THE CHANCELLOR HAS proclaimed he will save two million low-earners the trouble of paying income tax at all through his changes to the personal allowance, and has concurrently been lambasted for attacking dear old grannies by cutting pensioner allowances.
Those groups know where they rank in George Osborne’s priorities. But in the centre of these groups is the working majority – the ‘squeezed middle’ – for whom the changes in personal allowances provide a conundrum.
The good news is that the personal allowance will increase by £1,100 to £9,205 from 6 April 2013; a quarter of the benefit will be passed on to higher rate taxpayers. That comes with the the decision to cut the top rate of income tax next year from 50% to 45%.
The less good news?
There will be a £2,125 cash decrease in the basic rate limit, taking it to £32,245, which is expected to bring 300,000 into the higher rate band.
And a few quiet voices are lamenting a missed anomaly: due to the phasing out of personal allowances for those earning between £100,000 and £116,000, that group will now effectively pay a rate on income tax of 62%.
“The increase in the personal allowance is good news, but the squeezed middle – income around the higher rate threshold – has little to cheer,” says Tony Spillett, tax partner at BDO.
“Equally, those earning £100,000 will be wondering how their marginal rate of tax is allowed to remain at 62%.”
Andrew Shaw, head of personal tax at Kingston Smith, points out this hidden anomaly will cost anyone with income over £100,000 £1 of their personal allowance for every additional £2 of income.
Indeed, the business and accounting communities are split on whether this will hinder or help the overall raison d’etre – to stimulate national economic growth, to get all hands to the pump. Though some think the hidden higher rate will de-motivate that income group, slowing their input into the economy, others say it will lead to small business owners becoming limited companies to take advantage of the cut in corporation tax.
“We’ve got the message, from talking to our members, that higher rates of income tax can be a deterrent to effort,” says Richard Baron, head of taxation at the Institute of Directors.
“When you see that if you earn an extra £100 and you only get to keep £58 of it, after paying national insurance as well, you’ll think ‘was it really worth all that effort’? People will think twice about applying for promotions because they’ll now take home less of a pay rise,” adds Baron.
“Or it could be a case of deciding not to put in the overtime because it isn’t worth it for the amount of cash you’d get out of it.”
Jan Lockley, head of tax at chartered accountants Berley, is less fatalistic. “I think the idea those individuals will work less hard or stop wanting promotion is absolutely absurd.
“If you’re doing a job you usually want to do it to the best of your abilities. If a promotion does involve an increase in salary, at the end of the day you will still have that increase – but equally it will lead on to bigger and better things,” she says.
“If you give yourself a ceiling and don’t progress beyond it because you perceive you get no value from it – well, that is very short-sighted.”
Lockley adds that in the aftermath of the Budget many of her clients, who are sole traders, have been in touch to ask about converting into limited companies, to take advantage of the cut in corporation tax. Surely that indicates that those individuals might shortly be making a greater contribution to the economy?
“That is still a numbers game – you still need to work out if it’s worth it for you with the extra professional charges that come with incorporating. But I think once all the figures are known and have been modelled, we’ll probably end up taking most of our clients that way,” she says.
Lockley adds that she thinks the changes are broadly good for individuals and believes that those earning between £60,000 to £70,000 will be marginally better off, to the tune of about £200-300 a year.
“I think they’ll be about 25% better off from the change in allowances after doing all the sums and modelling the effect, even considering that people are smoking cigarettes and drinking alcohol, which is becoming more expensive.”
If there is one thing we know about the squeezed middle, it’s that they’ll keep on finding the cash to pay for their ciggies and their Friday evening beers. They’ll need it, what with the net extra income tax they’ll pay.
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