Comment: Tackling cash-in-hand by cutting VAT

By Brian Berry

Comments from Treasury minister David Gauke that it is "morally wrong" to pay trades people cash in hand have, quite rightly, raised a lot of eyebrows. The Federation of Master Builders (FMB) has consistently warned consumers against being tempted by a cheap cash deal and is calling on the government to take practical steps to reduce the size of the informal economy.

In an interview with the Telegraph earlier this month, Gauke said "getting a discount with your plumber by paying cash in hand is a big cost to revenue and means others have to pay more in tax", describing such cash-in-hand payments as "morally wrong". The comments provoked heavy criticism from some quarters.

The government was even accused of hypocrisy, particularly when some ministers including David Cameron, Nick Clegg and business secretary Vince Cable started to admit they had made cash payments to trades people in the past. Although all were keen to point out that they hadn't done so with the specific intention of avoiding tax.

The government has argued that this 'hidden economy' costs the Treasury an estimated £2 billion a year. Ministers and officials use the term 'hidden economy' to describe behaviour by businesses and workers to avoid paying tax on their income. In reality, the government doesn't actually know how much tax is being lost owing to cash-in-hand payments and told Channel 4 they don't have "a separate estimate of the tax gaps that results from people paying in cash".

Undoubtedly, the government has a duty to focus on large-scale tax avoidance to help reduce the budget deficit and not just pick out small businesses as the easy targets. However, we know from our own members that tax avoidance by some trades people causes significant damage to law-abiding businesses.

Independent research by Experian indicates the scale of the problem in the home improvement market. It estimates that around £9.3 billion of housing repair, maintenance and improvement work was undertaken in the informal economy in 2010.

It's not just legitimate businesses that suffer when others are accepting cash payments with the intention of avoiding VAT, or other tax payments. Homeowners persuaded by a cheap deal paid in cash are also too often persuaded to continue without a proper written contract or any kind of paperwork.

This means the enforcement of consumer rights is almost impossible if something goes wrong. The FMB recently commissioned a survey of 1,000 people from across the UK to help launch the latest Master Builder Year of the Awards. The survey revealed that almost half of homeowners are paying builders for the whole project in cash. In the same survey over one in ten homeowners had been left with badly done building work, and of these 76% paid for the job in cash.

Instead of debating the morals, the FMB believes the government should be offering practical support to homeowners and businesses to end the problems created by cash-in-hand payments. The government can reduce the competitive advantage of these rogue traders and help protect consumers by cutting VAT to five per cent for all home repair, maintenance and improvement work. This simple, single action would reduce the size of the informal economy.

Other European countries have reduced the rate of VAT for the home improvement market in order to tackle the informal economy and create new jobs and growth in this important economic sector. Research, commissioned by the FMB, shows that cutting VAT from 20% to five per cent for all housing repair, maintenance and improvement work would provide a total economic stimulus in the region of £1.7 billion in 2012 alone, rising to over £20 billion by 2020.

It would create 26,650 jobs in the construction sector, as well as an extra 34,400 new jobs in the wider economy in 2012. A cut to five per cent would create an extra 100,600 jobs in the UK by 2020.

According to the same research, last year's rise in the standard rate of VAT to 20% resulted in nearly 4,000 job losses in the home improvement market in 2011 alone. The recession has certainly sent many builders out of business, but there are indications that it has helped rogue traders to flourish. Last year the Office of Fair Trading logged 64,780 complaints related to the home improvement market.

At a time when weak demand in the construction industry is holding back the economic recovery, the government must be more open minded about stimulating private sector demand, particularly for the industry's hundreds of thousands of small businesses, and help ordinary homeowners at the same time. Now is the time for a targeted cut in VAT to help rescue the economy, make vital repairs more affordable and to protect consumers and legitimate businesses.

The opinions in's Comment and Analysis section are those of the author and are no reflection of the views of the website or its owners.

Brian Berry, Chief Executive at the Federation of Master Builders.