How to counter tax avoidance - raise VAT

Since people can't escape paying tax on the things they buy, raising VAT-levels could be a good way to cut tax avoidance and evasion - and bring in some extra money for the government too.

With all the talk about how we need to raise taxes to deal with the deficit, combined with the general upset about tax avoidance and evasion, it seems odd that we hear so little about changes to the VAT system. We know that the main tax evasion takes place at the bottom and at the top of the financial tree.

Consider the bottom. A few months ago, Alice Miles, writing in the New Statesman,pointed to a study by an anthropologist working in a deprived area. He found that while the average official family income was around £4,000, thanks to unreported, cash-in-hand work, prostitution, bartering, trade in stolen goods and the smuggling of spirits, tobacco and drugs, it was actually more like £17,000. One in four people were "informally self employed."

Up at the top, there tends to be more avoidance than evasion clever accountants can manage all sorts of things. But the net effect is the same. Across the economy, there is a huge amount of income getting away from the taxman scot free. You might think that is ok at the bottom end but not at the top. Or vice versa. I think it needs dealing with at both ends.

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And VAT seems to be a good way of doing it. Think tank Reform looked at this last year and concluded that starting to charge VAT on food, children's clothes and to raise it from its current low levels on household utility bills would be better than raising any other tax. That's partly because they see VAT as less damaging to the economy as a whole than taxes on employment production and income. But also partly because this would make VAT less complicated and bring it into line with the VAT systems in most of the rest of Europe.

Finally, VAT is impossible to avoid (unless you live only on stolen goods). So the more it takes the place of income taxes the less overall avoidance/evasion there can be. The downside to broadening the VAT base of course is that it would hit lower income households proportionally more severely than higher income households. So you might need to fiddle with the income tax thresholds at the same time.

However, it might also be an idea to soften the blow by creating some kind of progressive VAT system. You could have a very low rate on food and essentials (with a higher rate on rubbish food such as ready meals and cake) and then bump the rate up as things turn from being needs into being wants and then into proper luxury goods.

This is how the tax operated in the 1970s (when it was first introduced). Then we paid 8% on standard goods and 12.5% on anything perceived as a luxury good. In 1975, Denis Healey imposed a 25% rate on real luxury goods (and electrical appliances). Doing something such as that again might not be particularly popular but doing it in tandem with a new low rate on food would at least address the problem that is vexing so many at the moment that of tax avoidance and evasion. If it didn't come with reductions in other taxes (which it should but probably wouldn't) it might also raise some much-needed cash for the government.

Merryn Somerset Webb

Merryn Somerset Webb started her career in Tokyo at public broadcaster NHK before becoming a Japanese equity broker at what was then Warburgs. She went on to work at SBC and UBS without moving from her desk in Kamiyacho (it was the age of mergers).

After five years in Japan she returned to work in the UK at Paribas. This soon became BNP Paribas. Again, no desk move was required. On leaving the City, Merryn helped The Week magazine with its City pages before becoming the launch editor of MoneyWeek in 2000 and taking on columns first in the Sunday Times and then in 2009 in the Financial Times

Twenty years on, MoneyWeek is the best-selling financial magazine in the UK. Merryn was its Editor in Chief until 2022. She is now a senior columnist at Bloomberg and host of the Merryn Talks Money podcast -  but still writes for Moneyweek monthly. 

Merryn is also is a non executive director of two investment trusts – BlackRock Throgmorton, and the Murray Income Investment Trust.