Why simplifying our tax system is just too complicated

We have written here before – several times before – that merging National Insurance (NI) and income tax would be an honest thing for a government to do.

There is no special insurance fund in the UK that somehow pays for welfare, social care and the NHS, everything goes into and comes out of the same pot. National Insurance is just income tax by another name, so why not just say it like it is (we are keen on this kind of thing) and call it income tax?

The Independent suggested at the weekend that George Osborne is keen to have a go – so much so that he almost announced it in his last Budget, and is sure to do so if his party wins another election. I wonder if he really will.

His excuse for not doing it already is apparently that it would involve the merging of two computer systems – and that’s complicated. But it is nowhere near as complicated as some of the other issues that merging the two taxes would throw up.

There is the fact that NI kicks in at a lower rate than income tax – so it would suddenly become obvious that the raising of the income tax threshold to £10,000 hasn’t actually taken x number of people out of the income tax net.

Then there is the fact that pensioners don’t pay NI – so, it would suddenly become obvious to the already resentful younger generation that they are paying a lot more tax than the older generation, despite the fact that they are unlikely to see the same benefits (is anyone expecting there to be non-means-tested winter fuel payments in 30 years?).

Next is the way it would affect pensions. If you save into your pension via salary sacrifice, your NI gets chucked in too. If you don’t, it doesn’t. But if NI were income tax, everyone would get the extra relief. That could be expensive. There are similar problems with other employee benefits.

Then there is the difference between the tax rates on earned income and unearned income. It is irritating that you pay more in income tax than you pay on dividends. But call NI an income tax and it will become clear just how much more.

Earn over the higher rate threshold and you pay 42% on your earned income and 25% on your dividends (the 10% tax credit is a notional nonsense – I’m ignoring it). At the lower rate, it is 32% (yes, the basic rate of tax in the UK is 32%) and 0%.

The same problem would arise with savings accounts – you pay no NI on the interest from these, so it would immediately be obvious to people that if they were working, they would be paying 32% in income tax, but that if they were living off savings, they would be paying 20%.

I’m all for the merger and all for tax simplification, but this discussion makes one thing at least clear: our tax system is so complicated that it is virtually impossible for even well-meaning politicians to simplify.

PS Want to know what your effective income tax rate is? Damien Fahy of Moneytothemasses.com suggests visiting listentotaxman.com. Enter your gross salary and tax code and click ‘calculate’. Take the resulting number and divide it by your gross salary. Tell us how shocked you are (or not) below.

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18 Responses

  1. 01/07/2014, mr clyde wrote

    I don’t think you mean that ‘it is virtually impossible to simplify’ I think you mean that it is ‘politically virtually impossible to simplify’. Which says a lot about the general level of stupidity of the electorate.

  2. 01/07/2014, GFL wrote

    Indeed Merryn, I have been saying this for some time. A 42% tax bracket at £42k is insane – this is a very average wage, especially in the south east.

    But things at the lower end of the earning spectrum are even more dire; it’s crazy someone on 27k pays 21% in total income tax (IT and NI) – I challenge anyone to buy and house and raise a family on that income (based on today’s prices). This is apparently the national average!

    The unintended consequences are only the well off (which is a fairly small % of the population) and poorest in society can afford to have 3 or more kids.

    Does anyone know a good fund that specializes in stolen JD Sports clothes? I heard this sector is currently operating on a PE ration of 0.25

  3. 02/07/2014, Mombers wrote

    Merryn, you’d do well to include the effect of so-called ‘employers’ contributions’. It’s an absolute myth that employers pay it, it comes directly out of lower wages. It’s therefore the same as income tax and changes the equation so that all calculations take £113.80 as the amount that an employer has to stump up to pay a worker £100. Basic rate is then £68 net from £113.80 gross = tax rate of 40.2%. Higher rate is £58 net from £113.80 gross = 49.0%. Additional rate is £55 net from £113.80 gross = 51.7%. So we do after all have quite a flat rate of tax (on labour income only). Pity the rates are so high! And a pity that there’s such a huge incentive to dress income up as not being subject to NI

    • 02/07/2014, Clive wrote

      If they scrapped employers NI tomorrow, wages wouldn’t move at all. People have already agreed (even if they’re not “happy”) to work at their current wages.

  4. 02/07/2014, Boris MacDonut wrote

    It is easy to simplify but the politicians fear the headline rates. To bring in the same amount we simply need 5 rates of income tax; 10% on the first £7,000, 20% on the next £14,000, 30% on the next £28,000, 40% on the next £56,000 and 50% above £112,000 after pension contributions and with all Nics and personal allowances abolished.

  5. 03/07/2014, r wrote

    There are some myths in your article, I think. The threshold for NI and ICT can easily be made the same; they are changed every year in the budget. There will not be a need to combine the computer systems because the NI system will become redundant and everything will be calculated by the ICT system (if it can cope) and the differences in allowances (an no NI) for pensioners can easily be accommodated by a relevant change in the tax code.

    I am sure that any government will make it as complicated as possible but it needs to be done. If the amount of tax we pay becomes more transparent, there may be an outcry (at last) to get the governments (plural) to reduce their excessive spending of money they haven’t got.

    r.

  6. 03/07/2014, r wrote

    @Mombers:

    As a former employer, I can assure that the employers DO pay their contributions every month. It doesn’t directly affect wages because these have already been agreed but it does make less money available for future wages and future investments.

    r.

  7. 03/07/2014, Boris MacDonut wrote

    It also draws attention to the real main rates of income tax which are 32% so called lower rate, 42% so called higher rate and 47% for those earningn £150,000 plus. The richest pay only an extra 15% despite having 13 times as much income.

    • 04/07/2014, Clive wrote

      32% is the marginal rate for lower income earners. Somebody on £30K, above the national average wage, loses around 24% in tax/NI (see http://www.worksmart.org.uk/tools/tax_calc.php)

      As to highest rate payers (unfortunately not me), I can’t see how they have “13 times as much income”. If they’re on £150,000, the person they have 13 times more income than will be on approx £11.5K, and they certainly don’t lose 32% of their income to tax/NI.

      • 05/07/2014, Boris MacDonut wrote

        Clive, the typical 45% top rate payer earns £360,000. The rich tend to earn in excess of the minimum threshold. We would indeed be more equal with your suggestion of a £150,000 maximum wage cap.

        • 07/07/2014, Clive wrote

          Boris

          That tax site I mentioned shows
          £360,000 earner pays £154K tax, £10K NI
          £30,000 earner pays £4.4K tax, £2.7K NI
          hence, former earns 12 times more, but pays 23 times more to the government. Strikes me as fair

          “We would indeed be more equal with your suggestion of a £150,000 maximum wage cap”
          I didn’t suggest that

          • 08/07/2014, Critic Al Rick wrote

            Your figures:

            The £30,000 earner nets £22,900 and maybe has £2,000 of disposable income

            The £360,000 virtual self-serving playing-field rigger nets £196,000 and maybe has £150,000+ of disposable income.

            So the rigger probably has 75+ times more disposable income than the earner, and probably ponces around in a suit all day.

          • 28/07/2014, Boris MacDonut wrote

            Most £360k earners pay at least 10% tax free to a pension.But that still only leaves them paying 41% of income to the common fund.
            You are guilty of assuming £360ki is normal. It is not. Only 1 in every 225 people earns that much. Too much. 13 times more than average.

  8. 04/07/2014, GFL wrote

    Haha – Boris it’s a percentage, so 15% more of a much bigger number is a lot more tax (in absolute and percentage terms)

    • 08/07/2014, Critic Al Rick wrote

      See above example.

      So the earner probably has less than 1.33% the disposable income of the virtual self-serving rigger of the playing-field.

      So why shouldn’t the rigger be paying a lot more tax than the rigger currently does? Because the rigger is part of the self-serving Establishment of Riggers.

    • 28/07/2014, Boris MacDonut wrote

      GFL. Don’t be so disingenuous. The fact is the typical 45% taxpayer earns £360k which is 13 times average pay. Most of our current problems are routed in the inequality imposed by Thatcher and her ill informed advisers.

  9. 07/07/2014, Rambler wrote

    Politics will make any change extremely difficult. But one change that would reduce the legal expense and the efforts of highly paid lawyers and accountants to find ever more advanced tax planning systems would be a simple change to the law. Historically the UK worked more on the “spirit of the law”, now it is the “word of the law” and as with the US this means ‘manna from heaven’ for lawyers. To update legislation to start with an intent of what the law is meant to achieve with a clause stating that where there is a potentially different interpretation to this intent due to the wording used, then the intent of the law will take precedence over the wording if the ‘new’ interpretation contravenes the intent. This would make complex tax planning a much harder proposition for companies to undertake and would simplify how tax is conducted by HMRC.

    The only problem is that many of the politicians are lawyers and would not be so happy with the above change.

  10. 07/07/2014, quark wrote

    Merryn, saying that you pay less tax on dividends than on income tax, perpetuates a general misunderstanding of the tax credit system, which was designed to sort out the problem of double taxation. This is also a selling point in the promotional material for your company’s Dividend Letter and it’s a tax that should really by understood by financial journalists and not twisted in the way it is, when discussing dividend income tax, or in the case of your company’s Dividend Letter, to promote it as a 10% tax.

    Not many people understand the tax credit system because it’s complicated, which of course ties in with your article, so no arguments there; but to claim that tax on dividends is 10% is simplistic. Maybe an article in Money Week on the subject by an Accountant, may help educate both your readers and your promotional department.

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