With significant deficit reduction still to come, households can expect the tax and benefit changes implemented over the next parliament to reduce their incomes, on average. There are large differences between the Conservatives, Labour and the Liberal Democrats in how they propose to do this. But they share a lack of willingness to be clear about the details, and an inability to resist the urge for piecemeal changes which would make the overall system less efficient and coherent.
- The Conservatives propose small net cuts to taxes and large cuts to benefits; Labour propose a rise in taxes and little change to benefits spending; the Liberal Democrats are in both respects somewhere in between.
- All these parties seem to have a desire to raise tax revenue in vaguely-defined, opaque and apparently painless ways. In many cases the proposals would lead to unnecessary increases in complexity and inefficiency in the tax system.
- Where benefit cuts are proposed, they are largely unspecified (Conservatives), vague (Liberal Democrats) or trivially small relative to the rhetoric being used (Labour).
New research, published today by the IFS and funded by the Nuffield Foundation, analyses the tax and benefit policies of the Conservatives, Labour and the Liberal Democrats. It finds little evidence of any coherent strategy, and numerous proposals that would complicate the tax system.
On income tax proposals we find:
- Conservative and Liberal Democrat proposals to increase the personal allowance to £12,500 by the end of the parliament would cost about £4 billion per year in today’s prices. Unlike with the substantial increases over this parliament, most income tax-paying pensioners would benefit. Given that 44% of adults now have incomes too low to pay income tax, and that two earner couples gain twice, further increases are of most value to those in the middle and upper-middle of the income distribution;
- Since 2010 the number of higher- and additional-rate income taxpayers has risen from 3.2 million to 4.9 million, in large part because the higher-rate threshold has been cut by the coalition government. Fiscal drag means that failure to increase the threshold by more than inflation could see the number paying higher rates rise to nearly 6.5 million by 2020. Even if the threshold were to rise to £50,000, as the Conservatives promise, numbers of higher- and additional-rate taxpayers would probably grow by about another 300,000 to well over 5 million;
- Labour’s proposal to abolish the transferable personal allowance for married couples and use the proceeds to reintroduce a 10% starting rate of income tax would replace one small complication in the system with another. It is hard to think of any economic justification for a 10% starting rate over a small range of income; virtually identical effects could be achieved by simply raising the personal allowance. If, as Labour says, the new band is to be funded only by the abolition of the transferable allowance, it would be worth only 50p a week to most taxpayers;
- There is much uncertainty about how much Labour’s proposal to increase the additional rate of income tax to 50% would raise. The most recent evidence we have is from HMRC, signed off as reasonable by the OBR, which suggests it would raise very little – £100 million is the central estimate;
- None of the parties is suggesting sorting out real problems in the income tax system. They would extend the reach of the effective 60% income tax rate which currently applies on incomes between £100,000 and £121,200. They do not propose to do anything about the proliferation of thresholds that are by default frozen in nominal terms, and hence eroded by inflation over time.
The Conservatives and the Labour Party both want to raise more money from increasing income tax on pension contributions:
- Both want dramatically to reduce the value of pension tax relief for additional rate taxpayers, on top of significant reductions in the value of pension tax relief introduced by the coalition. These may be less visible ways of raising income tax than more straightforward alternatives, but they harm the coherence of our system of pensions’ taxation. Tax relief on contributions makes sense, and it exists because we tax pension income when it is withdrawn;
- Both sets of proposals would also significantly complicate the system. They discourage people with incomes around £150,000 from increasing their earnings, with Labour’s proposals introducing a “cliff-edge” into the system – people could become worse off as their income rises above £130,000;
- We need stability in the system for taxing pension savings. None of the proposals on the table would improve those parts of the pension tax system which need changing. They look like short-term, ad hoc changes which we will come to regret as what was historically a relatively rational income tax treatment of pension saving crumbles.
A number of proposals would change the taxation of housing:
- We do not know for sure how many properties would be affected by Labour and Liberal Democrat proposals for a 'mansion tax' on properties worth more than £2 million. Labour appears to be targeting revenue of £1.2 billion. Given the £3,000 tax bill they propose for houses in the £2-3 million bracket this might imply an average tax of over £16,000 a year on properties worth more than £3 million;
- Given the structure of council tax – it is regressive in that you pay a lower percentage of property value the more valuable the property, and it is capped – there is a case for reform which would increase the tax on more expensive properties. We also urgently need a revaluation to end the absurd situation in which taxes in England and Scotland are based on relative values in 1991. No party seems to have the courage to propose these rational and long overdue changes. Fixing council tax would be preferable to layering a separate tax on top of it;
- The Conservatives want to increase the inheritance tax threshold in respect of primary residences at an estimated cost of £1 billion a year. It is hard to see a good economic or social rationale for such a policy. Owner-occupied housing is already tax-privileged and this policy would help lock older people into bigger and more expensive homes when both they, and those looking to buy, might be better off if they were to 'downsize';
- Labour proposals to offer a stamp duty holiday for first-time buyers is likely, at least in part, to increase house prices, thereby shifting some of the benefit to current property owners.
None of these proposals even begins to tackle the huge problems in the current design of council tax and stamp duty land tax. They are irrelevant to the fundamental problem of lack of housing supply.
With respect to changes to the social security system:
- There is remarkable cross-party agreement about the desirability of protecting most pensioner benefits. The 'triple lock' on the state pension is set to continue even though it is unsustainable in the long run as it implies state pension spending increasing indefinitely as a share of national income. It means that future pension levels will depend not just on how fast prices grow or how fast earnings grow but on whether the years with high price growth are also the years with high earnings growth;
- Despite being used as examples of ‘tough choices’, Labour proposals to remove winter fuel payments from higher-rate taxpaying pensioners and to limit cash increases in child benefit to 1% this year and next would save next to nothing;
- More than two years after first announcing a desire to cut £12 billion from the social security budget in 2017–18, the Conservatives have provided details of just a tenth of this. Given that state pensions and universal pensioner benefits are to be protected this will require cuts of 10% on average to other benefits. It is hard to see how such savings could be achieved without sharp reductions in the generosity of, or eligibility to, one or more of child benefit, disability benefits, housing benefit and tax credits.
James Browne, a senior research economist at the IFS and one of the report’s authors, said: “We have seen little coherent reform to the tax system for many years and the parties’ manifestos promise little going forward. Damage has been done, and more is being proposed, to pension taxation, while proposals on the taxation of housing lack coherence. There is a limit to the extent that we can continue to pretend that tax revenues can rise while protecting the vast majority of people. Just because a tax rise hits 'the rich' or is labelled 'anti-avoidance' does not necessarily mean it is harmless.”
Robert Joyce, a senior research economist at the IFS and another author of the report said: “The Conservatives have continued to fail to explain how they would achieve the substantial cuts to social security they say they would deliver in the first half of the coming parliament. These will be neither easy nor painless to deliver. Meanwhile, Labour claims to be taking tough decisions by removing winter fuel payments from a small fraction of pensioners and limiting child benefit increases to 1%. The former will save almost nothing – about one pound in a thousand spent on pensioner benefits. The latter is likely to save literally nothing. The manifestos have not helped us towards a sensible debate on the future generosity or structure of the benefits system.”
Notes to Editors
1. "Taxes and Benefits: The Parties’ Plans" is published by the Institute for Fiscal Studies today. For copies of thereport or other queries, please contact: Jonathan Wood 020 7291 4818/07730 667013, firstname.lastname@example.org.
2. The Nuffield Foundation is an endowed charitabletrust that aims toimprovesocialwell-being inthewidest sense. It funds researchandinnovationin educationand socialpolicyand alsoworks to build capacityineducation, scienceand socialscienceresearch. The Nuffield Foundationhasfunded this project, but theviews expressed arethose of the authors andnot necessarilythose of the Foundation. Moreinformationisavailableat http://www.nuffieldfoundation.org.