Chancellor Rachel Reeves has decided against revising Labour’s manifesto pledge to increase income tax rates in the upcoming Budget, potentially saving the Treasury billions. Recent estimates suggest that reducing the income tax threshold for higher earners could generate around £9 billion in revenue.
Speculation arises as to why this decision was made, with some attributing it to an improved financial outlook. The Office for Budget Responsibility now projects a smaller deficit of around £20 billion instead of the previously anticipated £30 billion, presenting a challenging scenario for the Chancellor in terms of balancing tax adjustments and budget cuts.
One proposed solution involves lowering the income tax thresholds, particularly targeting the higher rate earners. The Resolution Foundation suggests that by reducing the higher rate threshold from £50,270 to £46,000 by 2029/30, the Treasury could potentially raise £9 billion. This alternative surpasses the previously considered plan to raise £6 billion by increasing income tax rates by 2p and decreasing employee national insurance correspondingly.
While such a move could protect many lower earners, it is expected to impact approximately 30% of the workforce, including a significant number in the public sector. The experts at Pantheon Macroeconomics propose that a 10% reduction in all income tax thresholds by 2028/29 could yield £17 billion. However, they acknowledge that such measures might deviate from the original manifesto promises and could face political challenges.
Reports suggest that Chancellor Reeves may opt to extend the freeze on personal tax thresholds and National Insurance for an additional two years starting in April 2028. This strategy, labeled as a “stealth tax,” gradually increases the tax burden on individuals as their incomes grow, potentially resulting in increased revenue for the government.
The Institute for Fiscal Studies warns that if the freeze continues, even individuals earning the minimum wage may be liable for income tax with minimal hours worked by 2029/30. The organization also highlights that more recipients of the full new state pension could fall into the tax-paying bracket by 2027/28 due to these policies.
Matthew Oulton, a research economist at IFS, emphasizes the significant impact of the ongoing freezes on personal tax thresholds, indicating a substantial rise in taxes across various income groups. He suggests that adjusting tax thresholds could be a viable option for the Chancellor to generate additional revenue and redistribute the tax burden effectively.