Magnus Gardham writes in the Herald on Tuesday 10 November that
'Some of Britain's biggest retailers have warned stores could be forced to shed jobs in Scotland unless business rates are overhauled. Boots, Marks & Spencer and John Lewis are among 40 firms and business organisations that have called for a fundamental reform of non-domestic rates. They say business rates, which raise £2.8billion, place an "unsustainable burden" on them. In an open letter to The Herald, they describe rates as "a tax on jobs and growth" that "acts as a drag on the Scottish economy".
Gardham also reports that John Swinney, the Finance Secretary, defended Scotland's business tax regime as "already the most competitive in the UK".
My advice to John Swinney is that he should be a little skeptical of such special pleading by a business lobby.
John Swinney could have reasonably responded to this retail lobby that business rates:
- Are only a small percentage of business costs usually ranging from 2% to 4%
- Allow many companies to obtain tax reliefs and non-domestic rates can be set against Corporation Tax.
- Allow local authority public service benefits to be received by firms; and
- That the burden of non-domestic rates is in the long run unlikely to be borne by the users of the property such as the retailer: the incidence of the tax will differ from where the tax is levied.
A key question here is the tax incidence: Who bears the burden of a property tax?
In answering this question we need to distinguish between the short run and the longer run.
In the short run, theory and evidence suggests that the tax reduces profits, and in limited degree is shifted forward to consumers in the form of increased prices. The fact that profits of retailers and other payer of the tax may fall in the short run is likely to reduce investment and so those lobbying John Swinney do have a point. Moreover, the tax clearly introduces a distortion into the economy by disadvantaging property intensive economic activities and investments.
However, in the medium to long run the users of property will be able to negotiate a reduction in rents as a result of the tax. This is because the land and property is effectively fixed in supply, can’t be switched to other uses – especially the land = so there is little or no impact on economic behaviour. Its supply, to use an economic term, is zero elastic. Any reduction in rental value as a result of the property tax will generate a corresponding reduction in capital value. Hence this process is known as ‘tax capitalisation’. Evidence is typified by this study, which found that:
“The average capitalisation effect obtained was not significantly different from 100% implying that all of the local tax exemption benefits accrue to the owners of the property."
And this is why studies tend to find little or no effects of business rates on jobs and output in rated activities and hence why we should be skeptical of the current business lobby against the current levels of business rates in Scotland.
This does not of course mean that business rates are a ‘good tax’ and should not be abolished.
Business rates tax both land and property. As we noted above, because the supply of land is effectively zero elastic a tax on land simply takes away economic rents and does not distort behavior. However, taxes on investments in, and improvements to, property per se are a tax on business activity and so will distort behavior. The former land element of the tax is ‘good’ the latter property alone element is ‘bad’.
The logic of this argument is that John Swinney should respond to the current lobby against business rates by accepting the distorting effects of the property element and that he will seek to abolish the property element by moving towards a land value tax (LVT).
The case for replacing business rates with a LVT and the associated costs and benefits is well set out by Nobel prize winner Professor Jim Mirrlees in chapter 16 of his review of taxation in the UK for the Institute of Fiscal Studies, which can be accessed here.
It is on such rigorous theory and evidence based reviews that policy should be based and not the lobbying of self-interested groups