Earnings Tax – Who Needs It?

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The Chancellor of the Exchequer's mooted decision to ditch National Insurance Contributions and introduce a so-called Earnings Tax in its place begs many questions.

When David Lloyd George's Liberal administration invented NIC in 1911 with implementation a year later they probably had no idea of the trouble that they would cause future generations. Strangely, the not-tax celebrated its centenary remarkably quietly last year even though it has proved a wonderful money-spinner for governments of every hue in recent times.

Currently running at 13.8% for employers and 12% for employees, reducing to 2% for the wealthier, this has long been a tax in every sense but its name.

Indeed, most of us will have forgotten the contributory principle that led to its initial introduction. The scheme was originally an insurance policy whereby people invested every week in the hope that they would eventually get a worthwhile pension from the state when they retired and possibly other benefits during their working lives.

Nowadays, the link between the contributions and benefits has almost ceased to exist, leaving behind an additional tax that, if nothing else, obfuscates the headline rate that individuals and companies are obliged to stump up.

In the words of baby-faced Ben Gummer MP, according to Monday's Daily Telegraph "a rising star Tory backbencher", who introduced the new kid on the tax block to Parliament yesterday, the Earnings Tax will increase transparency.

This appears to show a level of naiveté unusual even in the ranks of rising star Tory backbenchers. Quite why changing a familiar name to an unfamiliar one should make things more transparent is unclear, if you'll pardon the pun. It is actually worse than that because we already have a perfectly good earnings tax known as income tax or colloquially, Pay As You Earn.

To get true transparency is very simple. One would literally abolish National Insurance Contributions, as has been suggested by the Office of Tax Simplification. In order to do this, the rate of income tax would have to increase.

Strangely, the less well-off would appear to suffer far more from such a change since they would leap 60% from a 20% rate of tax to 32%, while those at the top of the ladder would only step up from 45% to 47%.

All of this leaves unanswered the point about what will happen to employer's National Insurance Contributions. A straight abolition would be very welcome and almost certainly increase employment across the country. However, it would also leave the British economy looking like that of Greece on a bad day. That might at least achieve one ministerial goal since even independent Scotland would want nothing more to do with us in that scenario.

Another issue that has yet to be clarified is what will happen to Class 2 and Class 4 contributions that apply to self-employed income. These are theoretically applied to "self-employed earners" although arguably the income that they attack should not really be categorised as earnings at all but profits. Ditto amounts received by way of pension, which are currently exempt from NIC but chargeable to tax.

Perhaps the Chancellor's cunning plan (not to suggest that he has anything in common with Blackadder's Baldrick) is to bring an equivalent to employer's contributions to the self-employed and full NIC pensioners. If so, an awful lot of tax planning will go out of the window.

Ultimately, all that we are likely to get from this new transparency is a change of name. Realistically, it will also almost certainly prove to be too good an opportunity to miss for Mr Osborne and none of us should be surprised if the amount that is paid over following the change is transparently higher than our liabilities at the moment.

Without wishing to seem overly cynical (for a change) while the ditching of all that complex NIC legislation which nobody understands will be welcome, judging by recent precedent there seems little doubt that any replacement will be considerably longer and no simpler.

Then again, perhaps Mr O does want to be remembered as the reforming Chancellor who put a smile on to the faces of earners by abolishing NICs and simplifying the tax system at no cost to the employed. If so, we can all enthusiastically look forward to reading the details when this legislation eventually hits the statute books, perhaps as soon as April 1?

About Philip Fisher


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