Online retailing: when will new taxes be needed?

You’ll have to bear with me; I’m a following a train of thought here.  There’s nothing scientific about this, but there’s plenty for retailers and mandarins to think about.

I was reading a piece on The Next Web, about the rise in the US of online-only brands.  The article (which you can read here) discusses US enterprises like Dollar Shave Club and Warby Parker whose business model is built around having no bricks and mortar availability for their products.  As Everlane CEO Michael Preysman says:

We are going to shut the company down before we go to physical retail…  Traditional retail models are bloated with unnecessary costs.  Online just makes more sense: we’re national from day one, we have a single store, we don’t have to cover costs of physical inventory in stores and we don’t have to pass on a 2x markup through retailers.

This moves us on from showrooming, and into a world where the showroom has been specifically designed out of the equation.  In terms of business planning, this is a big leap forward from “omni-channel” – the message from companies like Everlane is that, while there may be multiple ways for brands to communicate with each their customers, there is only one channel through which they will make their goods available to you.

This marinaded in my mind for a little while, then we started Twittering this morning about the sad closure of a fine record shop.  Record shops have been in the advance guard for physical closure and collapse in the retail sector for many years; however few we have left, it seems as they though they keep on failing.  As Steve from Rounder Records wrote:

We are closing because we can’t make it add up any more. We are a business that has been decimated by downloads (both legal and illegal), VAT avoidance by the big online retailers, a double dip recession, & the decline of the high street. Our lease has ended and we have nowhere to go.

So, I started to think, how many properly staffed, paying-their-taxes retail businesses (or indeed retail categories), anchored in bricks and mortar and supporting a vibrant high street, have to go to the wall before HM Treasury starts to feel the pinch?

Here are some purely illustrative and not properly audited at all numbers to think about.  Let’s assume – as the British Standards Institution believes – that total retail sales in the UK are worth around £300 bn.  (That’s 300,000,000,000 in pound coins.) And, to keep it easy, let’s assume that half of those sales – excluding food, children’s clothes etc – attract VAT.

20% VAT on a gross £150 bn equals £30 bn.  That’s a lot of schools’n’hospitals.  Of course, most online retail transactions attract VAT at the appropriate rate, but some don’t – all those downloads from Luxembourg, for instance.

Right, £150 bn less VAT equals £120 bn.  Stick with the train of thought:

Business rates at, say, 4% of ex-VAT sales, will raise £4.8 bn.

Staff costs, at 10% of ex-VAT sales, will raise £2.4 bn in income tax on those wages, assuming tax is paid at a flat 20%.  (Netting out personal allowances against higher tax band payers, for the sake of argument.)

Employers’ NI on those same staff raises around another £1 bn.

And if all those retailers make 5% net profit (happy thought) ,on which they pay 20% corporation tax, that’s another £1.5 bn.

Of course, online retailers have the same cost-heads, but with fewer staff, cheaper premises etc, the tax-take from their business activity is going to be significantly smaller than from a traditional bricks and mortar retail model.

Now, I probably ought to be having this debate over a third pint on a Friday night, but somewhere in this maelstrom of lower prices for consumers and lower operating costs for online retailers (yes, I know, they have to spend much more on marketing), there’s a lower tax take.

If online becomes progressively more dominant, as this graph from The Daily Telegraph suggests:

– and as I discussed in this blog at the end of last year, at what point will the current tax regime start to feel the strain?

It rather looks as though the Exchequer will need to raise more money – either from online merchants, through some form of additional levy (which in due course would lead to price inflation); or from consumers, either through raising VAT (though this is vulnerable to corporate strategic avoidance) or by raising income tax.

The channel change is gradual, of course, but inexorable.  We won’t end up buying everything online and nothing from physical shops, but there’s a lower-tax trend.  Looking to the future, our Chancellor and his shadow could just carry on flicking each other with wet towels, but – in the absence of real economic growth (driven by eg significant job creation in other parts of the economy) – I hope there’s someone in the Treasury giving this longer-term structural change some serious thought.

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