The £10,000 personal tax allowance: anything but progressive

In yesterday's budget George Osborne announced that the personal income tax allowance would be raised to £10,000 from next year, earlier than 2015 as originally planned. Superficially taking people out of income tax does sound like a tantalising prospect - poorer people will have more money in their pockets, will they not? There are two major problems with this.

In yesterday’s budget George Osborne announced that the personal income tax allowance would be raised to £10,000 from next year, earlier than 2015 as originally planned.

This has been lauded by some in the media as a progressive measure. Cue the Telegraph:

The Government had planned to raise the threshold to £10,000 by the end of this parliament, but George Osborne fast-tracked the plan to help low-income households.

And according to yesterday’s Mail:

Millions of Britain’s hard-pressed taxpayers will find themselves up to £705 better off after the coalition today delivered on its flagship tax cut a year early.

Superficially taking people out of income tax does sound like a tantalising prospect – poorer people will have more money in their pockets, will they not?

There are two major problems with this.

As the below graph shows, the greatest percentage change in net income from the personal tax free allowance of £10,000 is seen by those on the upper end of the income scale – not, as is often claimed, low earners. The important line is the purple one (or is it maroon?), which accounts for the policy as proposed by George Osborne.

The blue line represents the Liberal Democrats original proposal which Osborne has adopted without the corresponding adjustment of the higher rate threshold.

10 thousand allowance

For one thing, the policy only benefits those who earn enough to pay tax. Many individuals have income below the income tax threshold of £8,105. Analysis carried out for Left Foot Forward in 2010 found that some three million households in the poorest quarter of the household income distribution would not benefit from raising the personal allowance to £10,000.

That’s right, three million of the poorest households gain nothing from the change.

As the report also concludes, increasing the personal allowance serves to increase the gap between the bottom and the middle, resulting in low income households falling behind relative to the middle.

The reason it benefits those on the right of the graph more than it does those on the left is because a raise in the personal tax allowance cuts tax for everyone since all benefit from a higher tax threshold.

Another concern for the Left should be the move away from the idea of contribution. An important facet of the welfare state is the notion that everyone contributes into a pot which is then available in times of need.

Indeed, one of the challenges for progressives in the coming years will be making the connection in the minds of voters between the tax they pay and the benefits they receive from the welfare state. Or as the American Jurist Oliver Wendell Holmes once said, that taxes are the price we pay for a civilised society.

Taking people completely out of income tax has the opposite effect, as Right-wing Tories are probably quite aware – their Liberal Democrat counterparts should know better.

It’s not only those on the Left who have in the past expressed concern about increasing the personal allowance. Here is David Willetts in 2005 (page five):

Increasing the threshold cuts the tax bill for everybody. It takes some people out of income tax, but it is worth most to people who are still paying income tax and get the full benefit of the higher threshold. When I asked the Treasury last year how much it would cost to raise the personal tax allowance to £10,000, it estimated the cost at £30 billion. Of this, only about £2 billion was spent on people who are taken out of tax altogether and it is worth least to people on low incomes who don’t get the full value of the policy…My conclusion is that we should both reform our tax system and help poor people. But these are different problems requiring different solutions (The Times, 23 June 2005).

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23 Responses to “The £10,000 personal tax allowance: anything but progressive”

  1. LB

    The more tax makes you richer argument.

  2. Claire Newton

    What you also neglect to mention, is that many of the families that might be taken out of tax will be no better off as they rely on tax credits and housing benefits. The difference in tax will not be enough to remove that need and as the benefit ccap comes in, they will still be worse off in the end.

  3. Chris

    It’s pretty ridiculous to throw stones at this policy. It’s a good policy (unsurprisingly, it’s not from the Tories but the Lib Dems). If you stop increasing the rate where you start paying higher tax (or even pull it down a little bit, so you start paying 40% earlier), then that would counter-balance most of these criticisms.

    People who don’t benefit because they earn very little (to be earning under £8k, that’s almost certainly part-time working, so lets be honest about that first off) already have things like working tax credits to help them. Doesn’t mean you shouldn’t raise the limit…

  4. Jonathan Roberts

    Taxes are indeed the price we pay for a civilised society. But remember this is just income tax – one of the many, many different forms of taxation people pay. People will still contribute to the Exchequer through national insurance, VAT etc. So they are still living in accordance with Beveridge’s ‘contributory principle’. It provides some (but not a full) counterbalance for cuts to tax credits etc. So people are keeping more of their own money whilst relying on the State a little less. That is a good thing.

    The Left has repeatedly made the argument that demand has been sucked out of the economy, because people have less money in their pocket, and that contributes to stangant growth. This move allows people to keep a bit more of their money – which most would subsequently spend in the economy. It eases the burden on a significant number of people, and that should not be sniffed at.

  5. Roger McCarthy

    Well said – the answer is a much more progressive tax system with much lower rates for low earners and much higher rates for high earners – personal allowances are after a certain point regressive.

  6. Charlie_Mansell

    Its a very clever Lib Dem policy designed to show they have delivered to ‘strivers’ in Quartiles 5-8 which are more likely to be above-average in the 47 Lib Dem Tory battlegrounds. Perfectly understandable that Tories may also want to start claiming credit too, but I think the Lib Dems have pwned this policy as the Tories still clearly seem to think its framing is a ‘detox’ one just about redistribution and targeting for the low paid, when it is a very effective ‘lower middle class tax break’ aimed at what might now be seen as the emerging Lib Dem ‘core vote’ in those 47 seats.

  7. Philip Conway

    So it ‘only’ benefits those earning over £10k pa? Questionable use of the word ‘only.’

    Sure, that doesn’t help the poorest workers in the country and that’s wrong but bemoaning a measure that ‘only’ helps those earning over £10k is a surefire way to alienate most of the country!

    The above article makes it sound like those earning £11k don’t need the money.

  8. Ash

    The point is, we could just use tax credits to benefit those earning above *and* below £10k – but in a progressive way, with lower earners seeing the biggest benefit and higher earners the smallest? That would be a tax cut in all but name, and would cost far less because it would be much better targeted.

  9. David Williams

    Raising the allowance is bad. So then, the best policy is to reduce it? I’m sure that’ll be popular.

  10. Ash

    Good to see this argument still being pressed. I get the impression that more people now ‘get’ it, too, compared with three years ago when it was first being made.

    Just to note an inconvenient truth here, though: what goes for raising the personal allowance goes equally – well, OK, half as much – for reinstating the 10p tax band. Although removing that band in order to cut the base rate from 22p to 20p was a regressive move – with higher earners gaining and lower earners losing out – it does not follow that reinstating it now would be a progressive thing to do. In fact its distributional impact would be the same as that of raising the personal allowance – i.e. higher income households seeing more benefit, and the lowest income households missing out altogether.

    I hope and suspect that the 10p tax band is a bit of window dressing for the benefit of people who don’t understand these arguments, and does not represent a serious shift from a progressive tax-credits approach to helping low-income households, to a regressive tax-cuts approach.

  11. Ash

    No, the best policy is the one that achieves the largest reductions in the net tax burden on low- and middle-income households at the lowest cost, and in the most progressive way. Tax credits would be the obvious candidate.

  12. Mick

    Millions will still benefit from an overall tax cut and Osbourne is to be applauded.

    And it goes against the hypocritical left wing grain of having higher taxes anyway, then ignoring a Labour problem of highertaxes squeezing folks out.

    It was because costs like that went up so much that Brown ‘needed’ to roll out tax credits the way he did.

  13. Ash

    “If you stop increasing the rate where you start paying higher tax (or even pull it down a little bit, so you start paying 40% earlier), then that would counter-balance most of these criticisms.”

    No it wouldn’t, because most of the higher-income households getting the maximum benefit of this tax cut include at least one basic-rate taxpayer. Generally speaking, households towards the top of the income distribution are going to be households in which two people are working full-time on mid-to-high incomes (20k-40k each).

    “People who don’t benefit because they earn very little… already have things like working tax credits to help them. Doesn’t mean you shouldn’t raise the limit…”

    If there was a proposal to increase tax credits in order to counter the regressive impact of the this policy, you might have a point. But of course there isn’t; on the contrary, the £15bn cost of raising the personal allowance means there has been additional pressure to *cut* tax credits. What’s happening is that money is being taken away from low-to-mid income households in the form of tax credits (and other benefits) and handed to mid-to-high income households in the form of tax cuts.

  14. LB

    Except Osbourne isn’t solving anything. The problem is spending more than you take in tax.

    Now I personally think that MIn wage and the tax threshold should be the same.

    The benefit cap needs to be below min wage.

    Otherwise you get perverse incentives like the woman on breakfast TV this morning.

  15. Mick

    There’s stacks more to be done, I agree.

  16. John D Clare

    Raising the tax threshold is merely another Tory strategy to help companies pay lower wages.

  17. Lucas

    Indeed, the 40% tax rate has been lowered.

  18. Bob

    If the personal allowance is funded by increased tax rates, it is progressive. This is true but cutting tax rates won’t help those under 10k either.
    The best way to think of personal allowance increases is a reverse poll tax of £x above a certain number. This benefits the middle most, and the rich less as the £500 less in tax is worth less in proportional terms. The very rich(over £100,000) and poor see no change.
    Take these examples:
    A: A flat tax of 30%
    B: A flat tax of 40% but with a £10,000 personal allowance
    C: flat tax of 50% with a £10,000 citizens income
    B is more progressive than A, but C is much more progressive than either. A citizen’s income combined with a flat tax removes welfare traps and reduces money spent on administration. It can be very progressive (high flat tax e.g 60% and citizens income) or regressive (low citizens income of around £2500 and low tax rate.) Basically high earners pay back their citizens income or allowance in tax, so no need for means testing. Although it appears like tax and spending increased compared to means testing, ultimately it is what you get net from the system that matters, and most people will be better off due to low costs of administration.
    Left wingers should support a citizen’s income and flat tax. If the income is set at the poverty line, we have a chance to ABOLISH poverty in the UK. It is only the effective income tax rate that matters. This is transparent and the electorate can vote on the precise citizens income/tax rate. Also work is always encouraged and everyone is treated equally and fairly.

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  20. The Panama Papers Reveal Something We Already Knew: it’s One Rule for the Rich and Another for the Rest of Us – Hub Politic

    […] secret giveaways to the rich, for example, the increase in the personal allowance to £10,500 benefits the richest more than it does the poorest. In his resignation letter last month, Iain Duncan Smith […]

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