The changes to personal tax thresholds – tax rates were frozen in 2022 and are set to expire in 2028-29 – are expected to bring 4.2 million additional taxpayers into the income tax bracket, and shift 3.5 million taxpayers into the higher-rate band of 40 per cent.
In some cases, key tax allowances have been frozen since the early 1980s, meaning they have failed to keep pace with inflation for more than 40 years.
Rachel Springall, finance expert at Moneyfacts, said: “The OBR has released its latest fiscal risks and sustainability report today. The fiscal drag is prevalent, and these latest statistics should be a stark warning for consumers.
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“Savers need to take advantage of their ISA allowance and protect their hard-earned cash from tax.”
It has been stuck at £3,000 since 1981, when Margaret Thatcher was the prime minister. Adjusted for inflation, it should now be worth £11,529 – nearly four times higher.
Similarly, the dividend allowance, which is the amount you can earn in dividends every year tax-free, has fallen from £5,000 in 2016 to just £500 today. Had it tracked inflation, it would now be £6,876 – almost 14 times more, the investment service, interactive investor (ii), found.
He said: “While it’s not as obvious as raising tax rates directly, it could have a bigger impact over long periods, particularly when you see the length of time that some of these rates have been frozen.”
The higher-rate income tax threshold has been held at £50,270 since 2021. If it had risen with inflation, it would now stand at £62,059, dragging thousands more earners into the 40 per cent tax band.
The Government’s policy of freezing thresholds is coming under increased scrutiny ahead of the Autumn Budget.
Rickman explained that extending the deep freeze on tax thresholds beyond 2028 is a way for the Government to raise billions of pounds without technically breaking its manifesto promise not to raise taxes on working people.
It kicks in when someone earns more than £100,000, at which point their personal allowance is gradually withdrawn, creating an effective marginal tax rate of 60 per cent. That threshold would now be £154,789 if adjusted for inflation.
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IHT thresholds are also under pressure. The nil-rate band, frozen at £325,000 since 2009, would now be worth £517,007. While the residence nil-rate band, introduced in 2017 to protect family homes, has remained at £175,000 since 2020, and comes with conditions that exclude some households entirely.
“The introduction of the residence nil rate band in 2017 beefed up the tax-free threshold for many homeowners, but not only has this allowance not budged for five years, it’s fiendishly complex and in some areas arguably unfair.
“The combination of frozen tax-free thresholds and the Government’s proposed IHT reforms to pensions, farms and businesses, means more estates will face bigger tax bills over the coming years.”
“We are also protecting payslips for working people by keeping our promise not to raise the basic, higher or additional rates of income tax, employee national insurance or VAT.”
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