Scottish Income Tax and Businesses: Initial Evidence Review of Tax and Competitiveness

4. Conclusions and Further Actions

The qualitative and quantitative analysis set out in this paper tend to reinforce one another:

• The literature suggests that there is very mixed evidence about passthrough of taxes to gross income; we might expect to see Income Tax divergence increase gross pay, particularly for some highly skilled or specialist workers. As much of the other recent commentary around surveys has pointed out, there are strong reasons to believe that this is not the main driver of concern about taxes for most businesses in 2025-26, with BICS showing a more persistent concern about taxation in the wake of the UK Employer NICs announcement compared to anything announced at the Scottish Budget.
• Businesses reported issues regarding recruitment and retention throughout the research presented in this paper. BICS data at the time of the IFF research identified some regional (between Scotland and the UK) and sectoral differences in attracting workers and several businesses pointed to recruitment as being more of an issue, although the latest wave shows that these concerns have eased.
• Taxpayer migration statistics and information from RTI suggests that net migration effects on the Scottish taxbase have not been large to date, although there may have been slightly more inward migration in the absence of higher taxes. It suggests that migration is primarily driven by other considerations although we will continue to work with HMRC to develop the evidence base in this space. Understanding more about where and how recruitment from outside Scotland is a particular issue for businesses will be a focus of future work.
• Higher taxes can incentivise businesses to reduce their tax liability over time. There has been no clear sign of divergence resulting in a significant change in incorporation behaviour, but qualitative research produced for this report found that some businesses have started making more use of tax relief for higher earners e.g. through salary sacrifice schemes. Behavioural responses like these were anticipated at the point of implementation and are considered as part of Income Tax revenue estimates. While they impact on tax receipts, they will not necessarily impact economic activity.

Noting the key findings set out above, Scottish Government has identified the following actions we will take to help us monitor the impacts of Scottish Income Tax policy.

#1 Further work with labour market microdata

Further work on the effect of tax on gross pay insofar as is possible with the data available. The use of pension reliefs is another area where we intend to obtain and make more data available.

Action: Scottish Government will consider further work using the ASHE and RTI microdata, and vacancy data. This will aim to compare across similar jobs and understand more comprehensively how any differences in pay have arisen and developed over time. We will also consider how to study the implications for salary sacrifice and work with HMRC to publish more information about the use of pension reliefs.

#2 Improving Survey Data

Business survey data provides an important indicator to us on the trading conditions faced by businesses across Scotland. However, available sources are currently unable to separate out the impacts of Income Tax policy on concerns regarding increasing labour costs and taxation more generally reported by businesses.

This highlights a significant gap in our ability to draw out detail on how businesses perceive the impacts of Scottish Income Tax.

Action: Scottish Government will explore options for adding questions to the Business Insights and Conditions Survey (BICS) or another survey that would enhance our understanding of the impacts of Scottish Income Tax policy.

#3 Monitoring Taxpayer Migration

Concerns regarding talent recruitment and retention related to Scottish Income Tax divergence and a possible ‘Scottish Premium’ for higher wages in Scotland are commonly raised by business representative organisations. Analysis in this report suggests that we should expect to see higher tax putting pressure on pre-tax pay in some areas, although other factors including the tight labour market in recent years are likely to influence these findings.

In the small sample group of businesses interviewed for this research, there were clear sectoral differences in response to whether Scottish Income Tax impacted on staff recruitment and retention. Businesses in sectors where wages are typically lower, such as retail and hospitality, reported being largely unaffected. Many in higher earning sectors reported significant concern that Income Tax divergence in Scotland would negatively impact on their ability to keep skilled workers in Scotland, or attract people from other parts of the UK. It should be noted that in most cases, even when concern regarding Scottish Income Tax divergence was expressed in interviews, most businesses had little evidence of this impacting on recruitment and retention.

Action: to improve our monitoring of the Scottish Income Tax base, we will work with HMRC to produce a more timely indicator of intra-UK migration of taxpayers, using RTI payroll information. This will supplement existing sources of intra-UK migration currently produced by HMRC^[47].

#4 Business Engagement

Based on surveys, concerns about taxation peaked in the wake of the latest employer NICs policy change, and interviews, employer NICs dominated discussions in business interviews conducted by IFF, and given its scale and scope, it is likely that most businesses at the time of the IFF research were more concerned over the impacts of employer NICs policy changes than the impacts of Scottish Income Tax divergence. While taxation remains a significant concern in the latest BICS, general economic uncertainty is now the most common main reason given.

However, evidence suggests that whilst Income Tax divergence may not be the largest issue facing businesses it is likely to be important for a subset of businesses, typically in higher earning sectors. Further developing our understanding of Income Tax’s sectoral impacts will be an area of research interest for Scottish Government moving forward.

Action: Scottish Government will explore these issues further with business organisations, and seek feedback on the trading conditions businesses are facing through roundtable events ahead of the Scottish Budget. The Scottish Government will also use the Tax conference as an opportunity to share latest data and analysis on developments to the tax base with stakeholders.

#5 Evaluation of the changes to Scottish Income Tax in 2023-24 and 2024-25

The Tax Strategy commits the Scottish Government to fully evaluating the recent changes to Scottish Income Tax policy once data becomes available. Outturn statistics for 2023-24 were published in July this year allowing for evaluation work to be undertaken considering how individual taxpayers responded to tax increases. While not directly related to business, evaluation of taxpayer’s responses will allow us to better consider the scale and significance of any impacts on the Scottish business base.

Action: Scottish Government will work with HMRC to scope and deliver analytical work evaluating taxpayer responses to the 2023-24 and 2024-25 changes to Scottish Income Tax policy. We aim to finalise work on 2023-24 towards the end of 2026.