Back in 2011 George Osborne heralded government efforts to make the UK more tax-competitive, saying: ‘Let it be clearly heard around the world – from Shanghai to Seattle... Britain is open for business.’ Two years on, it is not entirely clear who is listening or whether there are any reasons why anyone should be listening.

The government’s cutting of corporation tax (to 23% from 1 April) appears to be doing little to attract business to the UK, increase tax receipts or boost the flailing economy. Indeed, with corporate tax rates falling in OECD countries from an average of 32.6% in 2000 to 25.6% in 2011, tax avoidance solutions, such as transfer-pricing, are in fact on the increase, highlighting the weaknesses of policies that tinker with, rather than drastically reduce, corporation tax. Clearly, businesses will not be drawn to the UK on tax grounds, unless corporate rates are reduced to levels found in places such as Ireland, where an ultra-low 12.5% corporation tax rate is in place, compared to the chancellor’s recently announced cut to 20% from April 2015.

The government’s business-friendly rhetoric also seems to be at odds with its politicisation of the issue, which resulted in Starbucks paying £10m more tax than it owed in December last year, following a media savaging and public outcry voicing indignation at the £8.6m the company had paid by way of corporation tax during its 14 years of operation in the UK. The fact that some 80% of Starbucks outlets are franchises run by English taxpayers seems to be the sort of important detail that bypassed media-seeking politicians. Such stoking up of public sentiment against companies adopting legal tax avoidance strategies creates uncertainty, drives business away and damages our economy.

This is not what our economy stands for or needs. There is already far too much uncertainty. Furthermore, such attacks fundamentally and dangerously undermine the rule of law. But an indication of an economy in big trouble is when a prime minister starts making personal attacks, justified or not, on individual citizens’ tax affairs.

What is transfer pricing?

Transfer pricing has become a key vehicle of multinational tax avoidance. Transfer pricing rules transactions between company subsidiaries must be priced as though made ‘at arm’s length’ between unconnected parties. OECD guidelines provide detailed guidance on how the ‘arm’s-length’ principle should be applied.

It is common practice for companies to alter transaction prices to shift profits to lower-tax jurisdictions and expenses to higher-tax ones. Many subsidiary companies in low-tax jurisdictions act essentially as shell entities, holding IP rights and charging other companies within the group for their use or providing other services at higher-market rates. This is a difficult area to police and check as, by definition, it invariably involves different jurisdictions and intra-company transactions. Although companies now acknowledge a growing reputational risk of transfer pricing, they have little choice but to exploit weaknesses in the rules, since not doing so would put them at a competitive disadvantage.

Many tax experts see the international global transfer pricing guidelines produced by the OECD and in particular the ‘arm’s-length’ principle as flawed, since intra-group transactions are dissimilar to those between unrelated companies. Acknowledging such unworkable complexity, experts have been looking into alternatives. But changing existing treaties which are numerous will take much time.

Unitary taxation

Some argue for unitary taxation whereby tax activities are taxed where they actually occur rather than where they have been shifted. Companies have to provide a single set of accounts, with worldwide profits apportioned using a formula that incorporates assets, sales and other measures in each jurisdiction. The US, which already has such a system in many states, recognises its imperfections. Agreeing exactly where the business takes place has proved particularly difficult in a world of globalised business services and non-physical assets.

The OECD, reluctant to impose radical changes, considers unitary taxation a politically prickly issue and little better than the status quo. With the OECD looking further into solutions this summer, the most likely outcome is a rejig of the existing rules and new measures to tackle particularly aggressive avoidance schemes.

Country-by-country reporting

Another idea touted by campaigners is country-by-country reporting, whereby a multinational would have to provide details of the financial performance and tax liability of each of its subsidiaries as well as their name and location, thus also casting tax havens into the spotlight. Although this is unlikely to become an accountancy standard, the US and the EU already require companies in extractive industries to provide details of payments to governments on a country-by-country basis.

Obligation to register

A further suggestion is to oblige all companies doing business in the UK to establish and register for tax in the UK and enforce all business to be declared and passed through that registered company. However, such an idea is at odds with EU rules which give foreign companies the right to do business in other countries within the EU without the need to set up and register companies in those jurisdictions. This is very unlikely to happen and will also make the UK uncompetitive.


Even if it wanted to, the UK cannot act unilaterally to resolve the complex issues relating to minimising corporation tax. Tax harmonisation across the EU may well create a level-playing field for its countries but such a system is highly unlikely to be achieved and even less likely at the global level. There is a need for certainty and respect for the rule of law so that business can have confidence that the parameters of doing business in the UK are stable. The thorny and complex issue of corporation tax avoidance will not go away nor will it be solved overnight.

However, one obvious solution is to recognise that the international community needs harmonisation to operate effectively. That was one big reason for the creation of the EU. The complexity and multinational aspects of present rules make major changes unlikely, and even where change is possible it will happen slowly.

One must recognise that options are limited and, most importantly, that global companies and businesspeople have many choices of jurisdiction. Even within the EU many nations are competing to attract inward investment, so if the government wants to attract more businesses to the UK it should adopt a policy of being the lowest tax jurisdiction in the EU, across the board. We have the workforce to absorb these businesses and we need them. This will result in lower tax revenues in the short term, but in the long term will generate a far larger business economy resulting in more jobs, more industry and, ultimately, higher tax revenues. All very good for the UK. And this can be achieved at speed.

Michael Hatchwell is senior partner at Davenport Lyons