Scottish Income Tax Research

5 Impact of tax policy

Effects of tax policies

Most of the businesses interviewed indicated that tax policy in general had a notable impact on their operations. On balance, however, UK-wide taxes were far more frequently referenced as a cause for concern compared to Scottish taxes, and SIT in particular was almost never discussed without prompting.

In particular, a majority of businesses cited recent changes to national insurance as having significantly increased their labour costs - often with direct implications for their ability to compete in labour markets, retain talent, and afford new investment. There was also a general consensus that national insurance increases were the most impactful change that businesses have faced in recent years.

“National insurance [has the biggest impact on the business], because it's straight on your revenue that it's a straight line cost. Was it three million or whatever it cost at the start of our financial year was like we have got a one off three million extra cost this year on the growth in national insurance… that's three million that we need to save somewhere. So straight away, that's the biggest one.” - Large business; Retail, Hospitality and Leisure (operating exclusively in Scotland)

Other taxes identified by businesses as areas of concern included business rates, inheritance tax, and stamp duty. These issues were most commonly highlighted by firms operating in sectors directly or indirectly impacted by such levies. For instance, a plumbing business reported that recent increases in stamp duty had adversely affected their operations, as this change reduced the discretionary budgets of homeowners for undertaking property improvements.

Notably, references to Scottish Income Tax were infrequent and typically only discussed after respondents were directly prompted to consider them. This suggests that, in contrast to UK-wide taxes, Scottish Income Tax is not one of the main sources of concern for most businesses that participated in this study (see further discussion below).

Awareness and understanding of Scottish Income Tax

Following from this general sense that SIT was having a minimal impact on businesses, levels of awareness of Scottish Income Tax were generally low. The majority of businesses either reported that they were not aware of the recent changes or provided vague or inaccurate descriptions of the changes when prompted. Frequently, respondents indicated that there was little reason for them to pay particularly close attention to SIT changes, as they had little demonstrable impact on their operations.

“I'm reasonably aware of it because it doesn't really affect us too much. I think if it did affect us more, I'd probably have a greater understanding of it.” - Small business; Retail, Hospitality and Leisure (operating exclusively in Scotland)

With this said (and as will be expanded upon below) there was a small subset of organisations that were keenly aware of the recent changes to SIT. This was especially the case for businesses in certain high-salary sectors, such as tech or finance, or those, as would be expected, that had significant exposure to both Scottish and English labour markets.

Further, a small subset of respondents indicated an awareness of recent changes to Scottish Income Tax that appeared likely to be influenced by theoretical concerns or pre-existing attitudes toward taxation, as opposed to reflecting any specific impacts on their business. Those expressing concerns frequently referenced issues such as potential behavioural responses (in one instance citing the “Laffer Curve”^[3]), relocating to England, or anecdotal reports of individuals leaving the industry. Conversely, a minority viewed the changes favourably, noting that increased tax revenue could be justified if allocated to support broader social initiatives, including assistance for those on lower incomes. Notably, in most of these cases the respondents did not identify any direct impacts of the SIT changes on their own business.

Perceived impacts of Scottish tax policy

Overall, recent changes to Scottish Income Tax policy have had little to no noticeable effect on most of the businesses interviewed, with notable differences in this regard across different sectors.

The retail and hospitality sectors appear to be the least impacted. This is largely attributable to the fact that most employees within these industries do not earn incomes at a level where such tax changes would be relevant or consequential.

“I don't think it [SIT] really affects this industry hugely. I'd say it's only really once you get up to the higher earnings that you're seeing a difference. So for most of our employees, they won't even know, to be honest, that there's a difference.” - Medium business; Retail, Hospitality and Leisure (operating exclusively in Scotland)

It should be noted, however, that several businesses expressed apprehension about a number of indirect impacts of the new income tax rates. These primarily related to how higher taxes might dampen demand for the goods and service that they sell by reducing the spending power of consumers in more affluent areas.

“We obviously have different income tax rates in Scotland to England. So the plumbers are not quite on the higher spectrum where they start feeling the extra tax…but a lot of folk in our area will be subject to the higher tax. So that obviously removes disposable income that could be used in store or locally or whatever - buying a new boiler, buying a new bathroom.” - Small business; Construction and Engineering; (operating exclusively in Scotland)

While only a minority of businesses expressed significant concerns about the changes in Scottish Income Tax (see below), these perspectives are noteworthy as they often come from firms in high-wage, economically important industries such as tech, finance and engineering.

Impact on ability to grow or stay competitive

A small number of businesses expressed concern that higher taxes would reduce disposable income in certain markets and ultimately make the Scottish economy less dynamic relative to similar markets in England and dampening the growth potential of Scottish businesses.

“The main impact [of SIT] would be reduced disposable income, especially for our area. So folks with a similar kind of income in our area down in England would have more disposable income than what we do in Scotland, there's a lot more folk in that kind of fifty thousand pound pay range.” - Small business; Construction and Engineering (operating exclusively in Scotland)

For similar reasons, this group also saw higher income taxes as discouraging investment, as increased living costs made it harder to attract and retain skilled workers.

“We used to generate some big companies 20, 25, 30 years ago that were wanting to come in here and invest in Scotland through the Scottish enterprise, but none of them, none of them ever come in the last 10 years or so. The ones that did come quickly run away again because the cost of living for their company and working their company just diminished very quickly because of the type of rates and the structure that the tax system had here, so it was not advantageous for any of their staff or their companies to come and work here.” - Small business; Other including Administrative Services (operating exclusively in Scotland)

This sentiment was echoed by an executive at a large law firm who reported that, while not experiencing limitations in their own business, has heard clients express reservations about investing in the Scottish economy.

“I do hear and speak to some clients that where they can decide whether they invest in creating jobs in Manchester let's say or Edinburgh, then Manchester can often seem more attractive because they have to pay people more in Scotland to get the same amount in their pocket.” - Large business; Professional, Technical and Scientific Services (operating in both Scotland and the UK)

Finally, a small number of businesses indicated that these challenges were ultimately hindering their growth prospects by driving up labour costs and reducing profits. However, many found it difficult to distinguish the specific impact of SIT changes from other factors that also raised labour costs, such as increases in national insurance or changes to minimum wage legislation.

Impact on employee satisfaction, recruitment and retention

Related to concerns about growth and competitiveness, there was a general sense among some businesses that increased SIT would make it more difficult to recruit and retain high-skilled employees.

Most commonly, this was discussed as a process of ‘brain drain’ in which young, ambitious and highly skilled sections of the Scottish workforce are seen to be increasingly unwilling to stay in Scotland due to the higher tax rates. Such concerns were especially common from businesses in higher-paying sectors such as technology and finance where workforces are particularly mobile.

“I think there's a wave coming through in the mid-20s that are looking at the 30s going, but how long can I stay in Scotland for?...It'll have an effect on millionaires leaving. It'll have an effect on 22 year olds going, I want to go hard and earn some money, but I don't want to be paying as much tax as I am up here, so I'm off.” - Small business; Technology and Digital Industries (operating in both Scotland and the UK)

These worries about keeping skilled staff often went hand in hand with frustrations over how salary increases are affected by tax brackets. Several businesses referred to the so-called ‘donut hole’ problem, where movement into a higher tax bracket offsets the benefits of a promotion or pay rise, making it harder for companies to properly reward top performers.

“I forget where the brackets are, but if they were all within 10k of that next bracket from 45 to 48 to whatever that level is there, I would have to think long and hard at what the incentive package would be. ‘Hey, guys, I want to add another two million on the business, but by the way, I can't afford to pay anymore because everybody goes up the tax bracket and that five grand really needs to be 15.’ All of a sudden I've got an increased salary bill of 50 or 60 grand and that has an impact at the same point as every other cost in the business going up.” - Small business; Technology and Digital Industries (operating in both Scotland and the UK)

Beyond this, a limited number of businesses suggested that differences in tax rates between England and Scotland might be driving recruitment challenges. For instance, an executive at a large construction company reported that their business had encountered some issues recruiting IT staff that were unwilling to move to Scotland. They speculated that, for some, this might be because of higher taxes.

“On IT specifically, when we were recruiting we were struggling to recruit the skills that we needed. We did get a few CVs from people who were in Newcastle, in London, in Bristol and they were saying I’d like to come and work for you but I’m not moving to Glasgow; I’ll do the job from my house in Bristol…People in those mobile roles might have said ‘I don't want to move to Scotland because of the higher income tax; why would I do that?’” - Large business; Construction and Engineering (operating in both Scotland and the UK)

Unsurprisingly, these challenges were more frequently reported by businesses in high-salary industries and that operated in both Scotland and the UK because employees are more aware of the differential tax rates between the two countries.

“You've got people who are aware of someone down south who does exactly the same job as them, and they're saying they're getting more in terms of net pay in their hand after tax. They're very conscious of this, saying, well, I should get more gross, so I end up with the same.” - Large business; Professional, Technical and Scientific Services (operating in both the Scotland and UK)

One way that some businesses reported addressing these challenges was by introducing alternative means of remuneration or salary sacrifice schemes. In a handful of cases, these changes were linked directly to SIT changes.

“We've got an employee benefits programme, and a lot of staff are looking at salary sacrifice. A lot of people will talk about it, take themselves below the tax threshold by using that. It’s become a very popular means, so, for example, we do the company car schemes where they can go into Tusker, they can salary sacrifice for a variety of different things, which makes it much more tax-efficient for individuals.” - Large business; Professional, Technical and Scientific Services (operating in both the Scotland and UK)

“We seek to encourage salary sacrifice a bit more and I think people have been [using it]. So when we pay bonuses etc we encourage people to think about that. When we did the private healthcare roll out, that's a taxable benefit but it can be mitigated via salary sacrifice.” - Large business; Professional, Technical and Scientific Services (operating in both the Scotland and UK)

Other businesses reported developing a variety of initiatives to improve a workplace culture and workplace enjoyment “because there’s only so far you can go with salaries”.

Finally, it is worth noting that these concerns about the recruitment and retention impacts were far from universal. In most cases, businesses reported that the recent increases in SIT had little demonstrable impact on recruitment and retention – even when they expressed concern that these changes might present changes in the abstract. One organisation, a communications agency, even reported that the increase rates of taxation actually made it easier for them to recruit insofar as higher tax rates were part of a more progressive approach to economic governance than can be found in England.

“I think what we've found is that certainly some of the people we've recruited in the last two years have made a decision to come to Scotland because they actually liked the political landscape. They liked the fact it was slightly left of centre, which is what they wanted, so if that meant paying more income tax, then that was fine. But it's never, ever an issue which is directly raised like, I would love to come and work for you, but unfortunately I'm going to be paying more income tax. It feels like that's never, ever an issue. It's never happened.” - Medium business; Professional, Technical and Scientific Services (operating in both the Scotland and UK)

Impact on business structure

Despite the foregoing concerns that businesses expressed about how changes to SIT might impact growth, competitiveness, recruitment and retention, there was little evidence that the challenges associated with SIT changes have prompted substantive changes to business structures or significantly impacted decision making. This appears to be the case even when businesses reported that increased income tax rates had translated to increased labour costs.

“We have not changed the structure of the business no, it has cost us some more in some of the salary inflationary issues, but we haven't changed the structure of the business no.” - Large business; Professional, Technical and Scientific Services (operating in both the Scotland and UK)

A small number of businesses reported implementing measures to reduce wage costs, such as shortening opening hours. One respondent also noted that SIT made Scotland appear more “high risk,” prompting the company to distribute operations across the entire UK as a way to mitigate this risk. However, in both cases, it remained unclear to what extent Scottish Income Tax—rather than other forms of taxation—was the primary driver behind these concerns.

Impact on investment decisions

Similarly to business structure, there is little evidence that changes in SIT have had a significant impact on the investment decisions of most businesses. To the extent that respondents provided any response when asked about investment, they generally raised concerns about how SIT might slow growth and hurt profit margins, thus reducing the resources available for reinvestment.

“We've got less money because we have less profit, so we try to retain more capital before we make an investment decision or a capital purchase decision.” - Small business; Finance and Insurance (operating exclusively in Scotland)

For most firms, however, changes in SIT had not had a notable impact on investment decisions.

Impact of more recent Scottish Income Tax changes compared to earlier changes

None of the businesses interviewed reported a significant difference between the two most recent changes to Scottish Income Tax. This finding is largely unsurprising given the generally limited awareness among respondents regarding recent SIT changes. As one interviewee noted, “everything else has kind of happened on top of it,” suggesting that recent SIT adjustments have not stood out amid other economic challenges.

Case studies

The following case studies illustrate examples of a business that had not been impacted by SIT, been a little affected by it, and been very affected by it.^[4]

Case Study A: Unmoved by Scottish Income Tax

This case study showcases how a long-standing business that operates in Scotland as well as the rest of the UK has been largely unaffected by Scottish Income Tax, despite facing a number of business challenges. This is an example of how other forms of tax and regulation are perceived as more impactful to a business, compared to Scottish Income Tax.

Cameron is the company secretary for a local newspaper company and commercial bookshop. It is a limited company with approximately 30 employees and operates in Scotland and the rest of the UK.

Over the past five years, Cameron’s business has weathered multiple challenges – rising energy costs, volatile raw material prices, and broader economic disruptions like Brexit and Covid-19 have squeezed margins. Difficulty recruiting skilled staff and declining sales have forced Cameron to scale back operations.

Additionally, competition has intensified – both from cheaper online printing services and strong local rivals in a limited market. Cameron said rising business rates, minimum wage hikes, and employer NI contributions have added further pressure.

Despite facing a range of business challenges, Cameron does not consider Scottish Income Tax to have contributed to any of them, nor has it directly impacted business growth, competitiveness, recruitment, salary negotiations, or investment decisions. Instead, Cameron explained that the business has been struggling to keep up with the increase to National Insurance and minimum wage.

Case Study B: How Scottish Income Tax has slightly shifted operations

This case study explores how a multi-service business in Scotland has been affected by varying challenges, where taxation plays a notable role. This case study illustrates that while Scottish Income Tax has had some impact, other tax policies have had a more direct influence of business decisions, highlighting how broader financial pressures may outweigh the effects Scottish Income Tax has on business operations.

Ewan is a partner in a small Scottish business offering plumbing, electrical, and gas services, alongside a toy shop and, until recently, a post office.

Although recruitment and retention have remained stable, seasonal demand – particularly in Summer – creates cash flow challenges across both construction and retail. Taxation has played a role in business decisions; Ewan explained that the National Insurance increases had contributed to the closure of the post office and rising costs from tax changes have been a recurring concern.

Ewan noted that Scottish Income Tax has had some impact, mainly by reducing local disposable income compared to England, which he believes affects spending on services and retail. For staff closer to the minimum wage, the effect is less pronounced, but for others, it means working more hours to achieve the same take-home pay as those in England.

While Scottish Income Tax hasn’t prompted structural changes, Ewan emphasised that other tax policies – especially NI contributions – have had a more direct financial impact.

Case Study C: How Scottish Income Tax drives business change

This case study highlights how a large professional services firm operating across Scotland and the rest of the UK has been significantly affected by Scottish Income Tax. While other cost pressures have contributed to rising business expenses, the tax differential between Scotland and England has had a notable impact. This example illustrates how tax policy can influence talent mobility, salary expectations, and investment decisions within a competitive labour market.

Fiona is a part of a large firm of chartered surveyors and architects, with just under 300 employees. The business is a traditional Scottish partnership.

Over the past five years, Fiona’s firm has faced several challenges, with recruitment and retention emerging as the most pressing. Rising costs, driven by National Insurance changes and minimum wage increases, have made it more expensive to train and develop young talent.

The labour market for qualified surveyors is exceptionally tight, forcing the business to offer higher salaries and increasingly recruit from competitors.

Where traditionally in this sector, Scottish professionals once gained experience in England before returning, Fiona noted that movement is now largely one-way out of Scotland. Staff relocate to England for lower taxes, stronger market growth, and better career prospects which all contribute to shrinking talent pool.

Scottish Income Tax has also complicated salary negotiations, Fiona reports, and has led to employees opting into salary sacrifice schemes in order to remain below the tax threshold. In addition, the rising cost of National Insurance has placed pressure on the firm to limit annual wage increases.

In response, the business has encouraged some staff to relocate to England and focused on strengthening workplace culture to support retention. Strategically, future growth is now concentrated in England in pursuit of greater stability.

Fiona expressed concern over the direction of Scottish Income Tax, arguing that increases will worsen recruitment and investment challenges, and limit opportunities for young professionals.