The abnormal becomes the norm – Scottish Budget 2021

Last year Kate Forbes delivered her first Budget after less than a day in her job as Cabinet Secretary for Finance, but that unusual event was accompanied by the structural abnormality of the Scottish Budget being delivered before its UK equivalent. The latter is not an ideal scenario for anyone concerned, as Scottish financial proposals then have to be delivered without clarity as to anticipated total funds available. But the same sequence has happened this year (although without a new holder of the office), with a delay to the UK Budget caused by Brexit and a UK election last year replaced by a delay this year caused by the pandemic. (The UK Budget is now scheduled to be delivered on 3 March.) The election of more influence this year may well be that for the Scottish Parliament, scheduled for 6 May.

And so, it will again have been necessary for the Scottish Government to bring forward proposals based on estimates of what will be in the block grant (crucial for spending plans); and also on assumptions on what might - or might not - be done with non-devolved taxes (changes to which could also affect the block grant and would otherwise certainly influence tax proposals for Scotland). This delay was specifically mentioned as a contributing factor to the significant degree of uncertainty already deriving from the pandemic and Brexit.

Indeed, this year some of the Scottish tax proposals were based on assumptions that announcements made in the UK Spending Review in November 2020 were written in stone. Furthermore, the Scottish Budget proposals are of course just that – proposals - they require Parliamentary approval and a range of outside forces (including the additional Scottish political support required by the Scottish Government) could still bring changes before the proposals take effect.

Tax changes made were extremely limited. Stability and certainty were the watchwords, with Scottish philosopher and economist Adam Smith's four maxims (put briefly, proportionality, certainty, convenience and efficiency) again being cited as inspiration.

Depending on what happens in the UK Budget, the divergence between what is paid in income tax on earned (and property income) by those in Jedburgh and those in Durham is likely to increase, although it is claimed that 54% of Scottish taxpayers will pay less than their equivalents in the rest of the UK. (This is down from 56% based on the original announcements made in the last Scottish Budget). Therefore, one assumes (and can calculate) that the relatively large minority will pay more (some rather a lot more); with a select few paying exactly the same. This comparison is, of course, based on some speculation, until proposals from the UK Budget are themselves finalised. 

There were no substantive changes to LBTT rates, although the increase in the nil rate threshold for residential property will be removed, as originally announced, from 1 April 2021 – a specific COVID-19 measure being removed at a time when the pandemic (and its effects on economic activity) seems to be far from over.

Once more, although with some revised reasoning, there were further delays announced to the implementation of further tax devolution measures, in the forms of aggregates levy, air departure tax and VAT assignment.

Again, announcements both in the speech and the Budget document were heavily weighted towards spending rather than raising the funds to spend – this year 11 pages from a total of 189 were devoted to the tax-raising measures. This is perhaps more understandable in a year when governments throughout the world are more concerned with providing for their hard-pressed citizens, with the reckoning for that spending put off for another day (and perhaps a different Government).

With a repeat of the warning that things could still change, further details on various tax aspects of the Scottish Budget can be found as follows:

• Income Tax
• Land and Buildings Transaction Tax
• Scottish Landfill Tax
• Aggregates Levy
• Air Departure Tax
• VAT Assignment
• Non-Domestic Rates
• Tax Legislation Process

Income tax

In a partially devolved tax system, it is always worth a reminder that that most significant of taxes, income tax, is itself only partially devolved. Thus, the Scottish Parliament can set rates and thresholds as they affect only earned and property income; other rules, structures and reliefs (including the personal allowance), as well as the rates affecting dividend and other investment income, remain controlled by Westminster. The same applies to that income-tax-by-any-other-name, National Insurance Contributions. Scottish taxpayers will again have to await the UK Budget, as well as confirmation of these Budget proposals, before having some certainty about their tax bills for 2021-22.

Some assumptions have been made – notably it has been assumed that two announcements made by the UK Government in the UK Spending Review in November 2020 will be fulfilled. Those are: the personal allowance and the UK higher rate threshold will be uprated by CPI inflation (0.5%) for the tax year 2021-22. That would bring the figures for these to £12,570 and £50,270 respectively.

With that as a less-than-completely-solid influence, the Scottish Budget proposals maintained a structure of five rates for earned and property income above the personal allowance (the intention for that rate structure to remain in place for the remainder of this Parliamentary term was previously confirmed).

On the personal allowance itself, the Budget points out that it had been policy to implement an ‘effective Personal Allowance’ of £12,750 by the end of this parliamentary term. This has been at least deferred due to the unprecedented circumstances. The reason for the slightly strange phrasing and punctuation around the personal allowance is that devolved income tax powers do not stretch to altering that (or other such allowances). The policy aim would need to be achieved by the introduction of a very short nil rate band, a degree of complication from which we are spared, at least for the moment.

Therefore, the proposals this year are for an inflationary rise in the first four rate bands for Scottish taxpayers, but a freeze of the top rate threshold. Those seeking neat, rounded figures for their tax bands will need to look elsewhere; and we can count ourselves fortunate that the grunt work of tax calculation is, these days, almost inevitably delegated to electronic brains.

Here are the proposed new rates and thresholds, compared with the current year’s equivalents.

The fact that all thresholds, apart from the top one, rise does indeed mean that on a year-to-year basis, all Scottish taxpayers with the same income (and deriving from the same sources) would pay slightly less income tax in 2021-22 than in 2020-21.

The comparison with the rest of the UK (at least speculatively) is more complex. To adopt a distressingly popular expression from the pandemic, the pivot point at which the Scottish taxpayer would pay more than their UK counterpart is £27,393 – by some measures below median Scottish earnings. The difference is small at this level, but by earnings of £50,260, it has grown to £1,548; at £100,000 the difference is £2,045; and at £150,000 the differential as a percentage of salary is at its maximum of 3.24%.

The current structure of National Insurance Contributions brings a reduction in the applicable rate when earned income exceeds the UK higher rate threshold. That, combined with the fact that the Scottish higher rate is 41%, means that some Scottish taxpayers face total deductions of 53% on the slice of their income between the Scottish higher rate threshold and that set for the rest of the UK – if the November 2020 Spending Review proposal becomes law and the Scottish income tax proposals are enacted, that slice would be a chunky £6,608. Within that band, pension contributions and charitable donations are particularly good value for those inclined to use them.

Land and Buildings Transaction Tax

The LBTT residential nil rate band was increased from £145,000 to £250,000 in July 2020 as part of the Scottish Government's response to the pandemic and this applies to purchases completing before 31 March 2021. There were hopes that the Scottish Government would extend this LBTT holiday, but the Finance Secretary confirmed that the LBTT holiday would end as planned, so the residential nil rate band will reduce to £145,000 from 1 April 2021.

This means that a family home bought for £200,000 on 31 March will be free of LBTT, but the same home purchased on 1 April 2021 will be subject to tax of £1,100.

The receipts from LBTT in December 2020 were a record £82.2m, largely from residential purchases, compared with £62.6m in November 2020 and £61.5m in December 2019, so an extension of the LBTT holiday was presumably not thought to be necessary, at least on the grounds of encouraging the market.

First time buyers' relief, which increases the residential nil rate band to £175,000, will continue to be available after 1 April 2021, though the tax saving is a maximum of £600 and there are complex conditions that have to be met.

All other LBTT rates remain unchanged.

Additional Dwelling Supplement (ADS) remains at 4%, but there is promise of a consultation to consider a range of ADS issues, such as extending the length of time within which a previous main residence must be sold for a repayment to be claimed and various scenarios involving joint buyers. The intention is to consult on this early in the next Scottish Parliament.

This draws attention to what may be seen as an anomaly and the swift removal of another temporary change introduced in response to the pandemic. It was recognised that those who buy a new main residence may have difficulty in disposing of their old one. The purchase in these circumstances is subject to ADS because the purchaser will own (at least) two dwellings on the date of settlement of their purchase; but the ADS can be reclaimed if the previous main residence is disposed of within 18 months of the purchase of the new one.

For purchase transactions settling between 24 September 2018 and 24 March 2020, that period was extended to 36 months. But that extension has not been extended and was already limited, so the clock is ticking faster, perhaps somewhat surprisingly, for those who have made more recent purchases.

Accordingly, someone purchasing on 24 March 2020 has until 23 March 2023 to make the disposal and claim relief; someone purchasing on 25 March 2020 only has until 24 September 2021.

It is good that the Scottish Government recognises that changes need to be made to ADS to ensure that it operates in line with the policy intent and to iron out unintended consequences, but there are a number of other challenging ADS issues, such as the position of divorcing or separating couples, which also need to be addressed. It will be important to ensure that the ADS consultation is not limited in scope but covers all relevant areas.

Seeding relief for PAIFs and COASCs

There is currently no LBTT relief for the 'seeding' (initial transfer) of properties into a Property Authorised Investment Fund (PAIF) or Co-owned Authorised Contractual Scheme (CoACS) and the exchange of units within a CoACS. This can be a real impediment to these types of funds owning Scottish properties compared to English properties, since there are SDLT reliefs in these circumstances and most of these funds operate on a UK-wide basis.

While the Scottish Government is committed to introducing LBTT reliefs for PAIFs and COASCs, it is unfortunate that no detailed consultation has yet been launched. That is largely due to complexities associated with the UK's future relationship with the EU and it is hoped that seeding relief for PAIFs and CoACSs will be considered as soon as possible by the next Scottish Parliament.

Scottish landfill tax

Scottish landfill tax (SLfT) is a fully devolved tax on the disposal of waste to landfill, intended to serve as a financial incentive to minimise waste and create a more circular economy. Scottish landfill tax has been increased in line with inflation, and to ensure consistency with the UK, to a standard rate of £96.70 and £3.10 for the lower rate, in keeping with announcements made in earlier years. The credit rate for the SLCF for 2021-22 will remain at a maximum of 5.6% of an operator’s tax liability.

This is intended to ensure that landfill site operators can continue to contribute to community and environmental projects near landfill sites, without any increase in the overall tax burden. The increased rates are also said to support progress towards full implementation of the ban on the landfilling of biodegradable municipal waste, which will now take effect on 31 December 2025, a delayed date confirmed in 2019.

Aggregates levy

Following the resolution of state aid issues and the power for it to be devolved to the Scottish Parliament under the 2016 Scotland Act, it will be the responsibility of the post-May 2021 Scottish Parliament to pass the necessary legislation to introduce a devolved aggregates levy. Previous hurdles in the shape of long-running litigation and concerns over state aid have been overcome or removed.

Air departure tax

The Scottish Government has reaffirmed its commitment to devolution of air departure tax, as it will be called in Scotland, the equivalent being the current air passenger duty in the whole of the UK. It will engage with the UK Government's planned consultation. However, the hurdles regarding aligning it with climate ambitions and solving the "Highlands & Islands exemption issue" mean that it could be yet be a while before we see another tax fully administered by the Scottish Government.

VAT assignment – delayed until Fiscal Framework Review (and perhaps replaced with VAT autonomy?

Under the Scotland Act 2016, half of the VAT receipts raised in Scotland (the first 10p of the standard rate and the first 2.5p of the reduced rate) would be assigned to the Scottish Government. This would be a simple transfer of funds, and the Scottish Government would have no control over the VAT rates or VAT legislation.

As VAT returns are submitted on a UK-wide basis, establishing the actual VAT receipts for Scotland proved impossible, so VAT assignment would have to be based on estimates, and finding an acceptable method of estimating the VAT raised in Scotland has proved very challenging indeed. In view of the current economic situation, the UK and Scottish Governments have now agreed that the assignment of VAT revenues to Scotland will be reviewed as part of the Scottish Fiscal Framework Review later in 2021.

The UK has now left the EU VAT area following the end of the Brexit transition period. Previously VAT could not be devolved to Scotland as there cannot be different VAT rates in a single member state. Since the UK is no longer a member of the EU, it is in theory possible for VAT to be devolved to Scotland, though this would no doubt present many practical challenges. In the Scottish Government's Medium-Term Financial Strategy, which was also published on Scottish Budget Day, the Scottish Government proposes that, given the intrinsic difficulties with the VAT assignment methodology, as part of the Fiscal Framework Review "the two Governments should work together to determine whether the devolution of full VAT powers would present a better tool to protect and develop Scotland’s fiscal self-sufficiency".

Non-domestic rates – reliefs and other matters

The harsh economic impact of the pandemic has been felt acutely by businesses across Scotland. A key pandemic-driven headline is the extension to the 100% non-domestic rates (NDR) relief for properties in the retail, hospitality, leisure and aviation sectors for at least the first three months of the financial year. This means that certain businesses will continue rates-free until the end of June 2021. This announcement will have been welcomed by many businesses that are still unable to trade – let alone pay NDR.

When first announced in March 2020, the 100% relief was accompanied by a 1.6% rates relief for all non-domestic properties in Scotland. This 1.6% relief will not extend beyond the end of 31 March 2021, however for all non-domestic properties still subject to rates, the NDR poundage has been reduced to 49p at all levels, a reduction of 0.8 pence from 49.8p.

It seems likely that further announcements on NDR will be made following the UK Government's Budget in March, such as extending the 100% relief beyond June 2021. The reduced poundage puts the Scottish Basic Property Rate just below England's equivalent, which is currently sitting at 49.1p.

Further announcements in relation to NDR included:

• More non-domestic properties will qualify for Fresh Start Relief following an increase to the rateable value upper threshold from £65,000 to £95,000;
• 100% Day Nursery Relief will be extended to at least 30 June 2023;
• Continuation of the Small Business Bonus Scheme relief and Transitional Relief;
• Confirmation that self-catering properties will need to be let for 70 days or more to be classed as non-domestic from 2021-22 – due to the pandemic this recommendation from the Barclay Review of non-domestic rates had been delayed.

Tax legislation process

The Devolved Taxes Legislation Working Group published an interim report in February 2020, but (perhaps unsurprisingly) a final report promised for the summer of 2020 failed to appear. However, a new consultation was launched, as a prelude to the 2021 Scottish Budget, on the role of Scottish taxes in supporting the COVID-19 recovery and the Fiscal Framework more generally, due for review in 2021. A number of structural and procedural changes could emerge as part of this review, some at least of which might make the difficult interactions between a Scottish Budget held before its UK equivalent easier to manage