Devolution of financial powers to the Scottish Parliament: recent developments
This paper discusses the proposals made by the Smith Commission - in its report published in November 2014 - for further devolution of power to the Scottish Government, in relation to taxation, funding and borrowing, and the Government’s plans for their implementation.
At present there are two sources of revenue under the control of the Scottish Parliament: local taxes (council tax and business rates), in respect of its responsibilities for local government, and the power to impose a ‘Scottish Variable Rate’ (SVR) of income tax: that is, amending the basic rate of tax by up to 3p in the £.
The Scotland Act 2012 devolved three further powers: the power to set a Scottish rate of income tax (SRIT) from April 2016, and to introduce taxes on land transactions and on waste disposal from landfill, replacing the existing UK-wide taxes Stamp Duty Land Tax and Landfill Tax from April 2015. The Scottish rate is to apply to income from earnings, profits and pensions, but not to income from savings and dividends. The Act also provides powers for new taxes to be created in Scotland and for additional taxes to be devolved, subject to certain criteria.
During the Scottish referendum campaign, the main party leaders make a commitment that the Scottish Parliament should have “extensive new powers”, should Scotland remain within the Union. Following the vote on 18 September 2014 Lord Smith was appointed to lead a commission to reach cross-party agreement on what these new powers should be. Details of the Commission’s work is collated on its own site. The Commission published its report on 27 November 2014.
On tax powers the parties agreed that the Scottish Parliament should have to power to set the rates and thresholds of income tax on non-savings and non-dividend income: devolution of this power will commence on April 2017. There was also agreement that air passenger duty and aggregates levy should be fully devolved. Air passenger duty will be devolved in April 2018; a devolution date for Aggregates Levy is yet to be agreed. All other taxes should remain reserved. Receipts from all income tax paid by Scottish taxpayers on non-savings and non-dividend income would be received by the Scottish Government, as well as receipts from both air passenger duty and aggregates levy. In addition the receipts raised in Scotland by the first 10 percentage points of the standard rate of VAT would be assigned to the Scottish Government’s budget. VAT assignment will be implement in 2019/20.
The parties also agreed that “the devolution of further responsibility for taxation and public spending, including elements of the welfare system, should be accompanied by an updated fiscal framework for Scotland, consistent with the overall UK fiscal framework.” Scotland's new fiscal framework was agreed in February 2016, following negotiations at the Joint Exchequer Committee, which is made up of representatives of the UK and Scottish Governments.
One aspect of this framework is that the devolution of these tax powers, and (partial) assignment of Scottish VAT revenues, is to be accompanied by appropriate adjustments to, the block grant received from the UK Government - the Scottish Government’s largest source of revenue.
In the first year a tax is devolved an adjustment will be made to the block grant equal to the Scottish Government’s additional revenue from the tax. Adjustments to the block grant after the first year should then be indexed to reflect the dynamic nature of tax revenues and ensure that neither the UK nor Scottish Government is worse off simply from the devolution of the tax. The block grant will also be adjusted to reflect any new devolved spending powers.
Replacing some of the block grant – a relatively predictable source of revenue – with less predictable tax revenues will impart volatility to the Scottish public finances. Just how much volatility will depend on how the block grant is adjusted, but the Smith Commission suggested that the Scottish Government would receive further borrowing powers to manage the fiscal risks resulting from tax devolution.
On 22 January 2015 the Coalition Government published draft clauses of how the Commission’s Agreement could be implemented. Following the 2015 General Election, the new Conservative Government announced it would introduce legislation to “deliver in full the Smith Commission Agreement” and on 28 May published the Scotland Bill 2015/16. The Bill’s provisions in relation to tax do not present any significant changes on the draft clauses published earlier in the year.