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3.40 pm

I start with the economic background.

Since 1980, inflation has fallen steadily from a peak of over 20 per cent. For last year as a whole it was down to about 4½ per cent., the lowest figure since the 1960s. And with lower inflation have come lower interest rates.

This in turn has led to an economic recovery whose underlying strength is now beyond dispute. Whereas in some previous cycles recovery has come from a self-defeating stimulus to monetary demand, this time it has sprung from sound finance and honest money. Lower inflation and lower interest rates benefit industry, business and consumer confidence alike.

Across the economy, total money incomes grew in 1983 by about 8 per cent., of which 3 per cent. represented real growth in output. Although there is still room for improvement, this is a very much healthier division between inflation and real growth than the nation experienced in the 1970s. Output in the second half of 1983 is now reckoned to have exceeded the previous peak, before the world recession set in, and is still rising strongly.

Productivity, too, has continued to improve rapidly. Just as over the past year many have wrongly predicted an end to the recovery, so some have tried to dismiss the sharp rise in productivity as a flash in the pan. Yet in 1983 manufacturing productivity grew by 6 per cent. for the second year in succession. Unit labour costs across the whole economy are likely to show the smallest annual increase since the 1960s. This has allowed a welcome and necessary recovery in real levels of profitability.

Higher profits lead to more jobs. The number of people in work increased by about 80,000 between March and September last year. The loss of jobs in manufacturing has slowed down sharply, while jobs in services increased by getting on for 200,000 in the first nine months of last year.

But further progress is needed. Although our unit wage costs in manufacturing rose by under 3 per cent. last year, our three biggest competitors, the United States, Japan and Germany, did better. The employment prospect would be significantly improved if a bigger contribution to improved cost performance were to come from lower pay rises.

Demand, output, profits and employment all rose last year. Home demand has played the major part in the recovery so far. Lower inflation reduced people's need to save, and real incomes rose. Personal consumption increased by over 3½ per cent. compared with 1982. Fixed investment rose rather faster than consumption, with investment in housing and services particularly strong.

Our rate of economic growth last year was the highest in the European Community. For much of 1983 our export performance was affected by weak demand in many of our overseas markets, while imports rose slightly faster than home demand. But by the end of last year world trade was clearly moving ahead again, and in the three months to January manufacturing exports increased very substantially. The balance of payments on current account last year is estimated to have been in surplus by about £2 billion.

Our critics have been confounded by this combination of economic recovery and low inflation. Even the pessimists have been forced to acknowledge the durability of the recovery. It is set to continue throughout this year at an annual rate of 3 per cent. Inflation is expected to remain low, edging back down to 4½ per cent. by the end of this year. With rising incomes and low inflation, consumption will continue to grow. And, encouraged by improved profitability and better long-term growth prospects, investment is expected to rise by a good 6 per cent. this year.

Looking abroad, too, economic prospects are more favourable than they have been for some time. Output in the United States should continue to grow strongly this year, and recovery is spreading to the rest of the world.

Of course, there are inevitable risks and uncertainties. The size and continued growth of the United States budget deficit is a cause of widespread concern and keeps interest rates high, exacerbating the problems of the debtor countries. And the need to finance the United States deficit by inflows of foreign capital has kept the dollar artificially high and led to a massive and growing trade deficit, greatly increasing the pressures for protectionism within the United States.

A second potential risk is disruption in the oil market. The United Kingdom and, indeed, the whole world economy inevitably remain vulnerable to any major disturbances in this market.

But despite these risks there is a growing sense throughout the industrialised world that the recovery this time is one which can be sustained. The essential requirement is the continued pursuit of prudent monetary and fiscal policies.

For the United Kingdom, the medium-term financial strategy has been the cornerstone of such policies. It will continue to play that role—to provide a framework and discipline for Government and to set out clearly, to industry and the financial markets, the guidelines of policy. Too often in the past Governments have abandoned financial discipline whenever the going got rough, and staggered from one short-term policy expedient to another. The temptation to accommodate inflationary pressure proved irresistible, and the nation's longer-term economic performance was progressively undermined.

The medium-term financial strategy was designed to remedy this, by imposing a disciplined financial framework which would also ensure consistency between monetary and fiscal policies, and a proper balance in the economy. It is so designed to ensure that the more inflation and inflationary expectations come down, the more room is available for output and employment to grow.

People now know that the Government intend to stick to their medium-term objectives. They understand that the faster inflation comes down, the faster output and employment are likely to recover. The increasing degree of realism and flexibility in the economy owes much to the pursuit of firm and consistent policies within the MTFS framework.

Originally the MTFS covered four years. In this first Budget of a new Parliament it is appropriate to carry it forward for five years. So the MTFS published today in the Financial Statement and Budget Report—the Red Book—shows a continuing downward path for the monetary target ranges over the next five years and a path for public borrowing consistent with that reduction. It takes full account of important influences such as the pattern of North sea oil revenues and the level of asset sales arising from the privatisation programme.

For the two final years of the new MTFS, which lie beyond the period covered in last year's public expenditure survey and last month's White Paper, the Government have not yet made firm plans for public spending. But the MTFS assumption—and at present it is no more than an assumption—is that the level of public spending in 1987–88 and 1988–89 will be the same in real terms as that currently planned for 1986–87.

The precise figures set out in the MTFS are not of course a rigid framework, lacking all flexibility. As in the past, there may need to be adjustments to take account of changing circumstances. But no changes will be made that might jeopardise the consistent pursuit of the Government's objectives.

Monetary policy will continue to play a central role. Further reductions in monetary growth are needed to achieve still lower inflation.

Over the 12 months to mid-February the growth of sterling M3 has been well within the 7 to 11 per cent. target range, with M1 at the top of the range and PSL2 a little above it. While in the early months of the target period most measures of money showed signs of accelerating, since the summer growth in all the target aggregates has been comfortably within the range. And nominal interest rates have continued to decline in line with falling inflation.

Other evidence confirms that monetary conditions are satisfactory. The effective exchange rate has remained fairly stable, despite the international uncertainties which I have described.

If monetary policy is to stay on track, its practical implementation must adapt to changes in the financial system and in the significance of different measures of money. There is of course nothing new in this. Over the years we have more than once altered the target ranges and aggregates to take account of such changes. But the thrust of the strategy has been maintained.

One important development has been the decision to give a more explicit role to the narrow measures of money. Sterling M3 and the other broad aggregates give a good indication of the growth of liquidity. But a large proportion of this money is in reality a form of savings, invested for the interest it can earn. In defining policy, it is therefore helpful also to make specific reference to measures of money which relate more narrowly to balances held for current spending.

It was for this reason that M1 was introduced as a target aggregate, but it has not proved entirely satisfactory for that purpose. With the rapid growth of interest-bearing sight deposits, M1 has become an increasingly poor measure of money held to finance current spending. The signs are that this will continue.

Other measures of narrow money have not been distorted to the same extent. In particular, MO, which consists mainly of currency, is likely to be a better indicator of financial conditions than Ml. There is also the new aggregate M2, which was specifically devised to provide a comprehensive measure of transactions balances. This may also be a useful guide but, being new, still needs to be interpreted with particular care.

In the past two years, it has been possible to set a single target range for both broad and narrow measures of money. But this will not normally be the case; for narrow monetary aggregates tend in the long run to grow more slowly than broader measures. Thus, this year's Red Book sets out two separate—though overlapping—ranges.

The target range for broad money will continue to apply to sterling M3 and for the coming year will be set at 6 to 10 per cent., as indicated in last year's MTFS. The target range for narrow money will apply to MO and for next year will be set at 4 to 8 per cent. [Interruption.] Opposition Members ought to sit quiet. They have a lot to learn.

To avoid any possible misunderstanding, let me stress that the use of MO as a target aggregate will not involve any change in methods of monetary control.

The two target aggregates will have equal importance in the conduct of policy. And the authorities will continue to take into account other measures of money, especially M2 and PSL2, which include building society liabilities, as well as wider evidence of financial conditions, including the exchange rate. As in the past, monetary conditions will be kept under control by an appropriate combination of funding and operations in the money market.

So far as funding is concerned, the public sector's borrowing requirement, as I shall shortly explain, will be significantly lower in the coming year. In financing it, the role of national savings will remain important. This year's national savings target of £3 billion is likely to be achieved: the target for the coming year will again be £3 billion.

Precise monetary targets for the later years will be decided nearer the time. But, to give a broad indication of the objectives of monetary policy, the new MTFS, like previous versions, shows monetary ranges for a number of years ahead. These ranges are consistent with a continuing downward trend in inflation: they demonstrate the Government's intention to make further progress towards stable prices.

I turn now to public borrowing. Just as the classical formula for financial discipline—the gold standard and the balanced budget—had both a monetary and a fiscal component, so, too, does the medium-term financial strategy.

The MTFS has always envisaged that the public sector borrowing requirement would fall as a percentage of gross domestic product over the medium term. By 1981–82 we had brought it down to 3·5 per cent. of GDP.

Since then, however, there has been little further fall. The latest estimate of the PSBR for the current year, 1983–84, remains what it was in November—around £10 billion, equivalent to 3·25 per cent. of GDP. This is significantly above what was intended at the time of last year's Budget and would have been higher still had it not been for the July measures.

We now need a further substantial reduction in borrowing in order to help bring interest rates down further as monetary growth slows down. Sterling interest rates are, of course, also influenced by dollar interest rates; but that makes it all the more important to curb domestic pressures. In contrast to virtually the whole of the post-war period, United Kingdom three-month and long-term rates are now lower than American rates. As long as American rates remain near their current level, it is highly desirable that this advantage be maintained.

The higher level of asset sales we are planning as the privatisation programme gathers pace is a further reason for reducing the PSBR significantly in the coming year. Asset sales reduce the Government's need to borrow. But their effect on interest rates may be less than the effect of most other reductions in Government spending programmes.

Last year's MTFS showed an illustrative PSBR for 1984–85 of 2·5 per cent. of GDP, equivalent to around £8 billion. But I believe that it is possible, and indeed prudent, to aim for a somewhat lower figure, I am therefore providing for a PSBR next year of 2·25 per cent. of GDP, or £7·25 billion.

The House will recall that in November I warned that on conventional assumptions, including the 1983 Red Book's PSBR figure of £8 billion for next year, I might

have to increase taxes slightly in the Budget. I am glad to report that the latest, and more buoyant, forecasts of tax revenue in the coming year have improved the picture. A PSBR of £7·25 billion will require no overall net increase in taxation.

Moreover, while the measures I shall shortly announce will, after indexation, be broadly neutral in their effects on revenue in 1984–85, they will reduce taxation in 1985–86 by well over £1·75 billion. And the MTFS published today shows that there should be room for further tax cuts not only in 1985–86 but throughout the remainder of this Parliament, provided that we stick firmly to our published plans for public expenditure to 1986–87 and maintain an equally firm control of public spending thereafter.

The public expenditure White Paper setting out our spending plans for the next three years was approved by the House last week. Today I want to consider the important issue of Government spending in a rather wider perspective.

For far too long, public spending has grown faster than the economy as a whole. As a result, the tax burden has steadily increased and income tax has extended steadily lower down the income scale.

We have seen a massive enlargement in the role of the state, at the expense of the individual, and a corresponding increase in the dead weight of taxation holding back our economic progress as a nation.

This process has to stop. But it has arisen because much public spending is directed to eminently desirable ends. This raises difficult issues which deserve the widest possible consideration and debate.

The Government are therefore publishing today, in addition to the customary Budget documents, a Green Paper on the prospects for public spending and taxation over the next 10 years. It examines past trends, discusses the pressures for still higher spending, and examines the rewards for the individual and the benefits for the economy if these pressures can be contained.

The Green Paper concludes that, without firm control over public spending, there can be no prospect of bringing the burden of tax back to more reasonable levels. On the assumptions made in the Green Paper, the burden of taxation will be reduced to the levels of the early 1970s only if public expenditure is kept broadly stable in real terms over the next 10 years.

The Government believe that the issues discussed in the Green Paper merit the attention of the House and the country.

In contrast to previous years, I have no package of public expenditure measures to announce in this Budget. The White Paper plans stand.

I can, however, make one announcement, which I think the House will welcome. Within the published plans the Government have been able to provide the National Heritage Memorial Fund with additional resources which will enable it, among other things, to secure the future of Calke abbey. My right hon. Friend the Secretary of State for the Environment will be announcing the details later today.

The House will recall that proposals for the new rates of social security benefit to come into force in November are not now made at the time of the Budget. Following last year's legislation to return to the historic method of uprating, price protection is measured by reference to the retail price index for May. My right hon. Friend the Secretary of State for Social Services will be announcing the new rates of social security benefits, including child benefit, when the May RPI is known.

Before leaving Government spending, I should add a word on public sector manpower. At the beginning of the last Parliament, the Government set themselves the target of reducing the size of the Civil Service from 732,000 in April 1979 to 630,000 by April of this year. That target will be achieved. We have now set ourselves the further target of 593,000 by April 1988. I am confident that a smaller Civil Service will continue to improve its efficiency. The tax changes that I shall be announcing today will reduce manpower requirements by at least 1,000 in my own Departments, which will help towards meeting the 1988 target.

I indicated at the outset that this will be a radical, tax-reforming Budget. It will also significantly reduce the overall burden of tax over the next two years taken together. And I hope to have scope for further reductions in future Budgets.

My proposals for reform are guided by two basic principles: first, the need to make changes that will improve our economic performance over the longer term; second, the desire to make life a little simpler for the taxpayer.

But I am well aware that the tax reformer's path is a stony one. Any change in the system is bound, at least in the short term, to bring benefits to some and disadvantages to others. And the disapproval of the latter group tends to be rather more audible than the murmurings of satisfaction from the former.

Some commentators have suggested that our entire income-based tax system should be replaced with an expenditure-based system. Even if a root-and-branch change of this kind were desirable, it would, I believe, be wholly impractical and unrealistic.

But I do not believe we can afford to opt for the quiet life and do nothing. So I have chosen the middle way: to introduce reforms, some of them far-reaching, within the framework of our existing income-based system. I shall also be proposing transitional arrangements where I believe it fair and appropriate to do so.

The changes I shall be proposing today fall into three broad categories. These are the taxation of savings and investment, business taxation, and the taxation of personal income and spending.

First, the taxation of savings and investment. The proposals I am about to make should improve the direction and quality of both. And they will contribute further to the creation of a property-owning and share-owning democracy, in which more decisions are made by individuals rather than by institutions.

I start with stamp duty. This was doubled from its longstanding 1 per cent. by the post-war Labour Government in 1947, reduced by the Conservative Government in 1963, and once again doubled to 2 per cent. by Labour in the first Budget presented by the right hon. Member for Leeds, East (Mr. Healey) in 1974. I am sorry that he is not in his place today. At its present level it is an impediment to mobility and incompatible with the forces of competition now at work in the City, following the withdrawal of the Stock Exchange case from the Restrictive Practices Court.

I therefore propose to halve the rate of stamp duty to 1 per cent. The new rate will apply straight away to Stock Exchange deals. It will also apply from today to other transactions where documents are stamped on or after 20 March.

For the home buyer, the new flat rate 1 per cent. stamp duty will start at £30,000. Below this level no duty will be payable. As a result of this £5,000 increase in the threshold, 90 per cent. of first-time home buyers will not have to pay stamp duty at all.

Reducing the rate of duty on share transfers will remove an important disincentive to investment in equities and increase the international competitiveness of our stock market. It should also help British companies to raise equity finance.

In addition, I have four proposals to encourage the issue of corporate bonds. I shall go ahead with the new arrangements for deep discount stock and the reliefs for companies issuing Eurobonds, and for convertible loan stock, which were announced but not enacted last year. And I propose to exempt from capital gains tax most corporate fixed interest securities provided they are held for more than a year. As such securities are already exempt from stamp duty, this means that the tax concessions for private sector borrowing in the corporate bond market will now be virtually the same as for Government borrowing in the gilt-edged market.

The reductions in stamp duty will cost £450 million in 1984–85, of which £160 million is the cost of the relief on share transfers and £290 million the cost of the relief on transfers of houses and other buildings and land.

Next, life assurance. The main effect of life assurance premium relief today is unduly to favour institutional rather than direct investment. It has also spawned a multiplicity of well-advertised tax management schemes and no fewer than 50 pages of legislation attempting to deal with its abuse. I therefore propose to withdraw the relief on all new contracts made after today. I stress that this change will apply only to new, or newly enhanced, policies, taken out after today. Existing policies will not be affected at all. The change is estimated to yield about £90 million in 1984–85.

I am also proposing to curtail the special—but unfortunately widely abused—privileges for what are known as "tax exempt" friendly societies, and bring them into line with the normal rules for friendly societies doing "mixed" business. However, the limits within which in future all friendly societies will be able to write assurance on a tax exempt basis will be increased from £500 to £750.

I have also reviewed the tax treatment of direct personal investment. The investment income surcharge is an unfair and anomalous tax on savings and on the rewards of successful enterprise. It hits the small business man who reaches retirement without the cushion of a company pension scheme and impedes the creation of farm tenancies. In the vast majority of cases it is a tax on savings made out of hard-earned and fully-taxed income. More than half of those who pay the investment income surcharge are over 65, and of these half would otherwise by liable to tax at only the basic rate.

I have therefore decided that the investment income surcharge should be abolished. The cost in 1984–85 will by some £25 million, building up to around £350 million in a full year.

Finally, I propose to draw more closely together the tax treatment of depositors in banks and building societies. These institutions compete in the same market for personal deposits. I believe that they should be able to do so on more equal terms as far as tax is concerned. One source of unequal treatment has already been removed, with the recent change made on legal advice in the tax treatment of building societies' profits from gilt-edged securities. They are now treated in the same way as those of the banks have always been.

But the major source of unequal treatment, against which the banks in particular have frquently complained, is the special arrangement for interest paid by building societies. The societies pay tax at a special rate—the "composite rate"—on the interest paid to the depositor, who receives credit for income tax at the full basic rate.

This system, which has worked well for the past 90 years, has both an advantage and a disadvantage. The disadvantage is that a minority of depositors, who are below the income tax threshold, still pay tax at the composite rate. It has not, however, stopped many of them from using building societies because of the competitive rates these have offered. The advantage of the scheme is its extreme simplicity, particularly for the taxpayer; most taxpayers are spared the bother of paying tax on interest through PAYE or individual assessment, while the Revenue is spared the need to recruit up to 2,000 extra staff to collect the tax due on interest paid without deduction.

In common with my predecessors of all parties over the past 90 years, I am satisfied that the advantage of the composite rate arrangement outweighs the disadvantage. It follows that equal treatment of building societies and banks should be achieved, not by removing the composite rate from the societies but by extending it to the banks and other licensed deposit takers.

Non-taxpayers will still continue to be able to receive interest gross, should they wish to do so, by putting their money into appropriate national savings facilities. But the purpose of the move is not, of course, to attract savings into Government hands: as I have already announced, next year's target for national savings will be the same as this year's and last year's; and the total Government appetite for savings, which is measured by the size of the public sector borrowing requirement, is being significantly reduced.

The true purpose of the move is simple: fairer competition and simplicity itself. The great majority of individual bank customers will, when it comes to tax, be able to forget about bank interest altogether, for all the tax due on it will already have been paid. And it will be easier for people to compare the terms offered for their savings by banks and building societies.

The purpose of the change is not to raise additional revenue. The composite rate arrangement is designed to collect no more tax than would be due at the basic rate from all depositors under existing arrangements.

However, the Inland Revenue will be able to make staff savings of up to 1,000 civil servants. Moreover, this figure takes no account of the substantial numbers of additional Inland Revenue staff who would have been required to operate the present system as the trend towards the payment of interest on current accounts develops.

Accordingly, I propose to extend the composite rate arrangements to interest received by United Kingdom-resident individuals from banks and other licensed deposit takers with effect from 1985–86. The composite rate will not apply either to non-residents or to the corporate sector. Arrangements will also be made to exclude from the scheme certificates of deposit and time deposits of £50,000 or more.

Taken together, the major proposals I have just announced on stamp duty, life assurance premium relief, the investment income surcharge, and the composite rate, coupled with other minor proposals, will provide a simpler and more straightforward tax system for savings and investment. They will remove biases which have discouraged the individual saver from investing directly in industry. They will reinforce the Government's policy of encouraging competition in the financial sector, as in the economy as a whole. And they are part of a package of measures designed to enable interest rates to fall and reduce the cost of borrowing.

I now turn to business taxation. Here the Government have two responsibilities towards British business and industry. The first is to ensure that they do not have to bear an excessive burden of taxation. The second is to ensure that, given a particular burden, it is structured in the way that does least damage to the nation's economic performance.

The measures that I am announcing today will, taking the next two years together, result in a substantial reduction in the burden of taxation on British business. And, in addition, I shall be proposing a far-reaching reform of company taxation.

Responses to the corporation tax Green Paper in 1982 showed a strong general desire to retain the imputation system. I accept that. But other changes are needed.

The current rates of corporation tax are far too high, penalising profit and success, and blunting the cutting edge of enterprise. They are the product of too many special reliefs, indiscriminately applied and of diminishing relevance to the conditions of today. Some of these reliefs reflect economic priorities or circumstances which have long vanished, and now serve only to distort both investment decisions and choices about finance. Others were introduced to meet short-term pressures, notably the upward surge of inflation.

With inflation down to today's low levels, this is clearly the time to take a fresh look. And with unemployment as high as it is today, it is particularly difficult to justify a tax system which encourages low-yielding or even loss-making investment at the expense of jobs.

My purpose, therefore, is to phase out some unnecessary reliefs in order to bring about, over time, a markedly lower rate of tax on company profits.

First, capital allowances. Over virtually the whole of the post-war period there have been incentives for investment in both plant and machinery and industrial, although not commercial, buildings. But there is little evidence that these incentives have strengthened the economy or improved the quality of investment. Indeed, quite the contrary: the evidence suggests that businesses have invested substantially in assets yielding a lower rate of return than the investments made by our principal competitors. Too much of British investment has been made because the tax allowances make it look profitable rather than because it would be truly productive. We need investment decisions based on future market assessments, not future tax assessments.

I propose to restructure the capital allowances in three annual stages. In the case of plant and machinery, and assets whose allowances are linked with them, the first year allowance will be reduced from 100 per cent. to 75 per cent. for all such expenditure incurred after today, and to 50 per cent. for expenditure incurred after 31 March next year. After 31 March 1986 there will be no first year allowances, and all expenditure on plant and machinery will qualify for annual allowances on a 25 per cent. reducing balance basis.

In addition, from next year annual allowances will be given as soon as the expenditure is incurred and not, as they are today, when the asset comes into use. This will bring forward the entitlement to annual allowances for those assets, such as ships and oil rigs, for which some payment is normally made well before they are brought into use.

For industrial buildings, I propose that the initial allowance should fall from 75 per cent. to 50 per cent. from tonight, and be further reduced to 25 per cent. from 31 March next year. After 31 March 1986 the initial allowance will be abolished, and expenditure will be written off on an annual 4 per cent. straight line basis.

When these changes have all taken place, tax allowances for both plant and machinery and industrial buildings will still on average be rather more generous than would be provided by a strict system of commercial depreciation.

The changes in the rates of allowances will not apply to payments under binding contracts entered into before midnight tonight, provided that the expenditure is incurred within the next three years.

There will be transitional tax arrangements for certain investment projects in the development areas and special development areas. When a project in those areas has had an offer of Industry Act selective financial assistance and also attracts regional development grants, the existing capital allowances will continue to apply to the expenditure to which the selective assistance is related. These arrangements will cover projects for which offers have already been made between 1 April 1980 and today. Similar arrangements for regional development grants were, of course, announced by my right hon. Friend the Secretary of State for Trade and Industry in his White Paper last December.

Over the same period to 31 March 1986 most other capital allowances will be brought into line with the main changes which I have announced. The Inland Revenue will be issuing a press notice tonight giving full details of these proposals.

Next, stock relief. As the House will recall, this was introduced by the last Labour Government as a form of emergency help to businesses facing the ravages of high inflation. Those days are past; and the relief is no longer necessary. Company liquidity has improved and, above all, inflation has fallen sharply. Accordingly, I propose not to allow stock relief for increases in prices after this month.

The changes that I have just announced, in capital allowances and stock relief, enable me to embark on a major programme of progressive reductions in the main rate of corporation tax. For profits earned in the year just ending, on which tax is generally payable in 1984–85, the rate will be cut from 52 per cent. to 50 per cent. For profits earned in 1984–85 the rate will be further cut to 45 per cent. Looking further ahead, to profits earned in 1985–86, the rate will go down to 40 per cent.; and for profits earned in 1986–87 the main rate of corporation tax will be 35 per cent.—no fewer than 17 percentage points below the current rate.

All these rates for the years ahead will be included in this year's Finance Bill; and when these changes are complete our rates of capital allowances in this country for the generality of plant and machinery will be comparable with those in most other countries, while the rate of tax on profits will be significantly lower.

The substantial reduction in the rate of corporation tax will bring a further benefit. Our imputation system allows a company to offset in full all interest paid. But only a partial offset for dividends is allowed. Companies thus have a clear incentive to finance themselves through borrowing and in particular bank borrowing rather than by raising equity capital. The closer the corporation tax rate comes to the basic rate of income tax, the smaller this undesirable distortion becomes.

Of course, the majority of companies are not liable to pay the main rate of corporation tax at all. For them it is the small companies' rate, at present 38 per cent., which applies. I propose to reduce this rate forthwith to 30 per cent. for profits earned in 1983–84 and thereafter. A tax regime far small companies which is already generous by international standards will thus become markedly more generous.

The corporation tax measures I have just announced will cost £280 million in 1984–85. In 1985–86 the cost will be £450 million—made up of £1,100 million by way of reductions in the rates, only partially offset by a £650 million reduction in the value of the reliefs. During the transitional period as a whole, these measures should have a broadly neutral effect on the financial position of companies. But when the changes have fully worked through companies will enjoy very substantial reductions in the tax that they pay.

Business and industry can go ahead confidently on the basis of the corporation tax rates I have announced today, which set the framework of company taxation for the rest of this Parliament.

Over the next two years, these changes will cause some investment to be brought forward, to take advantage of high first-year capital allowances—a prospect made all the more alluring for business since the profits earned will be taxed at the new, lower rates. But the more important and lasting effect will be to encourage the search for investment projects with a genuinely worthwhile return and to discourage uneconomic investment.

It is doubtful whether it has ever been really sensible to subsidise capital investment irrespective of the true rate of return. But certainly, with over 3 million unemployed, it cannot make sense to subsidise capital so heavily at the expense of labour.

These changes hold out an exciting opportunity for British industry as a whole: an opportunity further to improve its profitability, and to expand, building on the recovery that is already well under way. Higher profits after tax will encourage and reward enterprise, stimulate start innovation in all its forms, and create more jobs.

I now turn to some more detailed measures affecting business.

The business expansion scheme, introduced last year as a successor to the business start-up scheme, has been widely welcomed as a highly imaginative scheme for encouraging individuals to invest in small companies. It is already proving a considerable success. It now needs time to settle down, and I have only one change to propose this year.

The scheme was designed to offer generous incentives for investment in new or expanding companies in high-risk areas. The ownership of farmland cannot be said to fall within this category, and I therefore propose that from tomorrow farming should cease to be rated as a qualifying trade under the scheme.

Next, in keeping with what I have said about removing complexity and distortions, I propose to abolish two reliefs in the personal tax field which were introduced at a time when this country suffered from excessively high rates of income tax. As we have reduced those rates, the reliefs are no longer justified.

The first is the 50 per cent. tax relief—falling after nine years to 25 per cent.—applied to the emoluments of foreign-domiciled employees working here for foreign employers. These employees are often paying much less tax here than they would either in their own country or in most other European countries. At present income tax rates, the need for this relief has clearly disappeared. Moreover, it is open to widespread abuses. It is, for example, possible for someone whose parents came here from abroad, and who has himself lived here all his life, to enjoy this relief, if he works for a foreign company. That cannot be right.

I therefore propose to withdraw the relief for all new cases from today. For existing beneficiaries, the 25 per cent. relief will cease on 6 April, and the 50 per cent. relief will be phased out over the next five years.

I also propose to withdraw the foreign earnings relief for United Kingdom residents who work at least 30 days abroad in a tax year. This relief, too, harks back to the days of penally high income tax rates. It, too, has been exploited, in particular by those who prolong their overseas visits purely in order to gain a tax advantage. I propose to withdraw the matching relief for the self-employed who spend 30 days abroad, and for those resident in the United Kingdom who have separate employments or separate trades carried on wholly abroad. The relief will be halved to 12½ per cent. in 1984–85 and removed entirely from 6 April 1985.

However, I am not making any change to the 100 per cent. deduction given for absences abroad of 365 days or more. In addition, I have authorised consultations by the Inland Revenue about a possible relaxation in the rules governing the taxation of expenses reimbursed to employees for travel overseas.

The abolition of these reliefs will eventually yield revenue savings of over £150 million and represents another useful step in the removal of complexity and distortions in the tax system.

I need to set the car benefit scales for 1985–86 for those provided with the use of a car by their employer. Despite the increases over recent years, the levels still fall short of any realistic measure of the true benefit. I am proposing an increase of 10 per cent. in both the car and car fuel scales with effect from April 1985.

Unnecessarily high rates of tax discourage enterprise and risk taking. This is true of the capital taxes, just as it is of the corporation and income taxes. It is a matter of particular concern to those involved in running unquoted family businesses. The highest rates of capital transfer tax are far too high and badly out of line with comparable rates abroad. I propose therefore, in addition to statutory indexation, to reduce the highest rate of capital transfer tax from 75 per cent. to 60 per cent. For lifetime gifts I propose to simplify the scale so that the rate is always one half of that on death.

For capital gains tax I will, as promised, bring forward in the Finance Bill proposals to double the limit for retirement relief to a figure of £100,000, backdated to April 1983. A consultative document on other possible changes in this relief is being issued next week. I am proposing no other changes this year in capital gains tax beyond the statutory indexation of the exempt amount from £5,300 to £5,600. However, the tax continues to attract criticism—not least for its complexity—and that is a matter to which I hope to return next year.

We have done much to improve the development land tax. Early in the last Parliament, my predecessor increased the threshold from £10,000 to £50,000. I now propose a further increase to £75,000, which will reduce the number of cases liable to the tax by more than one third.

Next, share options. The measures introduced in the last Parliament to improve employee involvement through profit-sharing and savings-related share options schemes have been a notable success. The number of these schemes open to all employees has increased from about 30 in 1979 to over 670 now, benefiting some half a million employees. To maintain and build on this progress I propose to increase the monthly limit on contributions to savings-related share option schemes from £50 to £100. I have also authorised the Inland Revenue to double the tax-free limits under the concession on long-service awards, and to include within these limits the gift of shares in the employee's company.

But, beyond this, I am convinced that we need to do more to attract top calibre company management and to increase the incentives and motivation of existing executives and key personnel by linking their rewards to performance. I propose therefore that, subject to certain necessary limits and conditions, share options generally be taken out of income tax altogether, leaving any gain to be charged to capital gains tax on ultimate disposal of the shares. The new rules will apply to options meeting the necessary conditions which are granted from 6 April.

I am sure that all these changes will be welcomed as measures to encourage the commitment of employees to the success of their companies and to improve the performance, competitiveness and profitability of British industry.

As the House knows, the Government are deeply concerned at the threat which the spread of unitary taxation in certain United States states has posed to the United States subsidiaries of British firms. With our European partners we are monitoring the situation closely, and await with keen interest the imminent report of United States Treasury Secretary Regan's working group. It is essential that a satisfactory solution is found and speedily implemented.

United States firms operating in this country are not, of course, taxed on a unitary basis.

I now turn to oil taxation. Last year's North sea tax changes were well received, and there has been a substantial increase in the number of development projects coming forward and a new surge in exploration. Work on no fewer than 128 offshore exploration and appraisal wells started last year—an all-time record.

The Government are already committed to a study of the economics of investment in incremental development in existing fields. This is of increasing importance, and in consultation with my right hon. Friend the Secretary of State for Energy I therefore propose to review this area with the industry, and to legislate as appropriate next year to improve the position. To prevent projects being deferred pending this review, any changes will apply to all projects which receive development consent after today.

Meanwhile, I am taking two measures to prevent an unjustified loss of tax from the North sea. First, in addition to the PRT measures on farm-outs which I announced last September, I am limiting the potential corporation tax cost of such deals. Second, I propose to repeal the provision which allows advance corporation tax to be repaid where corporation tax is reduced by PRT. I have also reviewed the case for extending last year's future field concessions to the southern basin, but have concluded that an additional incentive here is not needed.

I have just two further changes affecting business to propose, both of which will come into force on 1 October.

Ever since VAT was introduced in this country, we have treated imports differently from the way our main European Community competitors treat them. While they require VAT on imported goods to be paid in the same way as customs duties, we do not. Under our system an importer does not have to account for VAT on his imports until he makes his normal VAT return, on average some 11 weeks later. During this time the importer enjoys free credit at the taxpayer's expense. But when one British business man buys from another, he gets no such help from the taxpayer: he pays his VAT when he pays his supplier.

The European Commission has for some years now been seeking, with our full support, to get a system like ours adopted throughout the Community. But the plain fact is that in all that time the Commission has made no progress whatever.

I must tell the House that I am not prepared to put British industry at a competitive disadvantage in the home market any longer. Should our European partners at any time undergo a Damascene conversion and agree that the Commission's proposal should be accepted after all, then of course we would revert to the present system. But in the meantime I propose to move to the system used by our European competitors. We shall provide the same facilities for payment of VAT on imports as apply to customs duties. That means that most importers will be able to defer payment of VAT by, on average, one month from the date of importation. But that is all.

As I have said, this change will apply from 1 October. By bringing forward VAT receipts, it will bring in an extra £1·2 billion in 1984–85, some of which will be borne by foreign producers and manufacturers. There will of course be no increased revenue in subsequent years.

The second change I propose to make on 1 October concerns the national insurance surcharge. This tax on jobs was introduced by the Labour Government in 1977 at the rate of 2 per cent., and further increased by the right hon.

Member for Leeds, East in 1978 to 3½ per cent. During the last Parliament, this Government reduced it to 1 per cent., and we are pledged to abolish it during the lifetime of this Parliament.

Given the impact that this tax has, not only on industrial costs but also—at a time of high unemployment—on jobs, I have decided to take the opportunity of this my first Budget to fulfil that pledge. Abolition of the national insurance surcharge from October will reduce private sector employers' costs by almost £350 million in 1984–85, and over £850 million in a full year. It will thus be of continuing help to British industry. As before, the benefit will be confined to the private sector.

The House will, I am sure, agree that a Budget which substantially reduces the Government's demands on financial markets, which abolishes the national insurance surcharge and which cuts the rates and simplifies the structure of corporation tax is a Budget for jobs and for enterprise. It offers British industry an opportunity which I am confident it will seize.

Having announced major reforms of both the taxation of savings and investment and the taxation of business, I turn now to third and final area in which I propose to make progress on tax reform. This is the taxation of personal income and spending.

The broad principle was clearly set out in the manifesto on which we were first elected in 1979. This emphasised the need for a switch from taxes on earnings to taxes on spending. My predecessor made an important move in this direction in his first Budget, and the time has come to make a further move today. To reduce direct taxation by this means is important in two ways. It improves incentives and makes it more worthwhile to work, and it increases the freedom of choice of the individual.

Having regard to the representations I have received on health grounds, I therefore propose an increase in the tobacco duty which, including VAT, will put lop on the price of a packet of cigarettes, with corresponding increases for hand-rolling tobacco and cigars. This will do no more than restore the tax on tobacco to its 1965 level in real terms. These changes will take effect from midnight on Thursday. I do not, however, propose any increase in the duty on pipe tobacco.

I propose to raise most of the other excise duties broadly in line with inflation, so as to maintain their real value: not to do so would run counter to the philosophy I outlined a moment ago. But with inflation as low at it now is, the necessary increases are on the whole mercifully modest.

I propose to increase the duties on petrol and derv by amounts which, including VAT, will raise the price at the pumps by 4½p and 3½p a gallon respectively. This does no more than keep pace with inflation. The changes will take effect for oil delivered from refineries and warehouses from 6 o'clock this evening. I do not propose to increase the duty on heavy fuel oil, which is of particular importance to industrial costs.

There is one excise duty which I propose to do away with altogether. Many of those who find it hardest to make ends meet, including in particular many pensioners, use paraffin stoves to heat their homes. It is with them in mind that I propose to abolish the duty on kerosene from 6 o'clock tonight. I am sure that this will be welcomed on all sides of the House.

The various rates of vehicle excise duty will, once again, go up roughly in line with prices. Thus, the duty for cars and light vans will be increased by £5, from £85 to £90 a year. However, in the light of the reassessment by my right hon. Friend the Secretary of State for Transport of the wear and tear that various types of vehicle cause to the roads, there will be reductions in duty for the lightest lorries, offset by higher increases for some heavier lorries. All these changes in vehicle excise duty will take effect from tomorrow.

However, I propose to exempt from vehicle excise duty all recipients of the war pensioners' mobility supplement. In addition, the existing VAT relief for motor vehicles designed or adapted for use by the handicapped will be extended, and matched by a new car tax relief. The effect will be that neither VAT nor car tax will apply to family cars designed for disabled people or substantially adapted for their use.

I now come to the most difficult decision I have had to take in the excise duty field. As the House will be aware, the rules of the European Community, so far as alcoholic drinks are concerned, are designed to prevent a member state from protecting its own domestic product by imposing a significantly higher duty on competing imports. In pursuit of this, the Commission has taken a number of countries to the European Court of Justice.

In our case, the Commission contended that we were protecting beer by under-taxing it in relation to wine. We fought the case, but we lost; and I am now implementing the judgment handed down by the court last year. Accordingly, I propose to increase the duty on beer by the minimum amount needed to comply with the judgment and maintain revenue: 2p on a typical pint of beer, including VAT. At the same time, the duty on table wine will be reduced by the equivalent of about 18p a bottle, again including VAT.

We have thus complied with the court's judgment, and I am happy to be able to tell the House that the Italian Government have, after discussions, given us an undertaking that they will comply with earlier court rulings on discrimination against Scotch whisky.

As for the rest of the alcoholic drinks, cider, which increasingly competes with beer but attracts a lower duty, will go up by 3p a pint. The duties on made wine will be aligned with those on other wine, and I propose to increase the duty on sparkling wine, fortified wine and spirits by about 10p a bottle, including VAT. All these changes will take effect from midnight tonight.

These changes in excise duties will, all told, bring in some £840 million in 1984–85, some £200 million more than is required to keep pace with inflation. The addition is, of course, due to the increase in tobacco duty.

The remainder of the extra revenue I need to enable me to make a substantial switch this year from taxes on earnings to taxes on spending must come from VAT. I propose no change in the rate of VAT. Instead, I intend to broaden the base of the tax by extending the 15 per cent. rate to two areas of expenditure that have hitherto been zero rated.

First, alterations to buildings. At present repairs and maintenance are taxed, but alterations are not. The borderline between these two categories is the most confused in the whole field of VAT. I propose to end this confusion and illogicality by bringing all alterations into tax.

I recognise that this will be unwelcome news for the construction industry, but construction will of course benefit very greatly from the reduction in the rate of stamp duty which I have already announced: £290 million of the cost of that reduction in 1984–85 relates to transfers of land and buildings, and of that £290 million over 90 per cent. relates to buildings and building land. Nevertheless, to allow a reasonable time for existing commitments to be completed or adjusted, the VAT change will be deferred until 1 June.

Secondly, food. Most food is zero rated, but food served in restaurants is taxed, together with a miscellaneous range of items including ice cream, confectionery, soft drinks and crisps, which were brought into tax by the right hon. Member for Leeds, East. Takeaway food clearly competes with other forms of catering, and I therefore intend to bring into tax hot take-away food and drinks, with effect from 1 May.

The total effect of the extensions of the VAT coverage which I have proposed will be to increase the yield of the tax by £375 million in 1984–85 and by £650 million in a full year.