

I am not surprised to discover that leading accountants are advising high earners in the City how to reduce the tax they pay on their bonuses. That is what tax accountants do. And that is what bankers do. Neither profession is affiliated to the Boy Scouts.

It is the Government which needs to explain why tax revenue is disappearing.

One major reason is that the 50 per cent top tax rate, in isolation from wider tax reform, was tokenism: waving the red flag rather than cracking the whip. An obvious loophole, so obvious that it hardly needs experts to identify it, is the disparity between income and capital gains tax rates. Payment in shares which appreciate in value generate a capital gain taxable at 18 per cent instead of the 40, then 50 per cent, paid on earned income over £150,000.

The danger of allowing big differentials to arise between taxes on earnings and capital was clearly understood by Nigel Lawson and the last Conservative government, which taxed them at the same rate. This Government's enthusiasm for incentivising entrepreneurs led to a tapered rate, then widely abused and now abolished, leaving a gaping hole in the defences against tax avoidance.

Another tax boost to bankers' bonuses is continuing higher rate relief on pension contributions. The Government has removed relief for earnings over £150,000 but that still leaves over £100,000 which enjoys the relief.

And those with entitlement to non-dom status will also have calculated that it is worth paying the Government's poll tax of £30,000 if they can continue to channel income or capital gains offshore, outside UK tax.

I am not a tax accountant and I am almost certainly underestimating the scale and scope of tax avoidance under the highly abusive, complex, structured arrangements designed by specialists for the banks' clients and staff. The Government has, in recent years, moved towards an Australian-style general anti-avoidance rule in order to help HMRC combat abuses and it is unclear whether these new bonus-related schemes have cleared that hurdle. If they have, someone in HMRC is being taken for a ride.

Progressive taxation has a role in tempering the bonus culture but it will not, of itself, neutralise the problem which has to be dealt with at source. Bonuses for trading have provided incentives to take excessive risk which has put financial institutions in danger, and made the taxpayer liable. More sophisticated share price-related bonuses have elevated short-term financial targets above sound long-term investment. The sense has been completely lost of bonuses as rewards for exceptional performance.

The Chancellor is eloquent in his condemnation of the results, but he declines to use the powers that are available to him through government shareholdings in the publicly owned banks or the Government's wider role, through the Bank of England, as guarantor and lender of last resort to banks in crisis.

He must demonstrate this week that he is willing to act and not continue to behave like someone competing with Pontius Pilate in a handwashing competition.

The writer is Treasury spokesman and deputy leader of the Liberal Democrats