Fair Tax Mark? I really don’t think so…

I decided to have a bit of a look at the methodology behind the Fair Tax Mark today. I’ve only spent an hour looking at it but I have to say that it really isn’t very representative of… well… anything useful.

This will undoubtedly turn into a bit of a rant and I must stress I have not read most of the company analyses. But I found that am strangely familiar with most of the errors in the methodology…

Broadly, the methodology picks scores out of five in three categories to give an overall score out of fifteen. The three categories are:

  • country-by-country rating score
  • tax rate score
  • tax haven score

For something that describes itself as being about tax, devoting a third of the score weighting to a transparency measure seems a bit dubious. I am certain that many companies who pay a very fair rate of tax don’t provide country-by-country reporting.

Also, the tax haven score appears to be based on the existence of subsidiaries and does not appear to attempt to establish what they do and whether they actually reduce the business’s tax rate.

But it is essentially the tax rate score which I wanted to look at and that is mainly what I am discussing below.

I am very wary of Richard Murphy’s previous form on tax avoidance measures. I decided last year that his tax gap calculations were unreliable on account of the fact that he failed to use a mathematically sound average in his calculations (ie, he got the maths wrong): Tax gap corporation tax rate analysis

My first thought was that he had probably made a similar mistake with this, so I decided to have a quick check.


Sure enough, his use of weighting in calculating an average is not weighted according to magnitude of profits. Which is pretty necessary when calculating an average rate of anything against profits.

Instead he weights by according to how recent the results, with recent years being weighted more heavily. There isn’t anything wrong with this in itself, but the fatal flaw is that there is still no weighting for the magnitude of profits.

A company with lower profits will have a current tax charge that varies from the “expected rate” by more than one with higher profits.

Take the following example. A company has adjustments for tax purposes that result in an additional deduction of £1m in two consecutive years. These are due to R&D tax relief (ie not avoidance).

In year one, the profit before tax is £1.5m, and the second it is £150m.

With a tax rate of 30% (dealing with historical rates obviously), the first period shows  an effective tax rate of 10%, whilst in the second period it is 29.8%.

But in both years, the tax adjustments are exactly the same. So, some sort of weighting is required to remove distortions for size of profit when comparing or combining these two rates before you provide for other weighting.

This doesn’t happen in the Fair Tax methodology. Instead the two rates are essentially averaged with equal weighting with regards to profit. Despite the fact that profits in year one are only 1% of year two.

The method averages the difference between the expected rate and the current rate and the only weighting in the final average is based on the year. The distortions for magnitude of profits are allowed to stand.

This is highlighted by the fact that the methodology has to eliminate certain data because it would dramatically distort results. See Home Retail Group plc.

The fact that results need to be eliminated is a sign of the fundamental flaw in the methodology.

They have had to pick out data in order to make the method produce something that looks reliable. So what does that tell you? It tells you the method is unreliable.

Pretending that this is some sort of safeguard is nonsense. Basically, the maths is wrong and no safeguard can correct this fundamental flaw.

Deferred tax

Now, deferred tax is difficult to understand and I can understand the desire to not include it if it is not necessary. But it is necessary if you are proclaiming to be fair.

The decision to exclude deferred tax is highly dubious because the purpose of deferred tax is to provide for tax that isn’t liable in the accounting period in question.

Anybody deciding to eliminate this element is willingly ignoring the effect of timing differences. So if you claim capital allowances in excess of depreciation, you get a deferred tax charge, because in theory at some point in time this is going to reverse and depreciation will exceed capital allowances and there will be an increase in tax.

However, this doesn’t mean that deferred tax will even out over six years.

It isn’t restricted to capital allowances. There will be deferred tax adjustments for anything where tax legislation provides for a different treatment compared to the accounting treatment. This includes tax losses. Where losses are carried forward, reducing the tax charge, the deferred tax charge shows that an asset created in a previous year is being utilised.

So the effect of trading losses are completely ignored too: a loss in one year may result in a low current tax charge in the previous year or future years, and no account is taken of this.

But, perhaps more fundamentally, no account is taken of any tax legislation at all.

Tax legislation

Now, anybody who talks about tax avoidance should understand this:

Tax is calculated on the accounting profits as adjusted by tax legislation.

The Tax Mark’s method returns to Richard Murphy’s misguided “expectation gap” where the effects of tax legislation are completely ignored.

Murphy takes the profit from the accounts and remarkably ignores the fact that this profit is then adjusted by whatever the tax legislation decides is necessary to remove the fact that accounting profit can be manipulated in so many ways.

So he completely ignores the effect of thousands of provisions of tax legislation. Some would be matched by a deferred tax movement, some would not. This would include permanent differences for disallowed expenses and statutory reliefs which reduce the corporation tax rate (like R&D allowances, creative sector reliefs,


So what does the Fair Tax Mark say about tax avoidance? Absolutely nothing.

It does not itself consider the effects of any tax legislation, let alone the intention of Parliament in enacting it. It simply cannot say anything about something which it deliberately ignores.

But what does it say about tax? Nothing that is of any use. It summarises some numbers from the accounts, but they’re practically meaningless on their own.

As far as I can tell, the Fair Tax Mark makes no attempt to understand the information that is already available in the accounts on tax. Normally you can identify the reasons for major differences in the tax rate by actually reading the tax reconciliation as opposed to deliberately ignoring it.

Rather than making me want more tax disclosure, it makes me feel like we should have less. It appears that tax campaigners are unable to understand the tax disclosure notes already published. I have very little confidence in them understanding even more data.

Which is, I suppose, the point of boiling all this information down to a single number. It is so that people don’t need to understand all the data, they can just understand a single, simple number.

But the problem here is that this particular number is nonsense.

The maths is wrong.

The disregard of deferred tax is unfair.

The disregard of the entire tax code is simply absurd.

Fair Tax Mark? Pass me the Trade Descriptions Act please.

About Ben Saunders

I'm a Chartered Tax Adviser and a freelance writer. This is my personal blog about, well, mainly taxation. I might put other stuff in. Who knows.
This entry was posted in Ranting, Talking Tax, Tax enthusiasm. Bookmark the permalink.

17 Responses to Fair Tax Mark? I really don’t think so…

  1. The Thought Gang says:

    It’s almost as if it’s all designed to measure companies according to prejudices of one unelected, and broadly unqualified, individual.

    He includes country-by-country reporting because it’s his pet issue. He excludes bona fixed complexities of the tax system because he doesn’t understand them.

    The process is cynically designed to give the result that those designing it desire.. and that is one which validates their long-held view, and supports their case for further campaigning (and, perhaps, the funding which comes with it).

  2. Pingback: FCAblog » The lack of transparency of the Fair Tax Mark campaign

  3. Ben,

    Thanks for this thoughtful analysis and I really hope that you get a response in kind from the Fair Tax Mark, as it’s high time we had a grown-up debate on the methodology behind tax criticism. I have a couple of points.

    You say “It appears that tax campaigners are unable to understand the tax disclosure notes already published. I have very little confidence in them understanding even more data.” I think that’s over-claiming. What you have is *two* campaigners who appear not to have taken into account the notes already published in their analysis.

    Now, they may have got something wrong, or it may just be that in the trade-off between sophistication of analysis and manageability with a large sample, they’ve chosen a more simplistic position than you would like. That’s absolutely a fair point on which you can raise a critique, and on which I’d really like to hear Richard Murphy’s response. But it’s another thing to say that these campaigners are *unable* to understand.

    I notice that the Fair Tax Mark also publishes a company response, and that in the example you give (HRG) the company has chosen not to engage with Richard’s analysis, but instead to blab on about its total tax contribution. It’s like they think their corporation tax position is a lost cause. That’s hardly Richard’s fault.

    Furthermore, this is not all campaigners, this is two people. Personally (though I’m an academic now) I go pretty much straight to the tax reconciliation note when I want to understand an unexpected tax rate. At ActionAid, we organised a training event for campaigners from developing countries to analyse tax in company accounts, at which we spent three days learning from tax professionals from IBFD and elsewhere, and doing worked examples. Everyone had to bring a set of accounts that they thought might be a story, and by the end of it we concluded that in many cases there was nothing untoward going on, despite low tax payments.

    My point is that there are campaigners who do understand the detail, or who would choose a more fine-grained methodology than the Fair Tax Mark uses, and who know when they are out of their depth (as Richard kindly pointed out in his blog discussion with Judith Freedman, I have no tax qualification). Unfortunately there’s a publication bias – you never get to see the unpublished examples that campaigners reject because they decide there isn’t a story.

    • Martin, I’d like to apologise for that paragraph, it wasn’t intended in that way. It was supposed to be a bit wry, but that’s no excuse. Sorry for any offence caused to you and others.

      I hope that it is apparent, or at least it is now, that I didn’t literally mean all tax campaigners are unable to understand! And genuine thanks for making the point here, because I think the “us and them” argument is detrimental. So I’m a bit embarrassed to be the one who made it here…

      I hadn’t expected this post to receive as much attention as it has, so I really appreciate you making those points here for others to consider.

      I’d like to try and clarify what I was trying to say (ie make excuses):

      There were two points I was trying to make, I suppose. The first is simply that this is the level of frustration I feel about how some aspects of accounts are overlooked. It is honestly my emotional response to the suggestion that more data is the answer.

      On one hand we have people arguing for more data, whilst the media relies on literally two lines in the accounts (turnover and current tax charge) to decide that avoidance is afoot. It is an emotional argument but I felt it was worth trying to convey how these things feel at odds with each other.

      The second thing I had in mind was really that I was actually trying to avoid making personal remarks about individuals or groups of individuals (whilst retaining conveying frustration) so I used a wider term. Which appears to have worked out rather well by descending into the “us and them” arguments which I’ve tried to avoid previously.

      Again, thank you for your comments Martin and genuine apologies for any offence.

  4. Reblogged this on Martin Hearson and commented:
    Ben Saunders’ critique of Richard Murphy’s new Fair Tax Mark. I left a comment at the bottom, and I really hope that Ben gets a response from the Fair Tax Mark on the substance of his analysis.

  5. Pingback: Ben Saunders post on the Fair Tax mark is interesting, I hope it leads to a good debate on methodology « Martin Hearson

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  7. iain campbell says:

    I find myself agreeing with Martin and Ben. Yes the Mark is the product of a few people but, as Richard sort of complained, he’s been very active in getting tax on the public agenda but Oxford still won’t invite him although the TUC does. This is an analysis with a high profile and high media coverage.
    So I believe we have to engage with it, perhaps more in sorrow at a wasted opportunity than an academic rebuttal. There is a need for a wider public understanding of these issues and all their attendant complexity. So I would have hoped a funded piece of work could have done more. It might have considered behaviours (like Gregg’s and the pasty tax). It might have explained why the 25 were chosen. Was it market share? Was it because their market sector absorbed a significant portion of consumer spending? Was there a minimum threshold on sales or employees? All this would allow us the context.
    Again, why choose the measures used and why only corporation tax? What was the record on pay or the living wage? Why not things likely investment or financing? Also relevant to assessments of a company.
    Apart from Ben’s analysis on averages and issues like deferred tax there’s no explanation of how the scores are calculated (it is hard to see why one company gets 0 and another very similar gets 2, declaring almost all your sales are UK based gets 0, the same score as saying nothing about sales by location). Why is the bottom tier a much wider numerical range than the others? This automatically increase the number of poor companies.Compared to other TJN research the range of sources is narrow and commentators have quickly spotted explanations for things that reduce scores, such as overseas subsidiaries in tax havens that actually probably operate trading activities like a supermarket.
    But it may be too late in the day to start again. I can only hope that TJN have a look at what people are writing and give us some answers.

    • Thanks for the comments Iain. I agree with your points and think that those questions do need answering.

      I do have to say that unless the method for assessing the corporation tax rate is drastically altered to allow for the desired effects of the tax code, I can’t see that the method can be redeemed and those questions should be asked in an entirely different context.

      The focus on corporation tax is fairly unhealthy, in my opinion. As somebody who focuses on OMBs, I am very aware that businesses need to consider all taxes in conjunction. Having said that, I have never looked at the total tax contribution measure (which Martin mentions that HRG cited), so I’m not endorsing it in any way.

      But, generally, it does seem like a more reasonable approach to me.

  8. Mike Truman says:

    I do think Richard’s points are valid when countering the total tax contribution argument; it rather sets my teeth on edge when I hear companies using it as a defence. Companies supplying end users and employing a lot of staff to do so will generally pay over a lot of PAYE and VAT, companies that don’t, won’t. I’m not sure that tells us much, they are, as Richard says, just paying over the income tax, NIC and sales tax withheld from the employees/customers (employers’ NI being economically debatable).

    But Greggs were stretching the Pimblett decision to its boundaries, and probably beyond them as Subway showed. As Greggs found when they started sticking to the new rules, people actually think they are buying a hot pasty, not one that might still be warm from the oven but also might well not be. That’s why they started to offer more food kept hot with VAT added earlier this year.I don;’t see why that approach should not be taken into account when awarding a “Fair Tax Mark”. it should at least have been a “Fair Corporation Tax Mark”.

    • I don’t think the amounts are particularly relevant, but businesses naturally reduce tax to increase others.

      I say this partly in the knowledge that the Fair Tax Mark campaign are offering to provide an assessment for a fee. If an owner-managed business does that, I would question whether they could reasonably ignore other taxes, even if they accept this is primarily focused on corporation tax.

      A business paying out higher salaries will have a lower profit which will start to increase the effect of any tax adjustments on their effective current tax rate. Whereas shareholders who go the dividend route will have a higher profit and the effect of any tax adjustments will be diluted.

      The moral is, if you’re getting a Fair Tax Mark and going to avoid corporation tax, don’t pay the shareholders any salary in the period.

      This Fair Tax Mark already needs some anti-avoidance rules…. 😉

  9. Pingback: Tax Research UK » The Fair Tax Mark addresses its critics

  10. Mike Truman says:

    Just posted this on Fair Tax Mark blog’s answer to Ben’s posts above, having finally given in and started sweating the figures…

    Richard, you seem in turn to have completely missed the point of Ben’s criticism. While they all pay a flat rate of CT, the effect of a given timing difference in taxable profit reversing will not give the nil effect that it should.

    Take the specific example of HRG. Looking at the actual figures of tax under or over paid on your methodology, there is £7 million of tax overpaid for 2007 and £7 million underpaid in 2012. Since you accept that there are timing differences for tax, but expect them to reverse, your methodology should ensure that these balance out.

    Instead, because the profits are three times higher in 2007, the negative (overpayment) percentage in that year is 2.3%, whereas the positive (underpayment) percentage in 2012 is 6.7%.

    Your methodology then massively compounds the problem by allocating an arbitrary weighting of 6x to 2012 compared to 2007, giving a percentage of 40.2%. So a balancing over and underpayment which should net out actually produce a positive underpayment percentage of 37.9%, which is roughly a third of the underpayment percentage you identify. So I disagree with Ben – I do NOT believe that the weighting is in principle valid, because it contradicts your acceptance that there are timing differences, you just believe they should reverse over 6 years. On that basis, there should be no weighting, and I would be interested to know how you derived both the need for it and the rather simplistic method of calculating it.

    There are further problems with HRG, arising from the omission of 2009 noted in the report. Had it been included, the tax payment on a profit of nil would have given an overpayment percentage of minus infinity, which as Ben says just shows the methodology must be faulty. But by excluding it completely you also exclude the losses the company was entitled to carry forward, thus guaranteeing that it would show significant underpayments in future years.

    Perhaps your professor of accounting (Prem Sikka?) could come and respond in more technical detail than you have to the criticisms raised? In the meantime, for those who don’t know me, I am the editor of Taxation which featured the title “Tax Prat of the Year” for Margaret Hodge, but this is written in a personal capacity, not on behalf of my employer.

    • Mike, thanks for your comments.

      I have to say that this post was always just my first thoughts on the matter.

      I have actually changed my mind on the annual weighting as I think the next post isays. I think Mike is right in what he says above.

      Whilst I thought it seemed fair enough at first, without the deferred tax charge in place to balance the timing difference’s effects on the current year charge in the year, the arbitrary weighting is a significant factor in creating distortion.

  11. Mike Lewis says:

    Ben – thanks for kicking off a really interesting discussion. I confess I’m also a bit puzzled about the use and interaction of effective CT rates and turnover/profit margins in the methodology – I can see in theory how some forms of artificial profit-shifting might amplify the effect of a fixed capital allowance on the effective rate, but as you say it would be difficult to distinguish from ‘genuine’ low profitability.

    More broadly, though, I wonder if the whole exercise actually highlights quite usefully the possible merits of having a clearer standard for the reconciliation and the deferred tax computation in the tax note? I’ve often wondered whether a lot of unfair criticism would be made redundant by a clearer computation showing more straightforwardly how a company has got down from accounting profits to taxable profits; and from taxable profits to the current tax charge. I’m not an accountant, and don’t follow accounting standards as closely as I probably should. But it seems to me that tax notes – and particularly reconciliations – actually vary quite a lot from company to company – in terms of merged items, and the detail with which reliefs and allowances are disclosed. Likewise with the deferred tax computation. Is that fair to say?

    I understand that there are sometimes commercial sensitivities involved in disclosing reliefs; although a more detailed common standard for the tax note would at least offer a level playing field. And I’m not suggesting by any means that it would be a panacea either for unfair criticism or for spotting abusive practice. On the one hand, Rolls Royce were pretty up-front about their R&D credits and their exempt CG under the substantial shareholdings exemption, and still got in the Mail. On the other hand, a clearer reconciliation from accounting profits wouldn’t tell you anything about artificial forms of profit shifting, loss generation etc. that may artificially reduce accounting profits in the first place.

    But I’d nonetheless be very curious if accountants who read this blog might comment on whether they think there’s any mileage in a clearer tax note – and how they might think improvements should look? Or is this a dumb idea?

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