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In an effort to boost revenue for the public purse, the UK government’s policy of “fiscal drag” is causing an increase in the number of higher income taxpayers this year. According to estimates by HM Revenue & Customs, the number of additional rate taxpayers in the 2023-24 tax year will rise by 55% from the previous year, reaching 862,000. The number of higher-rate taxpayers will also increase by approximately 6%, reaching 5.6 million.
This surge can be attributed to inflation-driven pay increases and Chancellor Jeremy Hunt’s decision to freeze income tax thresholds until 2028, along with lowering the threshold for additional rate taxpayers from £150,000 to £125,140 starting in April 2023. As a result, there is a possibility that one million people will fall into the highest tax bracket next year, marking a significant change in the tax system.
While the frozen thresholds have generated increased tax receipts, contributing an additional £6.7 billion in April and May alone, they have also added to the financial pressure on households due to sustained high inflation and interest rates. Bank of England data reveals that £4.6 billion was withdrawn from banks and building societies in May, marking the seventh consecutive month of withdrawals. However, inflows into tax-efficient individual savings accounts partially offset this with £3.3 billion.
The government’s measures have been criticized as a “stealth tax” by Steve Webb, a former pensions minister and current partner at LCP, an actuarial consultancy. These policies have compounded the difficulties faced by mortgage holders as their rates dramatically increased since the announcements last year. The Institute for Fiscal Studies predicts that the government’s current plans will generate an additional £30 billion in revenue annually, up from the initial estimate of £8 billion when the freeze was introduced in 2021.
To improve future projections, the IFS suggests that thresholds should be adjusted in real terms. However, the Treasury defends its tax system, stating that it is restoring public finances in the fairest manner possible, with the highest earners bearing the greatest burden. As the tax base widens due to the freeze on personal allowances, the top 1% of earners are expected to contribute a smaller proportion of the tax take.
In light of these tax increases, individuals are advised by Ammo Kambo, a financial planner at Brewin Dolphin, to consider contributing more towards their pensions to reduce their tax bills. Additionally, HMRC projects that the number of individuals over the age of 65 paying tax will increase by approximately 700,000 this year, bringing the total to 8.5 million. This represents a significant increase from three years ago when only half of all pensioners paid tax on their income.
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