A turnover tax is a tax on investment

A tax based on turnover penalises companies that hang on to their profits ro reinvest in the business

One week it is Starbucks. The week afterwards it is Amazon. And the week after that it is Apple or Vodafone. The names in the headlines might change from time to time. But the story each time is roughly the same. A giant multinational company racks up billions in sales in the UK, but when someone gets around to examining its accounts it turns out they have paid £3.50 in corporation tax.

The rest has been spirited away via Ireland or Luxembourg to some mysterious offshore bank account never to be seen again.

One idea that has been gaining traction as a way of preventing that is a so-called “turnover tax”, which would put a floor on what companies had to pay based on their total sales.

Very big companies with massive sales would have a set minimum they had to pay to the Treasury every year. The United Kingdom Independence Party, which at times appears to be hurtling towards the anti-corporate Left faster than Russell Brand, has taken up the proposal enthusiastically. So have plenty of other tax campaigners.

But, in fact, it is a terrible idea. Why? Because a tax based on turnover is a tax on investment. It penalises the companies that hang on to their profits and invest the money in new factories, products or distribution systems. The more we punish them, the less innovation and investment there will be – and that will be bad for everyone.

There is no question that a few giant companies have been aggressively minimising their tax bills. The revelations about how Jean-Claude Juncker, president of the European Commission, allowed Luxembourg to be turned into a centre for minimising payments have highlighted how, in a world where money and goods move around the world at the touch of a few buttons, it has become harder to work out where profits are earned – and a lot easier for corporations to find ingenious ways of making sure those profits are earned in places where the tax rates are very low.

Take Google, for example. We learned last year that the search giant paid less than £12m in corporation tax despite racking up sales in the UK of £3.4bn. Apple paid only £11.4m in corporation tax in the UK, despite shipping more than £10bn worth of smart phones and tablets to British customers. Starbucks was so stung by the criticism of its minuscule payments of corporation tax that it actually volunteered to pay more.

So it is hardly surprising that proposals for different ways of taxing companies are starting to find an audience. One of the boldest, and emerging as the most popular, is the “turnover tax”.

Ken Livingstone, still a standard bearer of the Left of the Labour Party, came out in support of the idea earlier this year. He proposed it at a meeting of the party’s national executive committee, arguing that tax avoidance and evasion came to 10pc of GDP.

From the other end of the political spectrum, Ukip has ended up with the same position, promising in its latest set of pledges to “set up a Treasury Commission to design a turnover tax to ensure big businesses pay a minimum floor rate of tax as a proportion of their UK turnover”.

In fairness, there are some arguments to be made for the idea. It is fairly simple and it would also be very hard to avoid, both of which are points in favour of any tax. It would mean big businesses ended up paying their fair whack to the Treasury, simply by virtue of being big, and it would make a lot of the clever advisers who devise schemes for shuttling profits from place to place redundant overnight.

Indeed, for micro-companies the UK already operates a variant of the turnover tax. Small companies registered for VAT can opt to pay a reduced flat percentage of sales rather than go to all the trouble of working out all their receipts and expenses and claiming them back. It is a simple way of taxing companies that might struggle to pay for advice.

But is a big step to argue that very large companies should be subject to the same regime. It might sound fairer, but it would have one big drawback. It would specifically punish investment.

To see why, imagine two companies. One has huge sales, but invests relatively little, and instead shifts much of the money offshore to minimise its tax payments. A turnover tax is certainly going to hit that business, dramatically increasing its effective tax rates, assuming it can’t find any smart way to disguise where its revenues are coming from. So far, so good. The turnover tax is achieving its purpose.

Now, imagine a second company. It too has built up huge sales. But unlike the first one, it is determined to keep growing, and conquering new markets, so it reinvests the bulk of that money in its operations and, as a result, makes very little profit. Maybe it funnels profits through Luxembourg or Ireland; maybe it doesn’t. It doesn’t make much difference because it will pay very little. Corporation tax is levied on profits; if you don’t make any you don’t owe anything. Yet with a turnover tax, its payments would go up very sharply.

A turnover-based tax would punish both equally. But surely that is the last thing we want to do? Reinvesting profits is the best source of new investment, and the innovation and growth that creates.

Companies can raise capital from banks, through issuing bonds, or venture capitalists, or ask their shareholders for some cash. But over the medium term the best source of funds is their own profits.

Look at the record of any world-beating business and you will see that they have year after year ploughed a lot of what they have earned back into the business. That allows them to experiment with new products and try their luck in new markets. If you raise debt or issue shares, then you need to earn a quick payback, and will be under a lot of pressure to perform.

When you use retained profits, you can take a far more long-term view – and that can be a key ingredient to success. And yet a turnover-based tax specifically punishes such companies.

This is far from a purely hypothetical argument. The companies most regularly accused of avoiding taxes are also the most fiercely innovative. Take Amazon. It does not actually make any money. Instead it ploughs profit into building its Kindle business, or its TV unit, or designing drones to deliver to the doorstep. That is all fabulously inventive. BSkyB didn’t make any profits for years; it was too busy creating a dominant digital satellite business.

It is perfectly fair to expect companies to pay a fair share of tax. But company revenues are not the same as a person’s income. They have to invest for the future to remain competitive – and it is important that populist anger over tax strategies does not prevent that.