Sept. 12 (Bloomberg) -- What's Europe's biggest tax haven? Monaco, perhaps? Andorra or Liechtenstein? No, it is the U.K.

Under an obscure piece of British tax legislation, anyone who lives in the U.K., but wasn't born there, can opt for ``non- domiciled'' tax status. That means billionaires such as Lakshmi Mittal, born in India, or Hans Rausing, born in Sweden, need only pay tax on the small amount of money they bring into the country every year, and not on their worldwide earnings.

In effect, that has made London a tax haven for everyone from Russian oil tycoons to international investment bankers.

Now that's coming under increasing attack and presenting a tricky political problem for Prime Minister Gordon Brown. The trade unions are gunning for the loophole. So are politicians from the governing Labour Party and, more surprisingly, columnists for conservative newspapers.

They have a point. It doesn't make much sense for a highly taxed country -- the top income-tax rate is 40 percent -- to exempt a small group of wealthy people. That doesn't seem fair on the native population.

The trouble is, it's too late to change it now.

London, and by extension the rest of the British economy, has become dependent on the mega-rich. It would make as much sense for Saudi Arabia to shut down its oil industry or for Seattle to attack the software business as it would for the U.K. to abolish the ``non-dom'' rule.

112,000 People

There is no denying the impact it has had, or the growing debate about its consequences. According to figures compiled by the U.K. Treasury, there were about 112,000 people claiming non- domiciled status in the year through April 2005. Although they reported a total of 9.8 billion pounds ($19.9 billion) a year in earnings, their wealth from overseas income would be much more.

That's a lot of people with a lot of money. Monaco has a population of about 32,000, Andorra has 70,000, and Liechtenstein about 34,000 people. So it is no exaggeration to describe the U.K. as Europe's biggest tax haven.

Some people aren't happy about that. In a report last week, the Trades Union Congress, which represents 7 million workers in 66 unions, argued that closing the loophole could help raise the 4 billion pounds the government needs to meet its pledge of halving child poverty by 2010.

Others agree. The Liberal Democrats, Britain's third-biggest political party, have called for stiffer rules for ``non-dom'' residents. So have Labour politicians.

Newspaper Protest

``The reputation of Britain as a tax haven and the concern being expressed by tax authorities in the United States is something that must be addressed,'' Labour Member of Parliament Jim Cousins told the House of Commons in July.

Even on the right of the political spectrum, there have been rumblings of disquiet. Readers of Charles Moore in the Daily Telegraph or Rachel Johnson in the Sunday Times would have seen attacks on the unfairness of the ``non-dom'' rule in recent months. When even the Times and the Daily Telegraph, two conservative, free-market newspapers, say people are paying too little tax, something is definitely up.

``I am not convinced that the financial-services industry is dependent on tax breaks for a handful of individuals,'' Adam Lent, the Trades Union Congress's head of economic and social affairs, said in a telephone interview. ``After all, many of them are City workers, and both they and the businesses they work for have deep roots in the U.K. Where else are they going to go?''

In a world where people and capital are increasingly mobile, and where multimillionaires are being minted by the second, the attraction of ``non-dom'' status in the U.K. will only grow.

Sleepy Monaco

Other tax havens are wacky, obscure little places: Monaco is the only one that is really livable, and even that is pretty sleepy. But London is one of the most exciting, vibrant cities in the world. It is a great place to do business. Why pay punishing taxes in Paris, Munich, or Stockholm when you could be paying virtually nothing in London?

The City, as London's financial district is known, has come to rely on the U.K.'s status as a tax haven. It is one of the reasons it is so successful. If you get rid of the rule now, business might start to drift away to Zurich.

Likewise, London gets a boost from ``non-dom'' residents in powering its turbo-charged economy. They keep house prices high, create jobs and attract new business. Anything that damages London's standing in the global economy will hurt the country.

There is certainly a good case to be made for lowering taxes for the native British. If the U.K. had a flat tax of, say, 15 percent, there would be fewer complaints about how little the super-rich were paying.

Whether by design or accident, Britain has chosen to be the service center for the global plutocracy. So far, it has worked out pretty well for everyone. Throwing it into reverse now would be a blow to the economy.

To contact the writer of this column: Matthew Lynn in London at matthewlynn@bloomberg.net.

Last Updated: September 11, 2007 19:33 EDT