The Garrulous Jay – Marginal Gains

Question: how many rates of income tax are there in the UK (excluding Scotland)? The answer is probably more than you think at twelve.

The easy bit of the answer is the headline tax rates on earned income: Basic 20%, Higher 40% and Additional 45%. But for completion the 0% rate on the personal allowance should also be included, so there’s your first four.

Then there’s National Insurance contributions, which employees pay at a starting rate of 8% and a higher rate of 2%. That’s unless they are married women or widows who elected to take lower state benefits before April 1977 and who pay a starting rate of 1.85%. So three more rates there.

Next the lower rate of NI contributions of 6% paid by the self-employed needs to be added to the list, and for completion the voluntary rate of £3.50 per week should also be included. Add two.

Finally, it should be remembered that none of the above applies to the tax on dividends where the rates are: Basic 8.75%, Higher 33.75% and Additional 39.35%. Completing the set with three further easy-to-remember rates.

Of course, the actual amount people pay in tax on income, not to be confused with ‘income tax’, is determined by the interplay of the latter with National Insurance contributions. This means an entirely different set of what are known as ‘marginal tax rates’ apply.

For example, there’s the marginal tax rate for people earning between £12,571 and 50,270, which is 28%. This is a combination of 20% Basic Rate income tax and 8% Class A NI contributions.

Then there’s the ‘killing zone’ for those that earn between £100,000 and £125,140 who pay an effective marginal rate of 62% because their personal allowance is tapered away at a rate of £1 for every £2 they earn above this threshold.

Finally, we shouldn’t forget those sprightly folks in their late sixties or older who pay no NI on their earned income because they are above the State Pension age.

Talking of the State Pension, none of the above is to address the anachronistic absurdity that links an individual’s entitlement to this to their NI contributions.

Small wonder then that the UK tax code as a whole is cited as being one of the longest and most complex in the world, with some estimates putting it at over 10 million words. That’s the equivalent of twelve times the Complete Works of Shakespeare (but not quite as inspiring).

My point here is that complexity breeds cost and can lead to mistakes. It also hinders understanding which, perhaps cynically, makes me wonder whether that’s why politicians of all stripes persist with the lunacy of the National Insurance system which, of course, also covers employers.

I cannot help but think therefore that a unified regime for the tax on income, conflating income tax and NI and doing away with the personal allowance taper and the exemption for pensioners, would save an awful lot of money, increase clarity and potentially reduce underpayment.

Go on, Rachel, be brave… You know it makes sense.