Here’s what George Osborne said in his Budget speech:
Income tax represents almost 32% of all the tax we receive so this is a not insignificant statistic. But is it right?
It is, in fact, very wrong indeed. It would be more accurate to say that the highest earning half a percent pay 28% of all the income tax we receive. But it’s important we understand why this is. And what it tells us about whether we really are “all in it together”.
A high proportion of income tax revenue being paid by a small proportion of earners might be because we have a progressive tax system. Or it might be because we have income inequality. Either would deliver this result. But only one of them would be thought a positive political achievement.
Our system for taxing income is not nearly as progressive as you might think.
On income over £10,600, you will pay tax – including National Insurance Contributions – of 32%. On income over £42,385 you pay tax of 42% and on income over £150,000 you pay tax on income of 47%. But tax on income – excluding National Insurance Contributions – is more progressive.
George Osborne gave us the figure for income tax. Because it is our most progressive tax it overstates both the proportion of tax paid by high earners and the proportion of tax on income paid by high earners.
What about the alternative, income inequality?
From 2010-11 to 2015-16, the number of people earning more than £500,000 grew 44% from 32,000 to 46,000. And the number earning more than £2m per annum grew by around 500%. But this (it should be noted) only returned us to roughly pre-financial crisis levels.
And it wasn’t merely the number of high earners who increased – but also the amounts they earned. The amount earned by the average earner in that £500,000 plus bracket increased 16% from £1.122m in 2010-11 to £1.3m in 2015-16. By way of rough comparison, average weekly earnings grew from January 2011 to January 2016 by about 7%.
What about the tax paid by the average earner in that £500,000 plus bracket? It increased too (from £472,000 in 2010/11 to 514,000 in 2015/16) but only by 8.9%, much less than the increase in earnings. This is, of course, because of the cut in the top rate of tax from 50% to 45%.
So both are contributors.
One final point.
If you want to understand how progressive our tax system is, you really should look at it as a whole rather than focusing (as Osborne did) only on its most progressive element (income tax).
Looked at as a whole, the lowest earning 20% of households is the most highly taxed. That 20% pays 38% of its cash income – including benefits – in taxes. The second ‘quintile’ pays 30% then 33% for the third, 33% for the fourth and 35% for the top 20% (see Table 1 here).
This is because pretty much all of our other taxes are regressive. Big shout out to Council Tax which – even after Council Tax Support – consumes 5.8% of the cash income of the lowest earning 20% of households but only 1.8% of that of the highest earning.
If the Conservatives really did want a more progressive tax system they could start with that.
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Waiting for Godot 
VAT isn’t exactly progressive either, hitting the lowest paid the hardest on some staple items. difficult to quantify though.
VAT is mildly regressive. Effects of zero rating, exemptions don’t quite compensate for greater consumption/income of those with lower incomes.
Overall, you may even be under-stating the regressive nature of taxation overall. This piece is a year old now, but sets out the scale of the problem as being much larger than most of might think, intuitively.
http://www.theguardian.com/money/2014/dec/22/poorest-uk-households-pay-half-income-tax-campaigners
This argument (which I have seen elsewhere, particularly in the Graun) that the lowest earners pay the most tax is daft. Taking into account the effects of benefits the poorest are of course net recipients from the system. They pay *negative* tax.
The tax figures – which you describe as “daft” – are from the ONS.
I didn’t describe the figures as daft. I described an analysis of how progressive the system is that ignores benefits as daft. The essence of a progressive system is that it takes from the wealthy and gives to the poor. If you look at the taking and ignore the giving you obviously end up with a distorted picture.
And incidenally the degree to which the lowest earners are net recipients from the system is all set out clearly in the ONS analysis.
You said the argument that low earners pay the most tax is daft. It’s not daft, it’s right. Of course, there is a broader debate about who is a net contributor. That’s not a point Osborne was addressing and, responding to him, neither am I.
You criticise Osborne for distorting the picture by looking at only part of the system and then do exactly the same thing yourself.
I don’t accept that criticism. The discussion is about the progressivity of the tax system. But thanks for your thoughts.
Well as I said, discussing the progressivity of the tax system while ignoring benefits is daft.
Take it up with Osborne. It was his comment I started with. Anyway, you’ve made your point which I accept would be relevant to a broader, different, debate. But I don’t accept the analysis on that broader debate is anything like you describe.
Happy Easter.
I suspect earned income is a small proportion of the total for quite a few of those with annual incomes over £2m. The rates are not quite so progressive if you consider tax on dividend income rather than earnings. Or indeed if you consider the difference between taxes on the income of the employed versus the self-employed, taking employer NICs into account.
And then many of the richest will have substantial capital gains each year, also taxed at preferential rates. Gordon Brown started the divergence in rates between income and capital for individuals, with the introduction in taper relief. There was quite a long time in the late 80s and early 90s, under a series of Conservative governments, when both income and gains were taxed at up to 40 per cent, and it discouraged much avoidance behaviour.
And to you Andrew.
Just FYI, savings income makes up 1.875% of the income of “Additional Rate” payers; dividend income about 15%.
“. . .pretty much all of our other taxes are regressive.”
You’re certainly right on council tax, but are there any others?
That 38-30-33-33-35 distribution for taxation after transfers looks pretty flat to me, and suggests there’s some behavioural patterns in the bottom quintile, buying a take-away rather than home cooking, going to Slimming World ( 20% VAT ) rather than doing organised exercise, and drinking patterns. Heck adult cyclists ( 0 VED and fuel duty ) are more likely to be above median earners than below.
I suspect that apart from council tax and the TV licence, it’s not the low income itself after transfers, but what you do with that low income that creates the spike for the bottom group.
There is one aspect of the taxation/benefits system that doesn’t get proper attention, which is the matter of traps. Benefits traps stop people earning more, because the marginal benefit of doing so can be minimal, and I have seen leading politicians shy away from even thinking about them.
There are also child benefit traps, now a proposed rent trap for people in social housing…and so on.
Basic, or citizens, income schemes may solve some of the problems and, in an ideal world, one might be able to construct a real progressive tax system. However, one has to recognise that the gross inequalities that exist in top pay and wealth distribution are a consequence of market and regulation failures in both employment and capital markets.
James above has nailed you – to talk only of taxes and ignore the tax transfers paid to the lower deciles is nonsensical. They are net recipients of taxes.
Tell that to Osborne. He did it – I am merely responding.
In fact, he’s entitled to do so. There is a discrete political debate around the progressivity of the tax system. There is also a (less often had) economic debate around who the net beneficiaries of the tax and benefits system are. That’s also a valid debate, although the answer may surprise you. I’ve addressed it in a blog post I’ll publish tomorrow morning.
It is you not Osborne who wrote “you really should look at it as a whole” and then didn’t.
You chose to bring in direct taxes. You chose to ignore tax transfers because they completely undermine the thrust of your argument.
Thanks, Jolyon.
According to table 3.4 here – https://www.gov.uk/government/statistics/income-tax-liabilities-of-starting-savers-basic-and-higher-rate-taxpayers-by-largest-source-of-income-2010-to-2011 – in 2013-14, individuals with incomes over £1m (not just those on the additional rate, but those right at the top of the distribution) paid income tax on their dividends of about £2.1 billion, about £3.4 billion on their self-employment income, and about £8.8 billion on their employment income.
So I was wrong about the proportions – but the point stands, that dividends and self-employment income (and capital gains) are taxed more lightly than employment income. To do the proper job, you need to take employers NICs and potential deductions for the employer into account, but employment earnings are still the most expensive in tax terms.
That table also seems to show that dividends and self-employment income form a larger proportion of the annual income of those with the highest incomes.
Reducing the top rate of capital gains tax to 20% (against a 40% or 45% income tax rate) is an invitation to try to turn income into capital.
I may be anticipating your next blog on who the net beneficiaries of the tax and benefits system are.
In terms of regressivity it is interesting to read the IFS comments in a recent study of VAT
Click to access 09chap10.pdf
The IFS says that “many people in the lowest income decile will be temporarily not in paid work and able to maintain relatively high spending in the short period they are out of the labour market. Because their spending is higher than their current income, these people will be paying a high fraction of their current income in VAT. Similarly, those with
high current incomes tend to have high saving, and so appear to escape the tax, but they will face it when they come to spend the accumulated savings.”
I can see the argument that in a discussion about tax progressivity the role of benefits is not directly relevant. But tax and social policy measures do not operate independently of each other. Indeed, the ONS operates its calculations on the basis that
• Household members begin with income from employment, private pensions, investments and from other non-government sources. This is referred to as ‘original income’
•Households then receive income from cash benefits. The sum of cash benefits and original income is referred to as ‘gross income’
• Households then pay direct taxes. Direct taxes, when subtracted from gross income is referred to as ‘disposable income
So I think we do have to consider the role of benefits if only because it forms part of the ONS calculation of the amount and weight of taxes paid as a proportion of income. The ONS also add in, after taxes paid, the value of BIK, noting that the poorest decile gain £7,500 pa compared to £5,500 for the richest decile.
They note net effect of all this is that the richest fifth (those in the top income quintile group) had an average original income of £80,800 per year, compared with an estimate of £5,500 for the poorest fifth – a ratio of 15 to 1. After the impact of benefits in kind is taken into account, the ratio of the richest fifth of households’ final income to the poorest fifth’s is reduced to less than four-to-one (£60,000 per year and £15,500, respectively).
This seems to be supported by the IFS pre-election study http://www.ifs.org.uk/uploads/publications/bns/BN159.pdf
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Jolyon, responding to your last sentence, the Conservatives have no intention of addressing the undoubtedly regressive nature of Council Tax. As non-doms often freely acknowledge, this regression is a key attraction of the prime London property market compared say to New York. Labour’s infamous Mansion Tax was an attempt to address this very problem in part and was opposed tooth and nail by the Tories. You probably remember the heart-rending stories about poor elderly widows facing bankruptcy because they lived on modest incomes in Mayfair and Chelsea…..
I don’t see either Labour or the Conservatives in morally black and white tones. I could give examples of the susceptibility of both to ugly lobbying and special interest pleading. I think I’ve had modest success – sometime directly and sometimes indirectly – in influencing some Conservative Party policy in my field, as I have with Labour Party policy. I hope that focusing on Council Tax might bring about pressure to address it; but I guess only time will tell.
It is faintly ridiculous that council tax is still based on an estimate of the value of real estate in 1991 (notional and retrospective, for new builds). The system is so broken that I doubt a much-deferred revaluation would help much now. Council tax is also very much an “in your face” tax, as you are sent a bill every year. There is much less hissing about the much greater amounts of tax taken relatively painlessly through PAYE and VAT.
What are the alternatives for local taxation? Local supplement to income tax? Land value tax? Some combination of the two? See the recent report on local taxation in Scotland – http://localtaxcommission.scot/html-version-of-just-change-a-new-approach-to-local-taxation/13-conclusions-and-recommendations/
I was not suggesting that the Conservatives were especially tainted. However, they have made their intentions pretty clear in this regard when faced with a clear proposal to make property taxation less regressive. Andrew is right but the very reason we are stuck with 1991 values is that a genuine revaluation would probably shift the council tax burden towards those (in London and the south-east) who benefit most from the regressive status quo.
Michael, I am not quite sure I follow that. If properties were revalued and rebanded as they were for the intial 1991 exercise, it is true that London and the siuth east would have mostly properties in the higher bands. But the amounts are set locally and would take that into effect. The practical difficulty might be picking a number of bands which is both workable and wide enough to be meaningful across the country. Jolyon, I ‘d be interested to see your take on local taxation.