Andy Burnham’s first Budget as Prime Minister arrives on 28 October. He has committed to respecting the pledges Sir Keir Starmer set out in Labour’s 2024 manifesto, and not to raise income tax, VAT or national insurance.
But the priorities he has set out – building council houses, reforming the welfare and education systems, changing social care – are unlikely to come cheap, and the national debt stands at nearly £3trn, or 94.9 per cent of GDP. Tax rises feel inevitable.
So, who should Burnham tax? Economist Hamish McRae and former Labour policy adviser Andrew Fisher give their perspectives.
If the government needs more money – and it’s a separate debate as to whether it should concentrate on improving its own efficiency so that it does not need it – there is only one place that it can go to. That’s middle earners.
That may seem an uncomfortable judgement for many people but there are two overwhelming reasons behind it. One is the mathematics of where it gets its revenue at the moment. The other is that by European standards, British middle earners – that is, those whose income is around the median salary of £39,000 – pay relatively little tax right now. And if that seems even more surprising, that too is a question of numbers.
To see the first point, you have to look at the importance of income tax. It’s the biggest tax of all, bringing in £239bn in the last financial year. That’s 26.7 per cent of all the government’s revenue. Next comes national insurance, also a tax on income, which brings £205bn, another 16.7 per cent of revenue. Number three is VAT, which at £180bn, means the big three account for more than half all the revenue the government gets.
After that the numbers fall off quite quickly. So to make a real difference to the government’s bottom line, the amount by which you would need to increase the other taxes that are often floated – council tax, business rates, capital gains tax – would be huge.
Let’s say you think people should be discouraged from driving their cars. You whack up fuel duty, so that is £3 a litre at the pumps. You get a lot of very cross motorists, a big increase in industrial and distribution costs – meaning higher food prices in the supermarkets – and maybe another £15bn.
On the other hand, simply by putting 2p on the basic rate of income tax, that gives the government at least £15bn, probably more like £20bn.
If the government doesn’t want to do income tax, it can do the other big tax on income – NI contributions – as Rachel Reeves did in her first Budget. It seems to be bringing something close to the extra £25bn a year that was forecast. But while notionally the extra money was paid by employers rather than workers, in practise it has hit workers with lower employment, price increases and lower pay increases. It would probably have been better to have done it via income tax – less of a hit to employment, no increase in prices and less pressure to hold down wage increases – but of course politically she felt she couldn’t do so.
But if you are going to increase income tax, why not do the top rates rather than the basic rate? It is, for many people, a seductive idea: that old slogan about the broadest backs taking the most weight. But it doesn’t work, because high earners change their habits. It’s not simply a question of a few high-profile wealthy people leaving the country, though that is troubling enough.
Losing someone like Chris Rokos – the hedge-fund billionaire and, at £330m, the third largest payer of income tax in the UK, who is reportedly off to Greece – is bad news. You need 330,000 people paying an extra £1,000 a year to cover that. Since around 60 per cent of all residents pay income tax, you are talking about an extra £1,000 from every taxpayer in a city the size of Manchester.
Actually the problem is much worse than a few people leaving. The proportion of income tax paid by the top 1 per cent of earners has been falling since 2021-22. They paid 30.7 per cent of revenue then. Last year it was down to 26.6 per cent. So it’s not the fault of the present Government that those top one percenters are paying a smaller share of the total. It is a lagged response to the gradual increases in taxation of the previous governments. Put up rates too high and you get less money in, not more. That’s the phenomenon highlighted by the American economist Arthur Laffer in 1974: the Laffer curve.
It looks as though the UK’s top rate of income tax rate of 45 per cent is cutting revenue – it’s on the wrong side of the Laffer curve. So it has to be the middle earners who must stump up, and the best way to do so is by increasing the basic rate of income tax, and by cutting the top rate. Those middle earners are undertaxed.
A study by the Resolution Foundation this month looked at the proportion of their income paid by a single person on average earnings across the developed world. In the UK in 2024 it was 30 per cent. That’s very low by international standards: only New Zealand, Switzerland, Korea, Israel and Australia were lower. The rate has gone up to 32 per cent now but that’s still well below the average. In most of Europe it’s in the 40-50 per cent range, and in Belgium it’s over 50 per cent.
Reflexively shouting for high earners to pay their share might feel good, but the numbers don’t bear it out as a strategy. If middle earners want the kinds of public services and public pensions our neighbours enjoy, they’d better be prepared to pay for them.
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