3 October 2011

50p Rate Blah Blah Blah

Maybe the 50p rate of income tax paid by the highest earners on incomes over £150,000 is bringing in a few hundred million a year. Maybe it isn't. Either way it won't be raking in billions.

What the debate about the 50p rate is all about generating headlines without really changing much. The government fiddles about with a few hundred million to grab headlines all the time. The government will spend £680bn this year. Throwing a fraction of one per cent of its tax raising and spending power changes nothing fundamental about the impact government has. The Coalition's commitment to raising the personal allowance to £10,000 (as promised by the Lib Dems) is a much bigger shift that will cost the Treasury £17bn once it has been realised (and benefits lower earners the most). Now that's what I call income tax reform.

There is nothing wrong with rewarding success - cutting the 50p rate to 40p would do this a very little bit. There is also nothing wrong with wanting to see the richest pay more of their fair share - keeping the 50p rate would do this a very little bit.

But given the trivial size of the change, it's frustrating is seeing progressives get drawn into this debate.

Yes, income tax is progressive and is directly linked to the ability to pay. Yes, the marginal rates look stupid when plotted on a graph and a few tweaks would make it technically fairer:

However, any changes to income tax of this nature would only affect a tiny amount of the money earned by the richest 5% shown in this graph:

Getting into a heated debate about the top end of income tax is like arguing over the position of a few grains of sand in a sandcastle, when what the argument should be about is what overall shape the sandcastle should actually be.

As an example, take property. The richest 5% of property owners have a hugely disproportional amount of wealth compared to the rest of us.

Fiddling with income tax will do nothing to redress this inequality. If anything it will distract attention from the fact that such a huge wealth disparity exists.

It is measures like Vince Cable's mansion tax that would really get the ball rolling on redistributive taxation.

(Hat-tips: Adam Corlett for the marginal income tax rate graph and ALTER for the income and property distribution charts from this PDF.)


Hal Berstram said...

I agree with you on your general points about the 50p rate and the mansion tax, but raising the personal allowance is a very inefficient way to help low earners because most of the gain goes to people much further up the income distribution. If you have £17bn to play with, much better to use it to reverse George Osborne's highly regressive VAT increase, and/or to boost in-work tax credits, which do much more to help low income working families.

Bolivia Newton-John said...

Completely agree. What is most depressing is hearing people saying that it wouldn't matter if the 50p rate was found to raise little money, as it "sends a message", and they admire the totemicity of it. To say that is an unhealthy attitude to the mechanics of the tax code is an understatement.

With regards to Hal's comments above, I think there is an argument for bringing the 40p threshold down slightly to compensate for some of the revenue shortfall, as I remember SLF (or members thereof) suggesting. This would be even better if it were brought down substantially and combined with a reduction in the headline rate to keep the overall tax base the same while removing low earners from income tax.

Adam Corlett said...

The value of the rate itself may be, ahem, overrated. But here's an interesting quote:

"From 2010–11, a new 50% rate of income tax applies to incomes above £150,000. The government estimates that this directly affects only 275,000 individuals, out of an adult population of about 49 million. Yet the income tax rate applying to the very highest earners has an importance out of proportion to their numbers, simply because they are such an important source of revenue: even before this reform took effect, a quarter of income tax was paid by the top 1% of income tax payers, just over 300,000 individuals. That is a fact worth repeating. One pound in every four collected by the income tax system comes from just 1% of income tax payers. Of course, this largely reflects just how much more pre-tax income the top 1% of taxpayers earn than the bulk of the population do."

So taxing this small minority's income is a lot more significant than one might think. And, as I've written elsewhere, the top rate (changed to 45%) could be extended to all income over, say, 60k, which would be quite a change though still only affecting a relatively small number of people.

But I think I agree with your point. I've been writing quite a bit about scrapping National Insurance, and this would be a revolution compared to changing the additional rate. But then I think that introducing a large Land Value Tax would be yet more significant.

It is indeed odd that the Tories are going on about this rate but don't have any plans for replacing or even updating council tax. Maybe we do need to shift the debate, but this is hampered somewhat by the fact that LD tax policy won't be finalised for another 2 years!