By Tom Bergin
LONDON (Reuters) - The United Kingdom is unlikely to try to lure international investment by becoming a tax haven after it leaves the European Union, according to an internal memo prepared by the body responsible for the drafting international tax rules.
The head of tax at the Organization for Economic Co-operation and Development, which advises developed nations on policy, said the UK could use its freedom from EU rules to slash corporate tax but the political price would be high.
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The idea the country may cut tax on multinational companies' profits, which could also help them avoid tax on profits made elsewhere in the EU, has been raised by some accountants and policy experts since the country voted to leave the bloc.
"The negative impact of the Brexit on UK competitiveness may push the UK to be even more aggressive in its tax offer," the OECD’s head of tax, Pascal Saint-Amans said in the memo, details of which were seen by Reuters.
"A further step in that direction would really turn the UK into a tax haven type of economy," he said, adding that there were practical and domestic political barriers to doing this.
The OECD declined to comment on his memo, dated June 24, and a separate one seen by Reuters, written soon afterwards, on the outlook after the June 23 vote for Value Added Tax in the United Kingdom, which is made up of Britain and northern Ireland.
The UK is already in the process of cutting its corporate tax rate to 17 percent, compared to an average among other OECD members of around 25 percent.
As part of its stated aim to be the most competitive Group of 20 major economies on tax, the UK has also introduced tax breaks that allow companies pay lower tax rates on some income and no tax on earnings from tax haven subsidiaries.
To significantly improve its appeal to businesses, the UK would need to significantly cut its tax rate or introduce a system of "generous" tax rulings, the OECD said.
Outside the EU, the UK could selectively offer foreign investors one-off tax deals – something prohibited by EU law.
The European Commission is taking legal action against Ireland and Luxembourg for allegedly giving sweetheart tax deals to companies like iPhone maker Apple<AAPL.O> and burger chain McDonalds<MCD.N> that allowed them to shift profits from other EU nations. The countries and companies deny breaking any rules.
Corporate tax avoidance has risen to the top of the political agenda in Britain in recent years, following revelations about the complex tax structures used by big companies like Starbucks<SBUX.O> and Google<GOOGL.O>.
That may make further tax leniency a hard sell to the British public.
“The mood of the people is certainly not about giving more benefits to large MNEs (Multi-National Enterprises), making it a hard move to any new government,” Saint-Amans wrote in the memo, circulated to senior OECD officials.
Saint-Amans also noted that the UK may not be able to afford to cut its tax rates much because the pressure on public finances "which may only increase with the negative impact of the Brexit on UK growth".
So-called tax havens are usually small countries with access to larger markets. Lowering tax rates actually boosts government revenue because the profits which escape tax have almost all been earned overseas. But cutting taxes costs the UK money because multinationals earn significant profits in the country, and these would otherwise yield taxes.
Also, since tax havens are usually small, the investment they attract has an outsized impact on their economies. The levels of employment attracted to Ireland and Luxembourg combined by their tax policies would have little impact on employment in the UK, home to at least 12 times more people.
Some on the right of the ruling Conservative party – in the ascendency following the surprise referendum vote – have campaigned for eliminating corporate income tax altogether in the hope it will boost investment and jobs.
Yet Chas Roy-Chowdhury, Head of Taxation at ACCA, the professional body for accountants, agreed with the OECD analysis. He added that if the UK did try to offer tax rulings or introduce tax incentives that were contrary to the EU’s rules against unfair tax competition between members, it could actually put companies off due to worries about retaliation.
"Any tax policy will be closely aligned with what the EU does because that will create much greater certainty for businesses. So while the Brexiteers (anti-EU campaigners) may be talking about all this autonomy, I think the reality is there will be very close alignment with the EU,” he said.
The OECD highlighted one area where the UK may be able to become materially more competitive.
Currently, most EU businesses are allowed to reclaim value added tax (VAT), a kind of sales tax applied across Europe, which they pay on inputs like office supplies and equipment. However, financial services providers cannot since they do not have to charge their clients VAT.
The VAT memo said that unfettered from EU VAT rules, the UK could take a different approach.
“It might now consider reviewing its domestic rules to remove the VAT burden on its financial services industry, which would create a major competitive advantage for the City compared to other financial centres in the EU,” it said.
Otherwise, leaving the EU will bring new VAT compliance burdens and costs that “will add to the competitive disadvantages for UK businesses trading with the EU compared to their EU competitors,” the VAT memo said.
Unlike the Saint-Amans memo, it did not assess the likelihood of outcomes, but merely discussed the possibilities. It was not clear who the author was.
Irrecoverable VAT paid by banks now stands at 4 billion pounds, according to a Sept 2015 study by bank lobby group BBA. However, it is not clear whether a government could afford to lose that revenue.
(Editing by Philippa Fletcher)