Making work pay – how taxes should work better for the ‘squeezed middle’

The Resolution Foundation helped give birth to the phrase ‘squeezed middle’: that group of low-income individuals and families just above the threshold to qualify for most welfare help, but only just able to make ends meet, and always in danger of slipping back into poverty.

Today they’ve published a report written by Paul Johnson, Director of the Institute for Fiscal Studies, identifying key reforms that could allow the tax and welfare system to redistribute more efficiently. Here’s the summary-of-the-summary:

Simply making the current system more generous to those on low incomes will not be sustainable in the long run. Reforms to the structure of welfare, VAT and council tax are required.

The tax-benefit system must do more to ensure work pays for groups who we know respond to incentives and which will be important to rising living standards:

· For parents, cash benefits could be made more generous for younger children and less generous for school-age children when parents are more likely to want to work
· For second earners, the new Universal Credit system could introduce a separate disregard for second earners, allowing them to keep more of the money they earn
· For older workers, National Insurance Contributions (NICs) could be reduced by either bringing forward the age at which people stop paying NICs to 55 or by or increasing the NICs threshold at this age, whilst potentially delaying the age at which Pension Credit becomes available.

The report also argues that politicians must finally grasp the nettle of Council Tax reform. Currently people in lower value homes pay a higher rate (as a proportion of their home value) than people in more expensive homes. The report notes that we don’t charge VAT at a lower rate on a Ferrari than on a Nissan. So why do we charge council tax at a lower rate on a mansion than on a council flat? A flat rate of Council Tax would be both fairer and more efficient. In the short-term, additional bands at the top could enable a freeze on Council Tax for those lower down.

The report also argues that the current system of extensive zero and reduced rating of VAT – much more extensive than in other countries – is an expensive and inefficient way of effecting redistribution. It can be reformed over time in ways which benefit low and middle income households.

You can read Resolution Foundation’s report in full here. Well worth reading, incidentally, in conjunction with CentreForum’s recent analysis of the debate between tax credits and personal tax allowances as ways to help the ‘squeezed middle’.

* Stephen was Editor (and Co-Editor) of Liberal Democrat Voice from 2007 to 2015, and writes at The Collected Stephen Tall.

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11 Comments

  • Paul Johnson is always worth reading!

  • All very sensible, although I have some concerns about giving 55 year olds on >50k salaries that tax break (as we do currently with over 65s) and about large ‘expenditure’ on elderly labour participation at a time when youth unemployment is rather high. As with funding social care reforms, this money should come the same group who’ll benefit, by abolishing regressive tax breaks like the tax-free lump sum.

    Changing council tax to a flat rate (in keeping with the ‘Mansion Tax’) is probably one of the easier changes to make (as would be moving to land instead of property values). It’s regular revaluations that will need a concerted effort to make them culturally accepted. The ‘nettle of Council Tax reform’ will be one of my key tests at the next election – will Labour be serious about improving Britain or only concerned with what the Mail says? Can the LDs or even Tories do any better?

  • What’s the living wage?

    I’m sure people prefer to earn a living, rather than being dependent on welfare. Our tax allowance changes help, but it may not be sustainable to keep increasing this, and it does not help those on the lowest incomes for example in minimum wage, part time roles.

  • @CP – re tax threshold for part timers

    But changing the NI threshold to an annual amount and raising it to match the tax threshold would help a number of part timers.

    That would require abolishing the NI contributions model, but that is a rubbish system anyway.

  • Little Jackie Paper 31st Jul '12 - 8:39pm

    I will certainly read the full report with interest. But to my mind the debate is rather more fundamental than the nice-sounding, ‘make work pay.’ Fiddling with tax thresholds and rules really doesn’t mean that much when we are in a situation where some benefits, most obviously Housing Benefit are being paid to people who are by and large IN work, but who still need benefit to live on. If wages don’t pay for shelter, the absolute basic, we might as well just give up now.

    The problem at heart is not the tax system. We can tax whatever we want, when labour is devalued then it doesn’t really matter. My Dad was able to afford a mortgage on a single production line wage, with interest rates in double digits. The wage also allowed for motoring, pension saving and supported a family. No – we should not look back with rose-tints at the 1960s. But the point is that where in the past labour held currency, now we are having to give it away in internships. House price hyperinflation might have masked the devaluation of labour for a generation, but we are seeing its full impact now. The problem, of course, is not that the boomers own big houses – it is that labour no longer buys a big house for large numbers of ‘hard working families.’ (and I hang my head for using that over-used term)

    I am all for a long hard look at the tax system and spending. But what is needed is a revaluation of labour. What is the point of X00,000 new private sector jobs if people have to work 3 of them to pay off the landlord’s mortgage on a shoe-box flat in the chav parts of town?

    Between my wife and I we earn a combined wage above the national average, yet a 3 bed house could be on Mars for all the chance I have of ever owning one. My Dad paid £5,250 in 1978 for his 3 bed (with nice garden and double garage). We can’t afford motoring and fares are up by eye-watering numbers. We don’t get any help with fuel. As for the family…..

    And this is to say nothing of the amount needed for pensions.

    How do we revalue labour is the question, how we tax devalued labour is a red herring. For too long we have seen the returns of the economy accrue not to labour but to capital (most obviously houses). Work will pay when labour is revalued relative to capital. No more no less.

  • jenny barnes 1st Aug '12 - 8:53am

    We’re moving towards – maybe we’re already there – an economy where 1% own most of the wealth; the top 20% are reasonably comfortable, the next 40% (squeezed middle) are struggling to a greater or lesser extent – maybe the 2nd quintile are struggling to pay school fees while the 3rd quintile is struggling to pay the fuel bills; and the bottom 40% are in a really bad way. I suspect the economy only needs 20% of the workforce to produce everything the 1% need – so much for trickle down – and the only reason the other 40% are employed is because if 80% have no stake in society there will be – difficulties. (see last summer)

  • The true meaning of “trickle down” is that the economy slows to a trickle.

  • There’s barely any such thing as the squeezed middle, The economic policies of the last 30 years took out the blue collar working classes and now its taking down the lower middle classes. If you can’t really afford the roof over your head without massive long term debt, or are struggling to pay for your utilities you are not the squeezed middle, You are just getting poorer. Wages should not need propping up by government. Employers should employ people on living wages rather than government subsides. If they can’t they are basically failing.
    A tiny proportion of the population have to budget for school fees. Almost everyone in the country goes to comprehensive schools . Around 50 percent of workers are earning less than 20K a year, yet the average wage is said to be 26K. I don’t know the number of people earning between 26 and 30 thousand, but my guess is that it’s way higher than those earning more. So to me the squeezed middle looks like a mythic creature conjured up by politicians and newspaper editors to justfy tax breaks for themselves and the falling living standards of the majority.
    We’ve built unsustainable failure into a economic system, a reliance on a banking model that only creates more debt, housing inflation that no one can really afford and jobs , when they exist, that don’t pay enough to live on.
    Neoliberalism simply does not work and the only real trickle down effect is watching you’re economic status gradually trickling towards the poverty line.

  • Glenn: you can find the income distribution numbers on either the IFS website (Where do you fit in) or from ONS. It is important to distinguish between individual and household incomes. Two people each on £20k with no kids and a house they have paid for will be very comfortably off, even though neither appears individually well off. (Equally, £35k as a single parent with three kids in the private rented sector in Woking would not make you well off).

  • Tim,
    I agree that individual and home circumstance make a difference, but my broad point was really that we talk about the “squeezed middle” when most people are not really near the middle of anything and have actually seen the value of their labour gradually being eroded, It’s New Labour’s “we’re all middle class now” lie,. The illusion of greater prosperity brought by increased personal debt. What the phrase the “squeezed middle” contains is the myth that a company director or a senior civil servant is in some way in the same social strata as their workers.
    Also the idea of making work pay means different things to the lib Dems than it does to The Conservatives.. One wants to raise living standards, the other simply wants poverty to be harder.

  • @ Glen –

    The “average” you refer to is the Median. Income is not a normal distribution so you will not see a simple correlation of a mean median and mode.

    Tim’s point about the household disposible income is very important, and almost always missed in these discussions.

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