Scottish Income Tax outturn reports show a £204m net shortfall
By Justine Riccomini, Head of Taxation (Scottish Taxes, Employment and ICAS Tax Community)
23 August 2019
In a press release issued on 18 July 2019, the long-awaited Scottish Income Tax outturn report from 2017/18 reveals a £941m shortfall on what was predicted would be raised from Scottish Income Tax receipts in that year. Justine Riccomini explains.
Background
Additional tax-raising powers were devolved in The Scotland Act 2016, enabling Scotland to set its own rates and bands of Scottish Income Tax, which is charged on “Non-savings/Non-dividend” income. Savings and dividend income is charged to tax at UK rates. The rates and bands of Scottish Income Tax have been varied to those set for the rest of the UK – in 2017/18 the higher rate threshold for Scottish taxpayers was lower than in the rest of the UK; in 2018/19 five income tax bands were introduced.
The Scottish Government is now partly funded by the UK government block grant, and partly funded through devolved and partly devolved (as in the case of Scottish Income Tax) taxes revenue and borrowing. As Lord Smith noted in the Smith Commission report foreword ‘Complementing the expansion of its powers will be a corresponding increase in the Parliament’s accountability and responsibility for the effects of its decisions and their resulting benefits or costs.’ The detail of how this works in practice is in the Fiscal Framework.
Income Tax Receipts from 2017/18
The effect of the Fiscal Framework agreement and the complicated way in which the amounts of Scottish income tax and the corresponding Block Grant Adjustments are first forecast and then reconciled means the following:
- Initially, the Scottish Government’s income tax revenues are forecast by the Scottish Fiscal Commission and the income tax block grant deduction is based on Office for Budget Responsibility income tax forecasts for the rest of the UK.
- When the 2017-18 outturn data is available from HMRC’s Annual Report and Accounts, the Scottish Government’s income tax revenues and block grant deduction can be recalculated. The difference between the forecasts and the outturns are applied to the Scottish Government’s funding in 2020-21.
- Under this reconciliation process, the block grant will be increased by £737m and the Scottish Government’s income tax revenues will be reduced by £941m.
In its 18 July 2019 release, HMRC was careful to point out that the statistics are “experimental”, i.e. they are in a developmental phase, given that all of this is new territory. Nevertheless, it is hard to ignore the fact that Scotland’s economy appears to have grown more slowly than that of the rest of the UK, a situation which both the Scottish Fiscal Commission and Fraser of Allander Institute have picked up on in their recent reports.
Scottish Taxpayers
Is the number of Scottish Taxpayers part of the problem? The HMRC report reveals that the number of NSND taxpayers in Scotland actually decreased by 0.6% compared to an increase in the rest of the UK of 0.5%. The reasons for this could be many…from more lower-earning Scottish Taxpayers being taken out of tax, to an increase in gig economy workers working off-payroll through intermediaries.
Yet the amount of tax paid by those Scottish taxpayers increased by 1.8% in the 2017/18 tax year – and the shortfall in the reconciliation comes from the interplay with the block grant adjustment, which in turn partly reflects Scotland’s position relative to the rest of the UK rather than in absolute terms. The independent Scottish Parliament Information Centre (SPICe) discusses this in its latest blog.
Forecasting
The main difficulty with the forecasting process is that the outturn figures cannot be made available by HMRC until two years later, with the need to await final SA tax payments – so reconciliations will be done on a rolling basis. It is unfortunate that this time lag adds to the lack of transparency around Scottish Income Tax.
Fiscal Framework
The Fiscal Framework as outlined above sets out to cater for a “no detriment” arrangement for the Scottish purse – but the Fiscal Framework is due to be reviewed towards the end of 2019 – and it remains to be seen what will be agreed at that point, with devolution now well underway. The current agreement was originally drafted in anticipation of the devolution of the 2016 tax powers.
Conclusion
The result of the current process is that despite more income tax being paid by some Scottish taxpayers, the Scottish Government budget has less income tax receipts available to it than forecast, and the effects of one year’s reconciliation flow through three years later. Bringing public understanding to this process will not be easy.
Scottish Ministers have the authority to borrow up to 1.75bn and retain a reserve of £700m to help manage their budgets. In broader terms, it is clear that if Scotland wishes to raise further revenue it needs to grow its tax base – i.e. the number of taxpayers in Scotland – and preferably at the higher and additional rate end – to increase Scottish Income Tax revenues in the years to come. Most commentators suggest that this should come from growing the economy and generating more and better-paid jobs.