Synopsis: A £10,500 personal allowance could be announced in the Autumn Statement.
Date posted: Wednesday, November 20, 2013
We commented in an earlier Bulletin on the Conservatives’ aspirations to increase the personal allowance to £12,500 if the party wins the next election. Pushing up the personal allowance is good politics:
In isolation it is relatively easy to understand.
The allowance change is a big number, even if the tax saving is only a fifth of the amount.
‘Taking people out of tax’ is a sound bite that has obvious appeal.
It helps to counter the freezing of the personal age allowance (£10,500 for those aged 65-74 and £10,600 for 75 and over).
It is different from the Labour proposal to re-instate a 10% tax band. This distinction is doubly helpful because the point can also be made that it was the Labour Party (in the guise of Gordon Brown) that (re)created and then scrapped the 10% band.
The apparent quid pro quo of cutting the size of the basic rate band and thereby dragging more people into higher rate tax can be quietly ignored. The Chancellor has already announced (in last year’s Autumn Statement) that the higher rate threshold will rise by just 1% in 2015/16.
Nick Clegg has now joined in by calling for a 2015/16 personal allowance of £10,500 in an interview on the Andrew Marr program. It is quite possible that the Autumn Statement, now due on 5 December, will answer this call, giving the Deputy Prime minister the opportunity to claim credit. A £10,000 personal allowance was in the Liberal Party manifesto at the last election and was built into the coalition agreement.
The political upsides of increasing allowances do come with some downsides that tend to be glossed over:
Those on the lowest income do not pay income tax anyway, so the increased allowance is of no immediate help to them. As the Institute for Fiscal Studies (IFS) noted in its Green Budget 2013, ‘contrary to popular perception, the policy [of increasing personal allowances] is not ‘progressive’. The largest average gains – in cash terms and as a percentage of income – go to those in the middle and upper-middle of the income distribution. In particular, two-earner couples gain twice over.’
Increasing the personal allowance is expensive. The HMRC ready reckoner says that adding £100 to the personal allowance would cost £650m in 2014/15, although this assumes that the higher rate threshold would increase correspondingly. The IFS says that this government will have made an ‘eventual £11 billion a year investment’ through its above-inflation increases to the personal allowance. £11bn is enough to cut the basic rate of tax to 17.5%.
As a reminder, the personal allowance in 2010/11 was £6,475 and, with RPI indexation, would have been about £7,575 in 2014/15 instead of the currently planned £10,000.
To the extent that the personal allowance is a trigger for other government policies, above inflation increases can have unwelcome side effects – witness the impact on the auto-enrolment threshold.
The rising personal allowance has not been met by similar increases in the threshold for the other income tax that dare not speak its name – national insurance contributions. Thus at £10,000 a year earnings in 2014/15, the typical non-taxpayer will still have a NICs bill of about £20 a month. The full NIC rate of 12% will apply to nearly all employees once contracting out disappears in 2016. So who needs a 10% starting tax rate..?
Higher personal allowances raise the public pressure for transferability of unused allowances between married couples and civil partners. Once again, this is an expensive option – hence the limited version which Gorge Osborne will re-announce next month (see our earlier Bulletin).
Raising the personal allowance may not in itself represent ‘progressive’ taxation, but it is, as the IFS notes, the most progressive way of cutting income tax.