David Binder is a researcher into Family Fiscal Policy.
Last week’s budget was, if nothing else, rather dramatic. Not least because in the run up and during the speech itself, both David Cameron and George Osborne claimed (not for the first time) that the Conservatives are the party of ‘Working Britain’ and that under them work really will pay.
Yet when we look into the detail of the measures announced, there’s reason to be highly sceptical.
This is true for many reasons, but allow me to concentrate on one that hasn’t attracted as much attention and scrutiny as it should have– the rate at which tax credits will be withdrawn as you earn more (by working a greater number of hours, or getting a pay rise for example) otherwise known as the taper rate.
We’ve known for years that work incentives for many low to middle income families in Britain are amongst the worst in the developed world. If you’re a single parent or one earner couple family with two children on a low to middle income for example, you currently face a Marginal Effective Tax Rate of 73 per cent. This means that for every extra £1 earned through something like overtime, you’ll only see 27 pence of that come into the household. And don’t let anyone tell you this is typical.
For a one earner couple with two children on 75 per cent of the average wage (£26,586 per annum) this rate is the worst in the entire OECD.
Why are millions families in this position? There are three factors at play: Income Tax, National Insurance Tax Credit withdrawal. The last of these is the most significant, currently accounting for 41p, and herein lies the rub.
The Chancellor’s announcement earlier this week means that Tax Credit withdrawal will from April 2016 increase even further to 48 pence in the pound, meaning that those in paid employment who already face some of the worst METR’s in the OECD will get an even worse deal, losing 80 pence of every extra £1 earned. To put it another way, in Cameron and Osbourne’s new ‘One Nation Britain’, those receiving tax credits who go out to work, seeking to provide for their families will see just 20 pence from every extra £1 earned come into the household.
To make matters worse, the level the new taper rate of 48 pence will kick in will be earlier than was previously the case. In the past, you could have earned up to £6,420 before you started to see your tax credit entitlement reduce. Now however, you can earn just £3,850. Under Universal Credit, (work allowances) will be reduced to £4,764 for those without housing costs, £2,304 for those with housing costs, and removed altogether for non-disabled claimants without children.
To borrow an example provided by the Low Income Tax Reform Group: ‘Christopher and Diana have 2 children born on 6 April 2017. Under the current rules, their award would have been around £6,105. However, because of the new rules they will receive no more than around £5,560 in 2017/18. The reduction is due to the removal of the family element.’
Looking behind the rhetoric, it’s clear that for many of those who rely on Tax Credits things will get yet harder in terms of making work pay.
Going forward, there are at least two solutions the Tories should consider. The first is expanding the transferable tax allowance as announced in the 2014 Finance Bill. If made fully transferable it would reduce METRs of one-earner couple families by 20 per cent, thus making work much more rewarding. That’s better! Yet, although helpful this policy is no panacea. It would do nothing for single parent families and due to the incessant increase of the personal income tax threshold (which by the way does more for childless people in the richer half of the income distribution than it does for poorer families with children) won’t be as effective as it once might have been.
Another ideal solution would be to back track altogether on increasing the taper rate, and better support families by withdrawing tax credits more slowly as one progresses up the income distribution.
Of course, either option would require expenditure, but if the Treasury can find over £10 billion to help richer people by increasing the income tax threshold to £11,000 then surely it can find some money to help poorer working families.
As it is, the Conservatives will have to do a lot more if it is to convince working families around Britain that it (and not Labour, UKIP, the SNP or anyone else) is the party of working people. On the basis of this policy at least, work for many will simply not pay. This has to change.