Millions of employees are set to face higher tax payments following Rachel Reeves’ decision to prolong the freeze on tax thresholds. The income tax personal allowance, originally fixed at £12,570 until April 2028, will now remain stagnant for an additional three years as announced in the latest Budget. This extension means income tax thresholds will be locked until the conclusion of the 2030/31 financial year, surpassing previous estimations of a two-year extension.
The Office for Budget Responsibility (OBR) verified this information in documents released before the Budget announcement. The OBR projects that the freeze in tax thresholds will lead to an increase of 780,000 basic-rate taxpayers, 920,000 higher-rate taxpayers, and 4,000 additional-rate taxpayers by 2029/30.
Referred to as fiscal drag, the freezing of tax brackets results in more individuals being pushed into higher tax brackets over time as their incomes rise. This strategy, also known as a stealth tax, enables the government to collect more tax without formally raising tax rates.
Moreover, Rachel Reeves clarified that individuals solely receiving the basic or new state pension will be exempt from paying minor tax amounts through Simple Assessment. The new full state pension closely aligns with the £12,570 personal allowance. Reeves emphasized the maintenance of all income tax and equivalent National Insurance thresholds at their current levels for an additional three years starting from 2028.
Jason Hollands, managing director at wealth management firm Evelyn Partners, expressed concerns over the substantial stealth tax rise, emphasizing the significant impact it will have on income tax and National Insurance burdens over time. He highlighted the shift from only one in ten taxpayers paying higher-rate tax at the start of the century to a current scenario where a fifth of taxpayers are subject to the two highest tax rates.
The personal allowance denotes the threshold at which individuals begin paying income tax. Earnings exceeding this amount incur the basic 20% income tax rate. Higher earnings trigger the 40% rate above £50,270, while the 45% rate applies beyond £125,140.
Similarly, the National Insurance payment threshold stands at £12,570, with an 8% contribution rate for earnings at this level and a 2% rate for earnings surpassing £50,270.