The Independent View: Budget lifts a million people out of Income Tax

The news that the UK’s February borrowing figures were the worst on record did not exactly provide the Budget mood music the Chancellor was hoping for. Then again, the stark reminder that the UK is living well beyond its means serves to buttress his arguments about the need to control spending. There is no money to spend, and even with the current deficit-cutting fervour from Number 11 the UK remains at the whim of global bond markets.

So how did George do? The stamp-duty increase on homes worth more than £2 million is eminently sensible, but must be accompanied by the Chancellor’s promised “ton of bricks” on tax loopholes and avoidance. The Chancellor’s language in this area was actually quite encouraging, and it was nice to see the Government standing up against tax avoidance in such a strident way.

The increase in personal allowance is also welcome, although we’re now so close to reaching £10,000 that the Chancellor may as well have gone the whole hog today. It seems rather obvious, however, that drip-feeding this increase is a way of ensuring LibDem compliance with future Budgets….

Still, HMRC thinks that the change will take 840,000 people out of tax. This is wonderful, both in terms of keeping money in the pockets of those who need it most and because that’s 840,000 fewer people that HMRC need to process for income tax.

True, there’s no mansion tax, but it is actually a fairly unworkable proposition. I still think that taxation should focus more on wealth than on earnings, but it was unlikely that the Chancellor was going to flip the entire tax-code so I’m not too disappointed.

Then there’s the 50p rate. LibDems in the Commons this afternoon have avoided the subject, which is telling. Whether the grassroots are willing to forgive this as the price of coalition remains to be seen…

Overall? It wasn’t exactly a call to arms, despite the Chancellor’s claims about Britain striving more than other country to achieve prosperity. Then again, there is no silver bullet to cure the current malaise, as much as we hope to find one. Ultimately though, the Taxpayers’ Alliance doesn’t seem especially pleased, so we must be doing something right.

The Independent View‘ is a slot on Lib Dem Voice which allows those from beyond the party to contribute to debates we believe are of interest to LDV’s readers. Please email [email protected] if you are interested in contributing.

* Ben Norman works on financial policy at Cicero Consulting

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21 Comments

  • You didn’t mention the lowering of the tax allowance for pensioners. That will hit a great many pensioners – and is not particularly ‘wonderful’.

  • Adam Bernard 21st Mar '12 - 8:21pm

    If so much of the money to pay for a net cut in taxes hadn’t come from benefits and public service cuts, I’d be much happier with the budget.

  • matthew fox 21st Mar '12 - 8:43pm

    No mention of all the people who are going to lose their tax credits.

  • “Then again, the stark reminder that the UK is living well beyond its means serves to buttress his arguments about the need to control spending.”

    In a sane world it might also be an argument against cutting taxes …

  • Richard Dean 21st Mar '12 - 11:33pm

    Where is the evidence that the UK is”at the whim” of global bond markets. We still have AAA, and even if we are downgraded our borrowing will still be cheqper than most other countries’.

    Yes, there is unfortunately no silver bullet. I saw no bullet at all as regards the unemployment situation. So much more could have been done if the Chancellor had decided not to give money to the oil companies and to high earners!

  • Jonathan Hunt 22nd Mar '12 - 12:01am

    Cut in 50p rate delivers entirely the wrong message. Giving into tax evaders. Can we all say that our rate is too high and dtop paying it?

    And declares war on pensioners. Yet again Lib Dems outmanoeved by Tories, but will end up shouldering the blame.

  • Patrick Wintour gets it spot on………..

    ‘Privately, government sources said pensioners had been doing fine by the government and, at some point, had to take their share of the hit. But it is not ideal to do this when 14,000 people earning £1m or more are getting a tax cut of more than £40,000 a year. So much for clamping down on the crony capitalists.’

  • James Ellis 22nd Mar '12 - 7:25am

    I somehow get the impression from this budget, that Low Income and Hard up pensioners are now paying
    for High rate taxpayers child benefit.

  • Jonathan Hunt – “Cut in 50p rate delivers entirely the wrong message. Giving into tax evaders. Can we all say that our rate is too high and dtop paying it? ”

    [Groan] … someone else who doesn’t understand the difference between tax evasion (illegal) and tax avoidance (legal).

    People paying the 50p rate have many ways of legally avoiding paying the tax, such as offsetting vs losses, claiming other various allowances, investing in businesses, giving to charity, paying into pensions, or even, plain and simple, not earning as much in the first place. If you don’t earn £1, you can’t pay 50p to the Treasury.

    The problem for the majority of us is that Income Tax is deducted at source via PAYE – and why IT is till with us (because the Government can use employers to collect tax on its behalf rather than having to rely on payment in arrears via self assessment).

  • It’s not a lowering of the tax allowance for pensioners though is it. It’s bringing pensioners future pensioners into line with the high allowances for all tax payers.

    50% of pensioners pay no income tax at all if we are worried about pensioner poverty it seems pretty likely that they will be in that group.

  • Alex Sabine 23rd Mar '12 - 1:01am

    Ben: You rightly draw attention to the borrowing position and the lack of any real room for manoeuvre, but I can’t agree with your description of hiking stamp duty to 7% on high-value properties as “eminently sensible”. As Paul Johnson of the IFS rightly observes: “…to see another Chancellor increase again such a poorly designed and distorting tax does not bode well for tax reformers”.

    Why is stamp duty such a bad tax? Firstly, transaction taxes like this are generally recognised to be undesirable economically – why impose heavier taxes on properties that change hands more often? Surely properties should be owned by those who value them most?

    But UK stamp duty is particularly badly designed – indeed the IFS labels it “exceptionally damaging” – because of the ‘slab’ structure whereby as you move up the rate scale the higher rate applies to the whole purchase price of the property, not merely the portion above the threshold (unlike, for example, income tax).

    This means that the moment the price crosses each threshold there is a sudden and steep increase in the amount of tax payable; just below the £250,000 threshold you pay about £2,500, but on prices just above this you pay £7,500. Just below £2m the stamp duty charge is £100,000, then as soon as the price goes above this the tax liability rises to £140,000 plus – in effect, a £1 higher price means a £40,000 higher bill.

    This is clearly undesirable and causes unnecessary distortions in the housing market at price points around the thresholds. Raising the rate of tax simply worsens these distortions.

    A modest but genuinely worthwhile reform would have been to get rid of this slab structure and instead charge stamp duty on a marginal-rate basis.

    In the longer run it would be better to scrap it altogether and replace it with a sensible property tax – either a reformed council tax following a revaluation of properties (an annually collected ‘housing services tax’ of the kind recommended in the Mirrlees Review) or a land value tax (if it could be implemented in a practical way; it should replace business rates first).

    The mansion tax, as such, is a bit of a gimmick in my view – we don’t need parallel systems of tax for domestic property and by cutting in at £2m it allows those owning a slew of expensive properties, each worth less than £2m individually but together worth much more, to avoid it altogether (Chris Huhne’s portfolio would apparently escape it…). Nonetheless it contains the germ of a good idea. If it was a flat rate levy proportionate to property value, and used to reduce and eliminate other poor proxies for property taxes and cut income tax, the intellectual case for it would be hard to deny – although I don’t imagine for the moment there wouldn’t be vocal opposition!

  • Alex Sabine 23rd Mar '12 - 2:12am

    Geoffrey: I think we all want to see less tax avoidance. One way to achieve that is to target specific avoidance schemes through specific anti-avoidance measures, and there was quite a bit of that in the budget, including some aggressive action to close the stamp duty loophole whereby expensive properties were being sheltered from the full stamp duty charge through corporate structures.

    Another approach is to introduce a General Anti-Abuse Rule – in essence, a single rule to deny benefit from any arrangement to reduce tax that is contrary to the intention of Parliament. The government is going to consult on this. There are advantages and disadvantages to this approach; one of the difficulties will be defining in law what the will of Parliament is to cover the wide range of circumstances that might obtain. The effect will depend on how the courts interpret it; will the government risk relying on the courts’ interpretation? As the IFS says, this is not a panacea.

    The best way to tackle avoidance, however, is to dramatically simplify the tax system by harmonising the different rates of tax applied to different forms of activity as far as possible, and eliminating the vast majority of tax breaks and reliefs. That way the incentive to avoid would disappear. This would be more effective than any enforcement action. Any remaining loopholes would be much more visible and easily closed.

    Instead of trying to plug leaks here and there after they emerge, surely it’s better to turn the tap off, rip up the current tax code – which is now one of the most complex in the developed world – and start getting serious about root-and-branch tax reform? A lot of ‘avoidance’ happens not because of these dastardly rich people but because successive governments – and especially the last one – have made the system more and more complex and then come along and tried to patch up the consequences of their own handiwork.

    As Tabman says, tax avoidance is perfectly legal. Although the more exotic forms of it (the sort George Osborne called ‘morally repugnant’ in his speech) can get perilously close to evasion, in many cases people are simply making the maximum use of reliefs and shelters that the government has itself provided, which are technically known as ‘tax expenditures’ (pension contributions, ISAs, investing in businesses, giving to charity etc) because in effect they are spending through the tax system.

    The issue is that wealthy people and high earners can typically make greater use of these reliefs, thus reducing their overall tax rates, while those on more modest incomes and taxed through PAYE have less scope and flexibility to do so.

    This is a separate issue from the loopholes that arise from the sheer complexity of the system, and many will argue there is a strong case for some of these reliefs to exist. Personally, though, I would set the bar pretty high for any departures from a neutral system; overall we should aim to broaden the tax base and cut rates.

    While it wasn’t perfect, a good example of this being done in practice was the bipartisan Tax Reform Act of 1986 in the US, which resulted in more revenue being raised in a more progressive way from a flatter structure; even as it cut the top marginal income tax rate from 50% to 28%, *average* tax rates paid by the well-off actually increased, as did the proportion of revenues they accounted for. (Sadly in the current polarised political climate in the US there seems little prospect of a bipartisan deal on the kind of comprehensive tax reforms suggested by the Debt Commission set up by President Obama…)

  • Alex Sabine 23rd Mar '12 - 2:32am

    Also, Geoffrey, where on the budget scorecard is the welfare cut you are referring to? The reference to it in Osborne’s speech was simply to make explicit the nature of the trade-offs for the next Spending Review period, which will probably take place towards the end of next year. The point being that further welfare savings are needed to prevent public service spending falling more steeply than in the current Spending Review period (which goes up to 2014).

    In order to limit the reduction in departmental spending to the same average rate as over the current period – 2.3% per year in real terms – additional savings in the budget for welfare and tax credits of about £8bn/year in today’s terms would be required. This is simply a matter of arithmetic given the overall public spending envelope which the government has set out, which is for spending to fall by 0.9% in real terms in the first two years of the next Parliament.

    Different trade-offs are possible within that budget constraint, but the smaller the welfare cuts the bigger the squeeze on departmental spending – Osborne was just flagging up one plausible scenario.

    On the environment, he probably didn’t want to draw attention to this whole subject given that he was doing nothing to abate the planned rise in fuel duty later this year, which Labour (hypocritically) have obviously attacked and which will undoubtedly hit the ‘squeezed middle’ and cancel out much of the effect of the higher personal allowance.

  • TabmanMar 22 – 3:10 pm ( toJonathan Hunt)………..[Groan] … someone else who doesn’t understand the difference between tax evasion (illegal) and tax avoidance (legal)……

    Why the patronising remark? I thought Osborne referred to ‘evasion’ and mentioned Switzerland. Yet again, I’ll ask the obvious question, “Why does anyone believe that those’avoiding/evading’ tax at 50% will, suddenly, rush to pay 45%?”

  • Malcolm Todd 23rd Mar '12 - 9:15am

    @jason
    “Why does anyone believe that those’avoiding/evading’ tax at 50% will, suddenly, rush to pay 45%?”

    Nobody supposes they’ll rush to pay it, but most people don’t avoid tax for fun, they do it because they think it’s worth it. There’s usually some cost involved (either financial or just in being pushed into behaviour that’s not what they really want to do). So if the tax is less the incentive to avoid is less. Which, at the margins (and it’s margins we’re talking about it) means that some avoidance that is worth undertaking at 50% is not worth it at 45%. If we’re talking about evasion, then there’s also the question of how big a risk you think it’s worth taking for how much reward.

    Unfortunately, it’s probably true (though I’ll happily be corrected by any passing expert) that the cost is often only or principally incurred when setting up an avoidance scheme — which means that a lot of schemes set up to avoid 50% tax will still be worth maintaining even at significantly lower rates.

  • Malcolm ToddMar 23 – 9:15 am…..Unfortunately, it’s probably true (though I’ll happily be corrected by any passing expert) that the cost is often only or principally incurred when setting up an avoidance scheme — which means that a lot of schemes set up to avoid 50% tax will still be worth maintaining even at significantly lower rates……..

    So the financial point of dropping the 50% tax was?

  • Alex Sabine,

    “The best way to tackle avoidance, however, is to dramatically simplify the tax system by harmonising the different rates of tax applied to different forms of activity as far as possible, and eliminating the vast majority of tax breaks and reliefs. That way the incentive to avoid would disappear. This would be more effective than any enforcement action. Any remaining loopholes would be much more visible and easily closed.”

    Talking common sense like this will never do.

  • Malcolm Todd 24th Mar '12 - 1:00am

    @jason

    I dunno — someone’s got something against accountants, perhaps…?

    More seriously, by making it less rewarding to set up avoidance schemes in the future it should reduce the amount of new tax avoidance, I guess. But it’s all pretty marginal.

  • Richard Dean 24th Mar '12 - 1:14am

    Alex Sabine, Joe Bourke. “Talking common sense like this will never do.”

    Is it really common sense? Life is complicated, people and situations are very varied, and many tax breaks and reliefs are there to take account of such things. Surely getting rid of them is to impose an artificial uniformity on a society that is not uniform? It seems to go against the individuality that is fundamental to the idea of “liberal”.

  • Alex Sabine 24th Mar '12 - 4:38am

    @ Richard Dean

    You are surely right, life is complicated and people’s circumstances vary a great deal. The problem with trying to cater for all these myriad circumstances via tax breaks, reliefs and differential rates for different sorts of activity is that you end up with the unholy mess we have now – with a tax code running to more than 8,000 pages, and the books that lawyers and accountants use to interpret it running into millions of words. It’s the pesky old law of unintended consequences.

    This isn’t a new phenomenon. The IFS came into being in the mid-1960s because its founders were appalled by the way Chancellor Jim Callaghan’s 1965 Budget – which introduced capital gains tax and corporation tax – was implemented.

    When, in the early 1980s, they published an influential review of the UK tax system by the Nobel Laureate Professor James Meade, the IFS’s then director Dick Taverne lamented: “For too long, tax reforms have been approached ad hoc, without regard to their effects on the evolution of the tax structure as a whole. As a result many parts of our system seem to lack a rational base. Conflicting objectives are pursued at random; and even particular objectives are pursued in contradictory ways.”

    Things improved in the 1980s thanks to the tax-reforming efforts of Nigel Lawson, but his Conservative and Labour successors undermined his good work. As the recent Mirrlees Review persuasively argued: “In the UK poor tax design contributes to an inefficient housing market, distortionary taxation of financial services, excessive reliance on debt finance, employment levels lower than they need be and distorted and inefficient savings and investment decisions.”

    There are two key reasons for preferring a simpler system with a broad base and low rates. For one thing, we want to avoid the economic distortions caused by fiscal privileges, so that decisions about earning, saving, investing, spending and so on are made for sound underlying economic reasons and not for tax reasons.

    And secondly, a proliferation of tax breaks inevitably breeds tax avoidance, which means that the general level of taxation and marginal rates have to be still higher to bring in the required revenue. Moreover, the granting of one tax break inevitably increases the political pressure for others, until you end up with a very complex and leaky system.

    Certain broad reliefs (tax expenditures) like those designed to encourage saving in ISAs or pension funds, charitable giving or capital investment by businesses may well be justifiable, in the sense that the benefits to society of having more of these activities outweigh the cots to the efficiency of the tax system.

    That said, as I explained above, because deductible items are worth much more to well-off individuals than they are to the lower-paid, they tend to make the tax system less progressive and encourage Chancellors to try to offset this through damaging high marginal rates (which in turn make the reliefs and exemptions still more valuable). In general, I prefer a system with low rates and few reliefs than with high rates and the many reliefs required to make the high rates tolerable (as we had in the UK for much of the postwar period when hardly anyone paid the notionally swingeing rates because of the many opportunities, and very strong incentive, for legal avoidance).

    As Denis Healey recognised in his autobiography, combining efficiency, simplicity and equity in a tax system is a tricky balancing act. Our current system scores poorly on all three fronts.

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