Britain’s households face a fresh squeeze on living standards despite a series of Budget giveaways – with frozen tax thresholds set to drag millions more people into paying income tax and into higher tax bands.
The Chancellor’s first Budget saw him preside over a raft of giveaways – including a surprise £100 cash payment into the bank accounts of up to 20 million households in council tax bands A to D in England to help with energy costs. Similar support will also apply to households in the rest of the UK.
But the economic watchdog, the Institute for Fiscal Studies (IFS), warned that it was a “fiddly” Budget, with “very little that will move the dial on growth”. It pointed out that the Office for Budget Responsibility had downgraded household income growth in this Parliament from 0.7 per cent to 0.4 per cent – the second worst since 1979, with only the last Parliament worse.
Economists also pointed out that the energy relief measures – including the scrapping of the standing charge – the fixed daily fee households pay for being connected to the gas and electricity networks – would be more than offset by an effective tax rise as income tax thresholds remain frozen.
Stealth taxes
Analysis for The i Paper by tax consultancy Blick Rothenberg suggests that frozen income tax thresholds will leave people earning between £20,000 and £50,000 facing an extra tax hit of £717 in 2026–27, rising to £814 in 2027–28.
For someone earning £60,000, the estimated figure rises from £2,079 to £2,177, while those earning between £70,000 and £100,000 face a hit of £2,151 this year, increasing to £2,443 next year.
The effect, known as fiscal drag, occurs when tax thresholds remain frozen while wages rise – meaning people pay more tax as a greater proportion of their income becomes taxable or they are pushed into higher tax bands.
The impact is expected to grow over time. Forecasts show that by 2031–32, 6.7 million more people will be paying income tax and 5.4 million more will be paying the higher rate than if thresholds had risen in line with inflation.
The freeze, introduced by the Conservatives in 2021 and extended by Rachel Reeves until 2031, is therefore set to bring millions more into the Exchequer and push more earners into the 40 per cent band.
A spokesperson for the Liberal Democrats said: “The last thing millions of people need is a massive stealth tax penalty just as energy bills rise and inflation soars.”
‘Grim’ picture of living standards
The Office for Budget Responsibility (OBR) painted a “grim” picture of living standards, forecasting that households will be little better off than before the Covid pandemic.
Its forecasts suggest real household disposable income per person – a measure of the purchasing power of household incomes – will be just 1 per cent higher in 2030 than it was a decade earlier.
Professor David Miles, a member of the OBR’s Budget Responsibility Committee, told journalists on Wednesday afternoon: “It’s a pretty grim picture.
“If you go back to just before Covid and take that as your base, where we are right now, which is seven years later, is virtually no growth in per person real household disposable income. That’s pretty unusual in the history of the UK.”
Miles said the stagnation in living standards has been driven to a large extent by “very big increases in energy prices” following Russia’s invasion of Ukraine in 2022, and then the closure of the Strait of Hormuz this year because of the US-Iran war.
He said it was “very hard” for the UK to escape these energy price shocks because “we’re a big importer of energy”.
Miles said that the “negligible” annual growth in households’ disposal income since the pandemic added up to a “dismal period in British economic history”, and that it had been a “rather a dreadful period since the financial crisis of very low growth in GDP per capita”.
More optimistically, he said that the forecast for GDP growth at the backend of the OBR’s forecast is “really rather strong”, with the watchdog predicting that annual growth will hit 1.8 per cent in 2029.
Promise of ‘breathing space’
Healey used his Budget to repeatedly promised to give struggling households “breathing space”, using the phrase 13 times in his speech.
On pensions, he introduced a new allowance from April 2027 to prevent pensioners whose only income is the state pension from being dragged into paying income tax as payments rise.
The measure fulfils the Government’s pledge to protect pensioners from tax bills caused by increases to the state pension, although it does not exempt all pensioners from income tax.
The Chancellor also reversed Rachel Reeves’s plan to cut the annual cash ISA allowance from £20,000 to £12,000.
However, from April 2027, tax rates on savings interest and rental income will rise by and two percentage points at each tax band, on top of last year’s 2 per cent increase, so a 4 per cent increase altogether from April, increasing bills for savers and landlords.
But the Budget faced questions over its approach to longer-term challenges, including welfare reform and defence spending.
The welfare bill is forecast to be around £8bn higher by the end of the decade than projected in March, raising questions about the Government’s plans to control spending.
On defence, the Government did not spell out how it would meet its commitment to increase defence spending to 2.5 per cent of GDP by 2027, leaving uncertainty over how the target would be funded alongside other spending priorities.
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