May 06, 2012

Capping tax relief? Say what!?

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The government is proposing to impose a cap on tax relief for charitable contributions. It says that large donors are using the unlimited relief as a way of avoiding taxes. Opponents of the cap say that it will discourage large donors from making contributions and hurt charity. The debate on the proposal has really taken center stage in the media in the last few weeks and shows no sign of abating – there will even be a special Radio 4 broadcast devoted to a discussion of tax relief and charities. And now the government says it won’t do anything about imposing a cap until consultation has taken place.

I don’t know who the government is planning to consult, but the proposed cap falls flat on economic grounds: it is a plan that targets all donors, not just those that may be avoiders; it is not based on clear evidence about the effects of the policy or about avoidance in the first place; and the administrative plan for implementing the policy seems non-existent.

Where is the evidence that some large donors are using charitable contributions as a way of avoiding tax? How big is the problem? Who are these people? If there is avoidance, which part of Gift Aid is relevant – tax relief for capital gains on gifts of property to charity, what? Government is pretty silent on this, but the answers are important. How can any policy be evaluated if we don’t know about the costs and benefits of the problem and its fix?

Well, let’s forget about that – the duck is in the air and we shouldn’t concern ourselves with its takeoff. Suppose avoidance is taking place and it really is a big problem. Then tell us which element of the tax relief system is more vulnerable to being used as a channel to avoid taxes: is it the deduction from tax for cash contributions made by higher rate self assessed taxpayers? or is the avoidance more likely to happen on the relief given for capital gains (very generous)? As all first year economics students know, sound economic policy requires that tax instruments are targeted directly to the problem at hand. Using a generic cap on tax relief to charitable contributions in order to fix tax avoidance is, metaphorically speaking, rather like spraying a room full of people with machine gun fire in hopes of killing a fly on the wall, hardly a rational and efficient way of killing the fly especially when a fly swatter would do the job quite nicely and it wouldn’t kill all the people in the room. It is a bit astonishing that the people formulating public policy in this country seem to have missed that very important point.

Let’s even forget about the lack of targeting. Tell me about the evidence about the effects of the proposed policy. Why should we care about the evidence? Because the policy is designed to improve government finances: increasing revenue and reducing spend on public services. But will it? It all depends on how donors react. Maybe they will react by cutting donations and/or by reducing the amount of taxable income that they earn. Possible? Likely? We will have no idea without some evidence. However, if that happens, donations would fall (which would mean more government spending on public services might be needed) and so might government revenue. I think everyone would agree that implementing a policy that generates such self-inflicted wounds is a bit bonkers.

But we don’t know if there will be self-inflicted wounds such as these. Is there any evidence at all? Hmm … well, maybe there is but nobody in government has told us what it is. Absent some statement to the contrary, it seems that the proposal has been formulated without any evidence – theoretical or empirical – about its possible effects on avoidance and/or donations. In fact, the best available evidence can found in this report, written by myself and my coauthor. There, a very small number of large donors were asked hypothetical questions about how changes in tax relief on donations might change their giving behaviour (some said it would change their behaviour, some said it wouldn’t) and about whether tax relief mattered in their decisions (some said it did and some said it didn’t). This kind of evidence is useful as a starting point, but it is only indicative and not predictive and so should not be used to underpin an ad hoc policy affecting a sector of the economy that receives about £6 billion pounds per year from more than 50% of the population.

Let’s forget the lack of evidence about tax avoidance, the fact that the proposed cap would not only target avoiders but rather all donors, and the fact that there is no evidence base underpinning the possible effects of the policy. Suppose the proposed cap is actually implemented. What then? How would it be administered? I have no idea, and it appears the government doesn’t either since I have not heard a comprehensive statement about it.

So what to make of all of the fuss? I’m afraid that from where I sit the proposed cap on tax relief for charitable contributions does not make a lot of economic sense: it is not a remedy targeted to the problem of tax avoidance; it is not underpinned by theoretical or empirical evidence that would allow us to make a prediction about its effects; and, if it gets that far, I suspect it will be an administrative nightmare to implement. I would really like to have been the proverbial fly-on-the-wall when the good folks at HMRC or the Treasury came up with the plan, although I might have died, either from laughing at the lack of logic or from the spray of bullets.

- 5 comments by 0 or more people Not publicly viewable

  1. Karl Wilding

    Whilst I long ago gave up the idea that there is such a thing as evidence based policy this is one area where I think we are lacking. As one of the people campaigning to get reliefs on charitable giving removed from the cap it is frustrating how little evidence is around – and I am interested in impartial evidence that doesn’t just explore the impact in terms of revenue foregone to the exchequer, but also future spending foregone. I recognise not all charities contribute societal outcomes that ultimately save the exchequer money – and this is not a comment on their value, it is simply a reflection that governments have priorities – nevertheless the one-sided approach to fairness and contributing to the common good that is being put forward by proponents of the cap strikes me as economically (and ideologically) illiterate.

    Successive governments in general and HMRC in particular would help public policy move forward as a whole if they produced more data on tax reliefs on gift aid and published the evidence we know they have collected or commissioned.

    06 May 2012, 11:56

  2. Adrian Beney

    Thanks for your erudite thinking on this. I am really glad you have made a contribution to this debate, since as you say, you and Sue are the only people who’ve done specific published research on this. And I think I read you saying that even your research, because the sample size of the really big donors – those most likely to be targeted by the proposed cap – was so small, that it would be unsafe to draw any specific conclusions from that research in respect of this proposal. This underlines Karl’s point that we need numbers from HMRC and the Treasury on the amount of money they think we are talking about. Only HMRC / Treasury can produce this data since only they have the aggregate information on tax-relieved giving and the associated income for those donors.

    But I think we will find that we are talking about a relatively small amount of money, since the Treasury is now emphasizing that this is not even about rising more money for the Exchequer. Apparently it’s about fairness – that everyone should pay their fair share of taxes, irrespective of whether or not they have given away up to their entire taxed income.

    So what they appear to be saying is:

    If you earn a lot and pay tax then that’s fair
    If you earn a lot and give away a lot (ending up with less in your pocket than the people in the first group) then it’s unfair that your tax should go to the charity, not the Exchequer.

    If David Gauke MP really is complaining that it’s unfair that their giving means that Donkey Sanctuaries and Eton College end up with tax revenues rather than the Treasury (as he is quoted as having said), then he needs to explain why it’s also unfair that donors give money away to causes which also include vital medical research and housing destitute children and building infrastructure in post-conflict states and training young NEET people and educating the leaders of the future and saving the environment and so on. And why it is better that this cap will push some people back into the first category – that is people paying tax and not giving anything like so much to charity. And why it is good that it will inhibit others from joining the second category.

    The task is surely to get more wealthy people giving their money away, rather than punishing the charities which benefit from the wealthy who do give their money away.

    In closing:

    1. This is a tax on the generous not on the wealthy
    2. If Mr Gauke wants to continue to pursue this agenda which genuinely represents a radical change of principle concerning the tax treatment of charities, then it should be done properly with contributions from the Cabinet Office, BIS (for universities), the DSF (for schools) and DCMS (for the arts) and something like a Royal Commission. This is too important to be done in three lines hastily cooked up in a budget.

    More on my firm’s thoughts about this at

    06 May 2012, 13:54

  3. Peter Matza

    the real question is what justification there is for any tax relief at all. Why should you subsidise my choice of charity? In fact what is the ourpose of tax relief at all? Falt rate tax with no reliefs will allow the wealthy and the generous to contribute more, net, that any tax relief based system.

    08 May 2012, 10:42

  4. Darzil

    I can only guess that they think this is easier or more politically expedient than clamping down on what counts as a charity. There have been some particularly dodgy ones (that charity to support anglo-american business relationships springs to mind – donate to it, and get trans atlantic plane tickets cheaper than you could otherwise buy, and it counts as charitable giving!).

    It is rather strange, however, that you can seemingly choose to what you pay your taxes. I could understand if the money you give to charity wasn’t taxed (if charities were more tightly vetted), but it seems to become a little more complex than that.

    08 May 2012, 11:29

  5. Doug Bamford

    The cases of using charitable ‘donations’ as tax avoidance are clearly wrong, and we should be looking to stop this. Perhaps a cap is a rather blunt instrument to deal with the problem though.

    I would question why there is any need to provide this tax relief in the first place, and if there is, why it should not be at basic rate rather than at the highest marginal rate paid by the taxpayer in question.

    However, even if we accept that allowing tax relief for donations is a good idea then there still needs to be changes. What counts as a charity according to the charity commission certainly does not track the sorts of taxpayer preferences the state should effectively be subsidizing. The most obvious examples are political and religious organisations that attempt to influence policy.

    I therefore agree with Darzil that some charities are clearly more acceptable than others.

    I wrote a blog about this topic a couple of weeks ago:

    11 May 2012, 11:48

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About me

I am a professor of economics at Warwick University. During the academic year 2015-2016, I am on sabbatical from Warwick and am spending most of my time in London where I am Visiting Professor at the LSE and Visiting Scholar at the National Audit Office.
My research has a broad methodological base, spanning several subfields of economics – political economy, public finance, international trade and finance, industrial organisation – and reaches out to other disciplines where research synergies can be mutually explored – e.g., neuropsychology, marketing, decision sciences. A distinctive theme that runs through many of my research projects is understanding how private behaviour and incentives, as well as government policies, shape the structure, performance and boundaries between the public sector and the non-profit sector – these questions have so far been little studied by academics but they are central to many key policy debates. My research has been published in leading peer-reviewed journals, including general-interest journals such as the Economic Journal, the International Economic Review, and the Review of Economic Studies; and in top field journals such as the Journal of Public Economics and International Tax and Public Finance. It has been funded by the Economic and Social Research Council (ESRC), the Social Sciences and Research Council of Canada, the British Academy, the European Research Council (Marie Curie program), HM Treasury (HMT) and HM Revenue and Customs (HMRC).

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