Scottish budget process changes

Donald-Drysdale By Donald Drysdale for ICAS

19 May 2017

Donald Drysdale, who won the accolade of Tax Commentator of the Year in this month's Tolley’s Taxation Awards 2017, considers why and how the Scottish Budget process may have to change.

The Scottish block grant

Under Scotland Act 1998, the Scottish Government relied on its annual block grant from Westminster to fund virtually all its expenditure.  This block grant was determined each year by the Barnett Formula, which allocated to Scotland the block grant of the previous year adjusted by a population share of changes in ‘comparable spending’ in England.

Following Scotland Act 2012 and Scotland Act 2016, additional tax revenues are being devolved and others are being assigned to the Scottish budget.  The Scottish block grant for resource spending continues to be calculated initially by the Barnett Formula, but is then reduced to take account of the new taxes transferred to the Scottish Government.

The mechanism is complex.  For each devolved or assigned tax, there is a separate block grant adjustment consisting of two elements – an initial deduction and an indexation mechanism.  The initial deduction is equal to revenues collected in Scotland in the year immediately prior to the devolution or assignment of the tax power.  For subsequent years the indexation mechanism is a compromise that takes account of the rate at which ‘comparable revenues’ have grown in the rest of the UK.

As an example, the Scottish rate of income tax raised some £4.9bn in 2016/17, but the fully devolved Scottish income tax will raise around £11.8bn in 2017/18.  Most of the difference will be reflected in a block grant adjustment – save that Holyrood will keep all the extra income tax raised by its decision to restrict the higher rate tax threshold to £43,000 in Scotland, compared with £45,000 elsewhere in the UK.

A broadly similar and equally complex process takes place to add funding to the Scottish block grant in respect of devolved welfare powers.  Thus the devolution of revenue powers and welfare spending exposes the Scottish budget to greater budget volatility.

Why change the Budget process?

As set out in the Fiscal Framework agreed between Westminster and Holyrood, the Scotland Act 2016 has given the Scottish Government borrowing powers to deal with budget uncertainty and volatility.  Nonetheless, it seems hard to get the sums right in Edinburgh when so much is dependent on decisions of UK-wide significance made in London.

For example, just look at the position in which Derek Mackay, the Cabinet Secretary for Finance and the Constitution, currently finds himself. For 2017/18, for the second year in succession, the publication of Scotland’s draft Budget was deferred from September to December in the hope that the UK Autumn Statement would help resolve uncertainties.  This has repeatedly squeezed the window of time available for proper parliamentary scrutiny of Mackay’s proposals at Holyrood.

This time round, of course, Philip Hammond sprang a surprise announcement by deciding that in future Westminster’s annual Budget would move from spring to autumn, starting in autumn 2017.  This means that the devolved administrations have to re-think their timetables for their own budgetary procedures.

As if this wasn’t enough, Prime Minister Theresa May then called a General Election for 8 June.  The exact political make-up of the Westminster Government after that date can be guessed at, but remains uncertain for the time being.  Whether Hammond will survive as Chancellor is also unclear.  He might even be succeeded by someone who prefers spring budgets!

Budget scrutiny in Scotland

Amidst all this uncertainty, Mackay and the Finance and Constitution Committee have established a new Budget Process Review Group carry out a fundamental review of budgetary scrutiny.

The main driver for the review is the need to accommodate the Scottish Parliament’s new financial powers as well as the operation of the Fiscal Framework within the budget process. The Group, which includes Scottish Government and Scottish Parliament officials, has been tasked with recommending a new process which addresses the increased level of responsibility within the context of the principles underpinning the existing system.

In March the group published an Interim Report, identifying key themes that it considered needed to be addressed.  It recommended a more strategic approach to forecasting revenues and a strengthening of Scottish Government resources to cope with the resulting additional workload.  The group invited input from external bodies, and ICAS was one of the bodies that submitted a response.

ICAS representations

With the Scottish Budget having been focussed primarily on expenditure hitherto, ICAS had found in recent years that there was no obvious process or timetable for raising tax issues with policy makers in the Scottish Government.

This contrasts with the established UK budget procedures allowing external bodies to make representations on tax policy, contribute to the formulation of policy through consultations, and comment on draft legislation before it is scrutinised by Parliament.  In all these ways and in ongoing dialogue with HMRC and Treasury officials, professional bodies such as ICAS are able to make valued contributions to the process of designing and introducing good tax laws.

At a UK level, income tax is an annual tax that must be legislated for each year. In Scotland, there is a more limited annual requirement – to pass a ‘Scottish rate resolution’ each year, setting the Scottish income tax rates and thresholds for the following tax year.  Nevertheless, ICAS suggests that an annual review by Holyrood of all its devolved taxes would be a useful procedure to ensure that everything is working as it should – so long as this does not encourage unnecessary tinkering with tax rates and rules.

In addition, ICAS recommends that there should be a clear, brief statement of the principles and objectives around the approach to Scottish taxation, supported by a longer-term (perhaps five-year) plan.  Ideally Holyrood’s budget cycle would support this, regardless of the extent to which it is synchronised with Westminster’s budget cycle.

Where such synchronisation is necessary – for example, in the case of the partly-devolved income tax – moving the UK’s annual budget from spring back to the previous autumn ought to prove helpful to Holyrood.  It should allow more time for Westminster’s tax and spending proposals to be considered before the devolved budget has to be agreed.

We must now wait and see what further changes might be made by the incoming Westminster administration after 8 June – and perhaps by a new Chancellor.

Article supplied by Taxing Words Ltd

Derek Mackay delivers keynote address at ICAS Tax Conference 2017

Find out Derek Mackay’s vision for the Scottish tax system at the ICAS Tax Conference on 23 May in Edinburgh.

In addition to being a great networking opportunity the conference will bring you up to date with the latest changes at the heart of the tax profession.


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