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FTT: The reality behind the headlines

Friday 9 December 2011 – by Shiv Mahalingham

Introducing an EU financial transaction tax as a revenue raising measure is dangerous without paying attention to the impact on capital flows, writes Shiv Mahalingham, managing director at independent tax advisers Alvarez & Marsal Taxand UK.

The proposed financial transaction tax has generated a huge amount of column inches in recent months and there is undoubtedly a surge of momentum behind it.

It now has the support of influential figures with the European Union. From a UK perspective there is a real risk that even if the UK vetoes the proposal, the eurozone will decide to implement the tax regardless of UK opposition.

So away from the headlines, what are the tax and economic issues at play?

From an economic perspective, the tax would have to apply to all the world’s major financial centres to be effective. Financial instruments and transactions can be centred in any jurisdiction provided that you get the right mix of paperwork, risk and legal obligations.

The tax would also have to apply to all financial instruments as a tax on particular financial instruments may result in transactions actually being structured to avoid the tax. Any reader who has been involved in the recognition of financial instruments under IFRS will appreciate how difficult this is to enforce.

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A tax that applies in all jurisdictions to all transactions would result in a significant administrative burden on businesses and tax administrations.

It is important to remember that the FTT or ‘Tobin Tax’ was not designed to raise tax revenue; it was intended to control short term capital flows and reign in the destabilising activities of currency speculators after the collapse of the Bretton Woods system of pegged but adjustable exchange rates (US dollar defined as having the value of 1/35 of an ounce of gold and other countries then defining currency values in terms of the US dollar).

In reality, certain currency speculation and capital movement can be stabilising and is required to ‘oil the wheels’ of international markets. As readers will appreciate, it is also basic economics that capital moving from a jurisdiction where the marginal product of capital is low to a jurisdiction where the marginal product of capital is high, will increase world output and improve efficiency in resource allocation.

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