Apparently, John McDonnell, the shadow chancellor, wants Sir Richard Branson to be stripped of his knighthood. Why? Because, he claims, Branson is a tax exile living (for most of the time) on his private island in the Caribbean (well the British Virgin Islands to be exact).
According to McDonnell:
"The whole purpose of the honours system is undermined when the rich and the powerful can collect their gongs without giving anything back. It's even worse when tax exiles are given honours."
Now John McDonnell may have a point, but is his solution the right one? Is the right solution to strip Branson of his "gong"? Or is the better solution to make him pay more tax in the UK?
According to McDonnell the problem is the honours system but I would argue that the real culprit is the tax system. What we are dealing with here is tax avoidance, even if Sir Richard Branson claims his choice of residence is driven by the scenic location and not the potential tax advantage.
Sir Richard Branson is, however, not the only alleged tax-avoiding knight to be domiciled outside the UK. Sir Philip Green has attracted controversy recently, and it is probably only a matter of time before a neighbour of his in Monaco, Lewis Hamilton, receives his own gong as well. So why does this matter? Well, because this issue highlights one of the key issues in tackling tax avoidance: residence.
In previous posts I have discussed how different types of corporate tax avoidance schemes work such as transfer pricing and the abuse of debt interest relief. Other possible techniques involve the abuse of royalty payments, but more on that some other time. Unfortunately it is not just corporations that are guilty. The super-rich, celebrities, sports stars and entertainers are all complicit. And so too are millions of middle income professionals living and working in places like Dubai, or retiring to sunnier climes with lower tax rates. In 2010 it was estimated that 3.97 million Brits were living abroad. Today the figure is probably even higher. Most are earning much more than the average wage in this country and many are earning that money virtually tax free. As I pointed out when discussing Brexit, tax avoidance within the EU is a major factor in undermining the finances of sovereign member states, but so too in tax avoidance from outside the EU.
At the heart of the problem is the tax system itself and its rules. Most countries only tax people who are resident in that country. Additionally they may tax their citizens living abroad, but only on income earned in their native country. The exception is the USA. Only it of all the industrialised countries taxes its citizens wherever they live.
What is now becoming abundantly clear is that taxing individuals on the basis of either their country of residence or the place/location/country of their income does not work. In a globalised world with freedom of movement of labour and capital it is impossible to definitively allocate a person's earnings to a single territory. The result is that it is relatively easy for the rich (and not so rich) to avoid tax to the detriment of their fellow citizens whose employment is less mobile. The only way to solve this problem is to tax people based on the thing that they cannot change or disguise easily: their nationality. So why don't we?
Well part of the reason is historical, but another reason is the EU, and in particular the single market. Single market rules currently prevent us from taxing our citizens living in the rest of the EU, but as we are about to leave the EU there is now no legal reason why we couldn't follow the example of the USA. If we did we could also apply the same rule to UK citizens living in overseas crown dependencies like the British Virgin Islands, the Isle of Man and the Channel Islands.
So how would this work? Well tax should be payable in two stages. The first obligation should be based on residence (as now) with all individuals being obliged to pay tax first on income derived in their country of residence to the government of their country of residence. However, the second stage would be based on nationality with the payee paying additional tax to their country of origin (i.e. the UK) equal to the difference between what they would be expected to pay if they resided in the UK and all their income was generated in the UK, and the tax on their total global income that they do pay.
So, for those who are already living in countries that do tax their income on the basis of residence, standard double taxation rules should apply with the UK citizen paying the difference to the UK Treasury between what they pay abroad and what they would pay on their entire global income if they had remained in the UK and all their earning had been generated in the UK. For completeness we should of course continue to tax overseas nationals on their earnings in the UK based on residence.
In short, the only changes would be that British citizens living abroad would be obliged to pay tax as if they lived in the UK while British citizens living in the UK would be taxed in the UK on their worldwide earnings.
Taxing UK citizens in this way would have a number of positive advantages. Firstly, it would be easier to enforce. Secondly, there would be no tax advantage for UK nationals to move their country of residence away from the UK. That would make it easier for governments to adjust the tax rates without losing tax through avoidance schemes. Thirdly, it would reduce emigration of highly skilled professionals such as doctors. Fourthly, it would reduce demand for tax havens, and finally it would increase tax revenues. In fact it could raise over £100bn in extra revenues; enough to fund the entire NHS. And then if UK citizens did still decide to go and live on their own private Caribbean island, we could at least be more certain that the decision was more likely to be motivated by a love of the scenery and not by a love of their bank balance.