With public spending forecast to rise over the next three years, pressure on tax revenues is mounting. It’s a situation that’s prompting tax experts to ponder whether more fundamental changes to the tax system are needed to plug the tax gap.

However, if the backlash against the introduction of VAT on private school fees is anything to go by, reform of the UK’s VAT regime is not for the faint-hearted. A panel of experts at ICAEW’s recent How to Fix VAT Conference put forward their views on the potential shape of reform and their strategies for success.

According to Gemma Tetlow, Chief Economist at the Institute for Government (IfG), “The UK government needs to get to a stage where they’re thinking about bigger reforms of the tax system if they are needed to raise extra revenues, rather than what we’ve seen in recent years, which is scrambling around on the margins to try and raise a few million here and there.” 

John Whiting, former Tax Director of the Office of Tax Simplification (OTS), said the private school fees example illustrates the basic problem of political acceptance. “And so many VAT zero rates are in sensitive areas. Remove or tinker with them – remember pasties? – and there would be a complete outcry.”

He advocates for a two-pronged approach that takes in both strategic policy and piecemeal policy. “Tax is there to raise money. If you want to use it for social policy, like the Soft Drink Industry Levy or sugar tax, don’t try and graft that on to the VAT system. It’s far better to introduce something separate and communicate to the public what it is and what it's doing in a reasonably transparent way. You need to really think it through.”

Another essential component of successful reform is a commitment to keeping the system up to date. That requires systematic reviews to ensure it remains fit for purpose by factoring in things like technological and sociological shifts. “The UK has no system for regularly evaluating whether a relief is doing its job and whether it’s worth the money it’s costing,” Whiting says. 

Meanwhile, he says a factor that consistently emerged as a priority for businesses and consumers during his time at the OTS was not simply the need for better guidance from HMRC but, ultimately, greater certainty in the tax system. “We have to strategically build that more into VAT,” Whiting said. 

Unlike other government policies, the fact that much tax policy is developed in secret makes it difficult to get public buy-in to any changes, Tetlow says. “That secrecy also translates over to the public, where most tax policies are announced on Budget day without much preparation for it. That approach makes it very hard to sell much bigger reforms, where I think you really need to make the case.” 

This closed-door approach prompts the question of whether a lack of trust is a barrier to reform. “Trust is very important,” Whiting says. “Building trust needs more openness and more willingness. I remember ministers saying, great idea, but those who lose out are the ones we’ll hear from, whereas you never hear from the ones who benefit. But that’s not a reason not to try and do it.”

While reducing the VAT registration threshold would go some way to eliminating issues such as bunching and aspects of tax planning, it would force a greater focus on the implications for the many small businesses that would be brought into the scope of VAT, Whiting says. “I think it’s something that we should have a serious debate about.”

Tetlow, meanwhile, says achieving VAT simplification requires real clarity about objectives and what the tradeoffs are. “That also helps you to make the case and build support around that. The problem with tax is the losers are very obviously identifiable and lose big. The government needs to make those benefits real and convey what’s going to get better.” 

She argued that while incremental changes to the tax system are easier to introduce without people noticing, a big bang approach to tax reform can work when supported by a solid case for change. “When you introduce changes individually, the public don’t get the bigger picture of why it makes sense to have a flat rate VAT, for example. VAT reform wouldn’t be easy. But, in some ways, a bigger reform might be easier than small ones.”

However, a lack of understanding of how the VAT system works is another significant factor stalling reform, Tetlow believes. “It might appear progressive to have zero rates on children’s clothes, but it’s a very poorly targeted way of helping poorer households with children.” 

Stephen Dale, Chair of ICAEW’s VAT and Duties Committee, said an EU review currently underway may result in the European Commission proposing that VAT should be applied to financial services. “If the UK wants to remain competitive with what’s going on, on the other side of the Channel, the UK’s VAT system must be reformed. It can’t wait.”

Whiting agrees that standing still is not an option. “It needs to be brought up to date. None of us are saying this is easy. What I would like to see is a commitment to keep VAT up to date, with any proposed changes tested against a framework that we work to aligned to the fundamental principle that we want a better, fairer system.”