Tax and the cost of living

The Conservative Party is choosing a new leader, who will become the UK’s next Prime Minister. One of the key issues throughout the campaign has been tax cuts. All the candidates – including Sunak and Truss who remain in the contest – wish to cut taxes. The only differences between candidate have been which taxes, by how much and when.

There are lots of reasons given for tax cuts, both good and bad. But it is really important to understand what they are inevitably bad at doing, which is targeting money at the least well-off families.

Under the current tax regime almost all tax cuts necessarily benefit the wealthiest half of the population.

Everyone is being affected by higher prices, and it is a legitimate aim for government to spread money widely throughout society to temper these rises for everyone. Tax cuts can do that. Tax cuts do not, however, target money at those families with the lowest incomes who were already struggling. Usually, they target money at higher earners.

Lots of tax cuts are justified by their benefits to the poorest families, but closer inspection gives a different view. For example, the raising of the income tax personal allowance by over £3000 between 2010 and 2014, took “3 million of the lowest paid workers out of income tax altogether”[1]. This was true, but it also targeted much more money at the top half of the income distribution. Because the poorest don’t pay income tax, the cut didn’t affect them. To benefit fully from the tax cut, your family needed to have two relatively high earners. The result of a tax cut which took “3 million of the poorest families out of income tax” was that the least well off fifth of households gained around £10 year while the wealthiest fifth of families gained around £500[2].

Despite the fact that raising the personal allowance targets money at wealthier families, it does so less than simply lowering the basic rate of income tax. A basic rate cut of 1% would forgo around £5Bn of revenue – £2.5Bn of which would go to the richest fifth of households.

The same is true of indirect taxes such as VAT or fuel duty. In total, these indirect taxes form around 16% of household of expenditure independent of your household’s total level of spending. As the poorest fifth of households spend a lot less per year than the richest fifth (~£25,000pa), cutting direct taxes targets money at the highest spenders.

Simply put, the poorest people in communities earn less and spend less– so cutting taxes on earnings or spending helps them less.

There are multitude of potential reasons to reduce taxes, each with its pros and cons. However, if your justification for cutting taxes is helping the poorest, you should be honest and mention that a “side” effect of helping the poorest will be to give even more money to the richest.

The benefits system targets money at the poorest families

The best way to get money to the poorest families is via the benefit system which is (imperfectly) designed for the job. No contender for the leadership has yet made proposals to do this.

Fuel prices rise by further £800 in October, possibly more. Many of the people I have met in church drop-ins and foodbanks over the past few months just have no idea how their budget can stretch. They will need targeted help, which tax cuts can never be.

Click here to read JPIT’s briefing on the cost of living crisis.

[1] Tax change ‘no help’ to the low-paid workers | Autumn statement | The Times

[2] A £10,000 personal allowance: who would benefit, and would it boost the economy? – Institute For Fiscal Studies – IFS


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