Corporate tax policy under the Labour government, 1997–2010

This paper reviews and evaluates corporate tax policy under the 1997–2010 Labour government. During this period the government implemented a classical rate-cut-cum-base-broadening tax policy for large companies. Tax policy for small and medium-sized enterprises (SMEs) is more difficult to characterize: in the first two terms, rates were cut more frequently than for large businesses and the base was narrowed, but in the government’s third term, statutory rates for SMEs were increased. Extensive reforms of dividends and capital gains tax at the individual and corporate level have also been implemented: in 1998, the imputation system was abolished and in 2009, foreign dividends became exempt for corporate income tax purposes. A comparison of the statutory and effective rates shows that the UK has lost some ground to the OECD since 2003–4, fundamental reforms of dividends and capital gains taxation have aligned the UK to its competitors and to EU law. We find that the overall effect of the Labour’s tax policy on aggregate investment may have been small, for three reasons. Increases in real investment between 1997 and 2007 are largely explained by the economic cycle, while the reduction in the tax component of the user cost of capital was small. Moreover, the increase in aggregate investment was led by an exceptional surge in investment in structures driven by a real estate boom. Finally, we note that most investment was undertaken by large companies, and therefore it was not affected by the large set of tax reforms focusing on SMEs.