Corporation tax increases causing investment hesitancy

A large number of UK SMEs are choosing to postpone investment plans to help mitigate the impact of tax rises – but is it necessary?

Corporation tax increased from 19 to 25% at the start of the fiscal year. This follows delays to increases between March 2020 and 2022 as part of a wider package of measures to help businesses during the Covid-19 pandemic.

The 2023 increase was first announced in March 2021, giving businesses two years to prepare. But research by BDO found that the rise in corporation tax will force just under half (46%) of businesses with a turnover of between £10-£300 million to pause investment plans. An additional 39% said it would negatively impact recruitment and could also result in job losses.

However, UK businesses can now benefit from new expensing provisions which came into force at the start of the new tax year, for companies investing in plants and machinery such as:

• 100% full expensing, allowing companies to deduct 100% of the cost of eligible plant and machinery investments from pre-tax profits, available until 31 March 2026. 
• 50% First Year Allowance (FYA), which allows companies to claim a 50% tax deduction on eligible plant and machinery assets that have been bought in the same year.

In addition, the Annual Investment Allowance (AIA) has been permanently increased to £1 million, which is expected to meet the investment needs of 99% of UK businesses, according to official Government estimates. There’s also the introduction of 75% business rates relief for retail, hospitality and leisure businesses.

But are these measures enough to counteract the potential impact of corporation tax increases? And how concerned are businesses about these increases?

It’s a good time to invest thanks to rate increase, AIA and additional expenses provision

Nigel May, Tax Partner at Gravita

The increase in corporation tax was a long time coming. In addition, the greatest complaint we’re hearing – aside from the increase itself – is simply how small the relief from the increase is for small businesses. The 19% corporation tax rate is only being preserved for companies with profits up to £50,000, with the average rate reaching 25% when profits reach only £250,000.

However, the combination of the rate increase and the annual investment allowance alongside the 2023 budget full expensing provisions, actually makes it a good time for investment to build your business, at least from a tax cash flow viewpoint.

It’s obviously important for businesses to understand the tax relief they will gain from the investments they plan to make and to understand the projected returns on those investments, particularly as the tax burden is increasing.

In times like this, businesses need clear and proper projections, cash flow forecasting and budgeting. These are all extremely important and can be much more daunting for smaller companies, particularly when there may well be only a very limited internal accounting function. This is where the role of accounting firms comes into play to ensure that businesses aren’t surprised by tax liabilities.

Verdict: The combination of the corporation tax rise and AIA alongside the full expenses provision actually makes it a good time to invest.

Tax increases will lead to reduced investment

Bev Flanagan MAAT, Director, Bev Flanagan Financial

The corporation tax rise will have a significant impact on businesses, particularly those with large profits. It’s likely to reduce the amount of money businesses have available to invest, make it more difficult for businesses to raise finance as investors are more likely to invest in businesses subject to lower tax rates and could also hinder business growth. Ultimately, it could lead to more businesses moving operations to other countries with lower corporation tax rates.

Other potential impacts may include:

• Reduced investment: businesses may have less money to invest in new products, services, and infrastructure.

• Higher costs: businesses may have to pass on the cost of the higher corporation tax rates to their customers, leading to a decline in demand.

• Reduced profits: businesses may see their profits decline as a result of the higher corporation tax rates.

• Job losses: businesses may be forced to lay off workers in order to save money.

While the Government argue corporation tax rises are necessary to fund public services, businesses say the rise will damage the economy and lead to job losses.

Verdict: Corporation tax increases could lead to reduced profits, increased business costs and ultimately reduced investment.

Corporation tax combines badly with instability and inflation

Nick Blundell, Partner, Moore Kingston Smith

Many businesses we’ve spoken to are concerned about the corporation tax increase –  it hasn’t been as high as 25% for more than 10 years.

However, it’s not the corporation tax rise by itself which is making companies nervous – it’s a series of events in combination. Brexit, political instability, high inflation, questions over the economy have all impacted firms’ willingness to invest.

The impact of the corporation tax rise depends on business size and profit margins. For big, capital-intensive businesses, the rise is likely to have a bigger impact, particularly if a lot of money is spent on fixed assets, R&D or even both. Yet for these companies, tax deductions can be used which will massively reduce the 25% rate.

It’s therefore primarily an issue for those in the middle. SMEs, including service companies, that don’t already spend money on fixed assets or R&D will be hit hard as there will be nothing to offset corporation tax against.

But the reality is that the UK tax regime remains pretty competitive in comparison to many countries and that is what the Government is gambling on. While corporation tax has increased, it’s not high enough (yet) to become uncompetitive on a global level.

We’ve been providing support for owner-managed SMEs and doing a lot of modelling around salaries and Corporation tax and what’s the best way to receive earnings. When it comes to modelling investments, there’s still decent tax incentives for those wanting to invest.

Verdict: It’s not corporation tax by itself which is causing concern, but tax rises in combination with Brexit, political instability, high inflation in combination.

Higher corporation tax will achieve the opposite of what the Government wants

Toby Ryland, Corporate Tax Partner, HW Fisher

The increase in corporation tax rates was very disappointing, even if not entirely unexpected. Fortunately – and despite the brief U-turn under the Truss administration – the increase in the rate had been announced well in advance, which enabled companies to include it in their cash flow forecasts.

We note that comments from inward investors looking to invest in the UK have been critical – many have expressed surprise that the UK has eroded the competitive advantage that a low corporation tax rate offered.

When coupled with the effects of inflation and rising wages, the increased tax burden has clearly had an impact on the availability of funds for investment. Companies are consequently being far more targeted in their spending and are critically reviewing expenditure before committing.

We have been increasingly involved in financial modelling to assist clients with tailoring their investment plans and to ensure that the companies retain sufficient working capital to support the business. This means that decisions on capital expenditure are often being deferred to later years unless absolutely essential.

Whilst the new rules on expensing capital expenditure are welcome, they are not sufficient on their own to prompt companies to accelerate spending.

It will take some time to adjust to the higher corporation tax burden and this will inevitably have an impact on capital investment – which is precisely the opposite of what the Government has stated it wants to encourage.

Verdict: Modelling higher corporation tax for clients is leading them to defer investment – precisely the opposite of what the Government wants.

Annie Makoff is a freelance journalist and editor.