§ Mr. Chris Smith (Islington, South and Finsbury)
I beg to move,That the Personal Equity Plan (Amendment) Regulations 1990 (S.I., 1990, No. 678), dated 20th March 1990, a copy of which was laid before this House on 21st March, be revoked.We tabled a prayer on these regulations because we thought that it would be useful to discuss some of the issues of anxiety to which the personal equity plan system and the changes proposed in the statutory instrument give rise. We do not intend to divide the House on the matter, but we wish to flag up several issues which give us pause for thought.
Personal equity plans were initially announced in the Budget of March 1986 with a start date in January the following year. At that stage, a limit of £2,400 was placed on the annual investment qualifying for a PEP. Provided that the shares were held for a minimum period of between 12 and 24 months, any capital gains and reinvestment dividends were free of tax. In the 1988 Budget, the annual limit was raised from £2,400 to £3,000. In 1989, the annual limit was raised again, from £3,000 to £4,800. It is worth recalling that the overall increase was well over 50 per cent.
The regulations before us raise that annual limit of £4,800 still further, to £6,000. That is a 25 per cent. increase in one calendar year. The House will note that the successive increases in each of the three years were well over the rate of inflation. The overall increases in the annual limit are extremely generous. Therefore, it was with some surprise that when I looked at the Red Book to see what figure was included for the cost of the changes to personal equity plans this year, I found that the item was marked as carrying a negligible cost.
Given the fairly dramatic increase in take-up of PEPs in the past 12 months, I fail to understand why the cost of a substantial increase in the annual limit can be regarded as negligible. It will lead—admittedly with a time lag of at least a year—to considerable taxation benefits in terms both of capital gains and of income tax on dividends. It would be useful to have some further thoughts from the Financial Secretary about why that estimate has been included in the Red Book.
We have a number of criticisms to make of personal equity plans in general. I should make it clear, as I have done a number of times to many different audiences in the City and elsewhere, that Labour Members will honour the tax treatment of those shares that are included in the PEPs portfolios, and the income from them, when we come to Government.
Our criticisms of PEPs are, first, that they have tended to benefit larger investors, repackaging existing portfolios of shares, rather than encourage new investors to come into the equity market. The Financial Secretary will doubtless recall that when we had an extremely interesting discussion on that precise point about a year ago the then Financial Secretary, now elevated to Chief Secretary, maintained that the take-up of PEPs was being substantially generated by new, small savers, rather than by larger investors.
We did not agree then, and we do not agree now, as experience and logic seem to show that precisely the opposite is the case. That is especially true in logic, because, to take best advantage of a PEP, remembering 973 that the key advantage lies in capital gains tax relief rather than income tax relief, one has to have already exceeded the £5,000 threshold for capital gains tax purposes. The small-scale saver with a handful of shares will certainly not find himself in that position. Studies carried out by the Institute for Fiscal Studies seem to show that, by and large, PEPs are being used by people with large-scale shareholdings, and the benefits are considerable in those cases.
Secondly, we doubt whether it is wise to have accorded PEPs far more favourable tax treatment than any other sort of saving. When we debated PEPs last year, one matter that I pressed on the Government was the removal of the composite rate tax system for building society interest. I am delighted that the Government actually listened to that, albeit a year later.
We find it odd, however, that PEPs have been given such special treatment within the tax system, even after the additional boost to savings of a number of different kinds that the Finance Bill and Budget have provided. For example, the increase in the annual limit for PEPs has gone up by well over 100 per cent. in two years. That is in contrast with the treatment in the Finance Bill of the tax-exempt limit for friendly societies, which we shall be discussing soon in Standing Committee. The increase in that limit has been from £100 to £150—an overall increase of 50 per cent., and the last increase was five years ago. The contrast becomes absolutely clear—a more than 100 per cent. increase in the overall limit for PEPs over three years, but a figure of 50 per cent. over five years for friendly societies. We do not regard that as even-handed.
Thirdly, we believe that PEPs by and large serve in the equity markets merely to recycle existing equities. Of course there is a place in the economy for such recycling. but do we really want to give such generous tax treatment to encourage it? On the whole, PEPs do not encourage or facilitate the creation of new wealth or enterprise—they encourage people to continue making profits out of existing wealth and enterprise.
§ Mr. Gerald Bermingham (St. Helens, South)
Does my hon. Friend agree that, if PEPs were structured so as to include employee shareholders within companies, that might be a way of encouraging employees of companies to take, by way of bonus or other dividend, shares within the company for which they work, thus giving them greater involvement within the company?
§ Mr. Smith
I do not think that my hon. Friend was present for our last debate, when my hon. Friend the Member for Newcastle upon Tyne, East (Mr. Brown) set out in extremely learned and expert fashion the constructive view that we take of employee share ownership trusts. In our view, they are perhaps a more appropriate and useful vehicle for encouraging share-owning participation by workers in their companies than the sort of scheme that my hon. Friend has in mind.
Nevertheless, I would point out to my hon. Friend, for whom I have great respect, that his idea is an important one. We should certainly want to examine ways of using the tax system to encourage new enterprise and business in our economy, but I fear that PEPs are a very badly targeted vehicle for achieving that end. That is why we have doubts about the precise benefits that PEPs, with their enormous tax advantages, can bring.
974 The statutory instrument has two major defects, the first of which—the rise in the annual limit from £4,800 to £6,000—I have already mentioned briefly. There is a danger that that substantial increase may render nugatory all the other changes to improve savings of other sorts that the Chancellor is making in the Finance Bill. If we advance the case in the tax system for PEPs by a much greater amount than the case for other forms of saving, other forms of personal saving are not necessarily thereby improved.
Our second and more important criticism of the order relates to regulation 7, which reduces to 50 per cent. the value of investments that must be held by unit trusts, funds of funds and investment trusts in United Kingdom companies. In other words, regulation 7 makes it easier for holders of PEPs, by means of various trusts and funds of funds, to hold their investments abroad instead of in this country.
The issue arose briefly during our discussions a year ago. At that time, the then Financial Secretary to the Treasury, now the Chief Secretary and presumably one of the authors of the document before us, said:we thought it only right to require that unit and investment trusts should invest mostly in United Kingdom equities."—[Official Report, 10 May 1989; Vol. 152, c. 951.]We agree with that, but we now find a year later that the Government are placing before the House an order which reduces that requirement to 50 per cent. Tax relief should not be generously available on income derived from investments up to 50 per cent. of which can be held abroad.
Government policy should be not just about encouraging saving but about encouraging investment in Britain. The change in regulation 7 goes completely in the wrong direction. That is a grave error and we hope that the Government will have second thoughts. Despite our criticisms of PEPs as a whole, we think that the system should be used as far as possible to encourage investment in United Kingdom equities. Providing tax advantages and tax relief to facilitate investment abroad is not one of the priorities for which we want to see the tax system used.
§ Mr. A. J. Beith (Berwick-upon-Tweed)
I was reassured to hear that the hon. Member for Islington, South and Finsbury (Mr. Smith) does not wish to divide the House this year. He divided the House and voted against the PEP scheme in the equivalent debate last year. That could be a milestone on the long road that the Labour party is taking towards popular capitalism, but we must not get too excited. Perhaps some of the hon. Gentleman's comments gave a rather different impression.
The Minister knows that I have been a critic of the PEP scheme from the start, not because I disagree with its objectives but because I do not think that it went far enough to meet them and in particular it did not go far enough to meet the objectives of extending share ownership to the largest possible number of people. That remains my criticism of the scheme and that is why I shall suggest further changes that should be made to it.
Before the Budget we outlined a series of measures designed to boost savings, and widen savings and share ownership. I am pleased to say that the Government have moved on some of our suggestions. The first of the three key elements that we suggest now, just as we did last year, is the abolition of composite rate tax on building society and bank accounts. I am pleased that the Government 975 propose to do that in a year. The second is the extending of PEPs to bank and building society accounts, which to a large extent is met by the TESSA scheme. Our third measure is the creation of an alternative PEP scheme for people who are not liable to capital gains tax. The Government have not adopted that suggestion and have not yet addressed the issue.
The only major benefit of a PEP scheme is the capital gains tax relief that it provides. By definition, the vast majority of people whom one might wish to encourage to take out a PEP as an objective of widening share ownership have no capital gains tax liability at all. The people who are most likely to benefit from the present scheme are those who have already used up their considerable capital gains tax relief and must therefore possess a fairly substantial portfolio of shares in any case.
If the scheme is to be widened, it must contain reliefs that make it attractive to people who do not have any capital gains tax liability and are first-time share buyers or people who may at the moment own shares in one or two privatised companies, or perhaps in three such companies, and whose total portfolio is only £1,000. They will have no capital gains tax to pay, so they are a long way from needing such relief. Therefore, there must be some other form of relief. They get relief on dividends, but we know that that is small, and less than they would get if they had the same money in a bank or building society, as the divident income would be less than that from a bank deposit.
Our proposal was that there should be an alternative PEP scheme giving front-ended income tax relief on the money deposited in the scheme, but that nobody should be allowed to have both types of scheme. That would mean, if one was offering it to large numbers of people who have no or only a few shares, the opportunity of a real and encouraging tax relief. If the Government are serious about widening share ownership by means other than employee share ownership plans, they must widen the scheme in such a way. That is easily the most promising route to take if the PEP scheme is to fulfil the purposes for which it was originally set up.
The hon. Member for Hackney, North and Stoke Newington (Ms. Abbott), who serves on the Select Committee on the Treasury and Civil Service, referred to the exchanges in the evidence sessions of that Committee about whether this was a Budget to increase savings. The Chancellor was careful in his choice of words when questioned on the subject. He said that it was not a Budget for savings but a Budget for savers. In other words, it gave certain advantages to those who chose to save. He held out no hope that it would greatly extend or increase the amount of saving in the economy. Many people agree. I hope that there will be some increase.
A different social purpose would be achieved by widening the number of people who save, even if that did not increase greatly the savings ratio. It is socially desirable that more people should be encouraged to save and develop the habit of saving and that ownership of industry should be much wider. Therefore, the Government have missed the boat in not developing PEP in the way that I have suggested. That does not lead me to resist the changes that they are making this year, some of which will prove useful
976 The hon. Member for Islington, South and Finsbury referred to a point that came up both last year and this year, which is about what was last year the 75 per cent. rule, which will become this year the 50 per cent. rule, on the amount of investments by a trust that can be made overseas. That presents a problem to the Government. It appears to me to be a breach of the Prime Minister's Madrid conditions for entering the exchange rate mechanism. It is a restriction on capital movements of the sort that she told all other European Countries they must get rid of before Britain would join the ERM.
That point was emphasised and repeated by Lord Joseph in an article in the Financial Times, I think today. The Government had better produce an answer on that. This year, they have reduced the restriction from 75 to 50 per cent. but that restriction is still inconsistent with the principle of the single market and free movement of capital. The Government may say that it is a bargaining counter and that when other countries remove their restrictions we shall remove ours.
The widening of savings and share ownership is desirable. I shall support the Government's improvement of PEP but I wish that they would go much further.
§ Mr. Gerald Bermingham (St. Helens, South)
When I intervened in the speech of my hon. Friend the Member for Islington, South and Finsbury (Mr. Smith), I received the reply that my point had been partly dealt with in an earlier debate. I also received the assurance that my party is beginning to think along the lines of what is best for the capital market and the investment market. I suppose that I should declare a disappointed interest in PEP in that, in 1988, I bought into a scheme. It must be about the only one that ever lost money, and it managed to do so faster than the stock market was going down. I became a little disillusioned.
I have watched the limit rise from £3,000 to £4,800 and now to £6,000 and I have listened to what has been said about capital gains tax allowances. All the time one asks oneself, "What is the Treasury playing at?" We have PEPs, which have nil capital gains tax as long as one remains within their terms. In the old days there would be part unit trusts and part shares in the capital market. There had to be management, of course, and a great deal of money was made managing. Managers are now trying to reduce their charges and are becoming terribly competitive. The Government are allowing the unit trust element to fall to 50 per cent., and that means that 50 per cent. of the unit trust element will be invested abroad. More capital is leaving the country, and one begins to wonder what the Government are playing at.
The Government introduced similar schemes that were capital gains tax-free provided that they were held for long enough. Again, what are the Government playing at? Are they in favour of CGT or are they not? They are encouraging people to find schemes whereby they avoid CGT. If I had been sitting on the Government Benches last year listening to the Budget statement, I should have blown my top trying to think, as Conservative Members should, what the Government were doing. Effectively, they increased CGT by 33 per cent. They took it from 30 per cent. to 40 per cent. That was done by a Government who are meant to be interested in capital. There are schemes to avoid CGT, the Government have increased the rate of 977 CGT and at the same time they are driving industry towards considering shareholdings from an income-providing point of view, not from the standpoint of capital growth. That means that companies have to pay a dividend, so capital flow is reduced. Companies have to borrow from the banks, which are doing rather nicely with a current borrowing rate of about 18 per cent. That is doing nothing to help industry.
My remarks are not Labour party policy and I may have to answer for some of them later, but be that as it may. If we try to apply a purely logical mind to capital investment in industry, we must ask whether we are to encourage investment for capital growth or income return. If people want income return, the obvious answer is to encourage them to invest in building societies, for example. The Japanese do things extremely well if a capital return is required. They encourage investment in companies with a view to capital growth. They do not discourage that by having the majority of investment taxed at 40 per cent., which is the income tax rate in any event. We do not encourage the small investor by taxing him because he invests in a single investment whereas if he goes to a managed fund he may well escape CGT.
If we encourage people to invest for capital growth by, for example, coupling the investment with a provision that states that if dividend is reinvested it will not be subject to taxation, there is a logical approach to be perceived. It is a fairly rational idea that is employed elsewhere. It stops companies distributing moneys, it allows reinvestment in the company and at the same time it means that companies do not have to borrow. With that approach I can understand people being encouraged to invest.
By and large, the small investor does not invest for income. He puts money away for a rainy day, and sometimes for the children. Sometimes he is making provision for something that will confront him in five or 10 years' time. If he realises that he will not pay tax on capital growth, there will be a considerable incentive for him to invest.
I appreciate that the fund managers will say, "If the pension funds find that there is no such thing as capital gains tax any more and there is only capital growth, not income growth, how are pensions to be paid?" I understand the argument, but logic tells me that the managers will dispose of some of their shareholdings from time to time. That might make the market move around a little.
At the end of the day, what is the logic of PEPs? Either we believe in capital gains tax or we do not. Perhaps the Minister will care to answer my question: do the Government believe in capital investment, or do they not? Do they believe in capital gains tax? If they do, why should two schemes be exempt from capital gains tax provided that they are held for long enough? If there is to be capital gains tax, let it be upon every gain.
If the Government do not believe in capital gains tax, they should have the courage to say so. Their action last year in raising it from 30 per cent. to 40 per cent. shows little sense if they do not believe in it, and they should abolish it. The market could then reconsider the value of capital growth as opposed to income growth. The Government must not play around. They should not use the idea of investment abroad together with an increase in the percentages because that encourages capital outflow 978 rather than capital inflow and investment in Britain. The Government should come clean. It is either one or the other.
I am interested to know where the Government stand. The next general election cannot be too far away, and I am interested in what the Government propose thereafter. Will Britain become just an offshore island of Europe, or will we once again encourage investment in British industry? Will we encourage British industry to expand? Will we encourage fund managers to invest in British industry rather than abroad?
I hope that the Minister will give us a clue about the direction of his thoughts. If he is not thinking, and if his Department is not thinking, but simply dealing with each issue as and when it arises, please say so. At least that would be an honest answer and the House is entitled to know.
§ The Financial Secretary to the Treasury (Mr. Peter Lilley)
I thank the Opposition for providing an opportunity once again to debate personal equity plans, which are a tremendous Government success story. The success of our policies is evident in the figures from the latest stock exchange share ownership survey published at the time of the Budget. About 11 million people, or one adult in every four, now owns shares, compared with one in 14 in 1979. Share ownership is widely spread—two thirds of share owners are outside the ranks of professionals and managers and 60 per cent. are outside the south-east.
The Government remain committed to widening and deepening share ownership, building on the remarkable achievements to date, and PEPs are playing their full part in that. The effect of the measures that we have introduced to improve the attractiveness of PEPs is shown in the figures that I gave the House on 23 February. They showed that, by 31 December 1989, the number of plan managers had risen to 340 compared with 180 a year earlier. Some 300,000 plans were taken out in 1989 and the total amount contributed to PEPs has risen to 1.5 billion, not counting investment growth.
I am pleased to give the House the latest provisional figures for 5 April this year. In 1989–90, 400,000 plans were taken out and £1,200 million invested, both figures setting new records for PEPs. That brings the total number of plans taken out since PEPs started to nearly 850,000, and the total invested—ignoring investment growth—to almost £2 billion. Those figures do not reflect the impact of the changes that we announced in this year's Budget, which were implemented in the regulations that we are debating today.
In the Budget, my right hon. Friend the Chancellor made four significant further improvements to personal equity plans. First, the overall annual limit on annual investment goes up from £4,800 to £6,000. Secondly, the limit on qualifying unit and investment trusts rises from £2,400 to £3,000. Thirdly, the rule for qualifying unit and investment trusts is relaxed—they now need to hold at least 50 per cent. rather than 75 per cent. of their portfolio in United Kingdom ordinary shares. Fourthly, the amount which can be invested in unit and investment trusts not meeting that requirement goes up from £750 to £900.
Those measures are an important component of my right hon. Friend's Budget for savers. They will increase 979 the amount that individuals can save, increase incentive for managers to market schemes, and remove obstacles facing investment trusts.
Those four changes are the meat of the regulations before us, but the regulations also sweep up some technical relaxations and clarifications which we announced last year. For example, regulation 6(1) clarifies the market value rule in the light of comments made by the Select Committee on Statutory Instruments last year. All in all, the effect of the changes in the regulations should be to make PEPs still more attractive. I look forward to an even more successful year than the last.
The hon. Member for Islington, South and Finsbury (Mr. Smith) asked why the cost of the relief is negligible, given the excellent take-up to which I have referred.
§ It being Ten o'clock, the debate stood adjourned.
That, at this day's sitting, the Motion in the name of Mr. Neil Kinnock relating to Income Tax may be proceeded with, though opposed, until half-past Eleven o'clock or until the end of a period of one and a half hours after it has been entered upon, whichever is the later—[Mr. Nicholas Baker.]
§ Question again proposed.
§ Mr. Lilley
The cost of the relief is simply the cost of tax forgone on capital gains made within the plans and on dividends paid into them. It is thus not a relief on the total amount of money put in. It only builds up over time. Often there will not be any gain that would have been taxed until the gain exceeds £5,000. In any case, most gains may not have been realised until later, so it is a long-term cost in terms of tax forgone. It builds up over time—hence the negligible figure.
§ Mr. Chris Smith
Am I right in thinking, therefore, that a cost is anticipated to the Exchequer in, say, three or four years but not in 12 months' time? If so, has the Treasury any idea of the likely cost?
§ Mr. Lilley
The hon. Gentleman is correct—the cost will build up in future. It may still be fairly small in the short time scale. I will let him know whether we have any estimates about how rapidly it will build up and whether I can give him any figures in our planning timetable.
The hon. Gentleman said that the relief has benefited larger investors, particularly those repackaging portfolios, and not the new investor. Last year the average amount committed to PEPs was only £3,000, whereas people could have invested £4,800 in a new plan or, because of a change in the regulations during the year, a total of £7,800. That suggests that the PEP is not just being used by people transferring a slug of a large existing portfolio each year into a plan to take advantage of the relief. Quite a few people are putting aside the amount that they can afford to save.
As for new investors, we have no direct information on what proportion of those taking out plans had not previously invested in equities. The hon. Gentleman referred to the survey by the Institute of Fiscal Studies, which suggested that one third of new plans were taken up by people who had had no equities before. If so, that is very encouraging news, especially as that would not include those who had privatised shares before. If we manage to increase by one third the total number of shareholders through the battery of measures that we are introducing, that will be a major achievement which will be 980 welcomed by my hon. Friends. We have already trebled the number of shareholders. A further increase would be a major gain.
The suggestion was made that PEPs get a bigger tax advantage than any other form of saving. That is not the case. The tax relief on PEPs is arithmetically equivalent to relief given on pensions. Indeed, the hon. Member for Berwick-upon-Tweed (Mr. Beith) proposed that, since the relief is no great advantage to those who have unused capital gains tax relief of £5,000, who are not making similar gains within PEPs, or who for other reasons are not getting a tax advantage, we should introduce front-ended relief.
I assure the hon. Member that front-ended relief, so long as one pays tax when one takes out money from a PEP, is arithmetically equivalent to relief given on PEPs but involves more regulatory problems because people try to use it as a tax avoidance device. Therefore, he would not achieve anything by going down that route that we do not achieve by the PEPs scheme. I think that that is the case —I am always hesitant at this time of night, and it took me a long time to convince a lot of people that that was true.
The hon. Member for Islington, South and Finsbury contrasted the present PEPs rules with those for friendly societies. I agree that we have uprated the special tax privilege for friendly societies by only 50 per cent., to £150, but we also introduced a Green Paper stating that friendly societies will be allowed to handle PEPs, so they will be able to take full advantage of PEP relief.
§ Mr. Chris Smith
The Financial Secretary referred to the Green Paper on friendly societies. He will recall that last year, when he was Economic Secretary to the Treasury, we pressed hard for an anticipated date for the proposals contained in the Green Paper to be brought before the House. Can he give us a date now?
§ Mr. Lilley
I regret that I cannot give a specific date, but we have made progress by issuing a Green Paper and the matter is moving in the direction that the hon. Gentleman would wish. The nods and winks that I gave then about the timing of such a procedure are still valid. My hon. Friend the Economic Secretary has fingertip control of the whole legislative procedure.
My predecessor was quoted as saying that it was only right that most of the PEPs relief should be available for investment in United Kingdom equities. The hon. Member for Islington, South and Finsbury criticised the reduction in the requirement for qualifying investment trusts from 75 per cent. to 50 per cent. In practice, investment trusts will have to maintain more than 50 per cent. on average to avoid falling below the amount when they make changes in their portfolios. Therefore, the requirement for investment to be mainly in United Kingdom equities will in effect be maintained, and the average will be above 50 per cent.
Investment trusts told us that they found it difficult to be sure of meeting the 75 per cent. limit which previously obtained. Most trusts are not tailored exclusively for PEPs. Therefore, they have to have portfolios with attractions for people who do not have PEPs. A number of trusts run saving schemes which are desirable and can be matched with PEPs—people put a regular amount of money into a PEP. It is desirable to harness an investment trust behind a PEP. Therefore, we thought it right on balance to make such changes.
981 The hon. Member for Berwick-upon-Tweed asked whether we were being sufficiently Euro-fanatical and whether we were meeting the Madrid criteria. That is a de minimis matter. The absolute bar and restrictions which operate in certain areas of the investment and savings industry on the continent constitute a more substantial restriction on the flow of funds. The noble Lord Joseph made the same point in his article, to which the hon. Member for Berwick-upon-Tweed referred.
I hope that I have covered most of the issues raised in the debate. I shall not detain the House longer at this late hour.
§ Mr. Bermingham
Like the beggar who comes to the club of professionals and asks the question to which he never gets an answer, I wonder whether the Financial Secretary will be kind enough to answer a simple question. Are he and the Government committed to retaining or to getting rid of capital gains tax?
§ Mr. Lilley
I apologise to the hon. Gentleman for not responding to the question that he elaborated in his speech. We have no current plans to get rid of capital gains tax. We reformed it in the 1988 Budget, aligning the capital gains tax rate with income tax. For the majority of people, that had the effect of reducing the capital gains tax rate that they faced—previously it was 30 per cent. and now it is 25 per cent. It may come as a surprise to hon. Members to learn that the majority of people in Britain pay tax at the basic rate—rather than at the higher rate, as most hon. Members do—but that is the case and the majority of those paying capital gains tax are basic rate payers, not higher rate payers. The higher rate payers pay large amounts of capital gains tax. The Treasury is happy to relieve them of those sums and has good use to put them to.
§ Question put and negatived.