Don Draper and Leonard Beighton have a combined 60 years of experience advising Governments on tax policy. Together with John Avery-Jones, a retired tax judge, they are co-founders of Tax and the Family.
Thirty years ago, Parliament enacted the legislation bringing in the independent taxation of husbands and wives. Nigel Lawson, whose project this was, says in his autobiography, The View from No 11: Memoirs of a Tory Radical, that, of all the tax changes for which he was responsible, the reform which is least likely to be reversed by any of his successors is the independent taxation of married women. The question now being asked, however, is whether 30 years later we have got the taxation of families right? Why is that?
The best way to answer this question may be with an example. Mark and Philippa – their names have been changed to protect their privacy and that of their children – live in the West Country. They have three children aged three, eight and ten, and live in a small three bedroom housing association house. They pay rent of £157 per week.
Mark is a bus driver working on average 39 hours a week. He earns around £21,000 a year on which the income tax would be £1,584. His actual earnings vary from week to week depending on his hours. In the week in which we met the family, his take home pay was £310.08. They get tax credits and help with their rent. With this help they are living on about £416 per week: this has to cover everything – food, clothing, car repairs, and occasional ice creams for the children. They have no savings. Benefits were overpaid when Mark did overtime and they now have to repay a tax debt of over £1,000.
Their “tax” rate when tax credits and housing benefit withdrawal is taken into account is 96 per cent. There is no way in which they can repay this debt by Mark working overtime. Philippa looked at getting a full time minimum wage job, but found that the wages would not cover even the childcare cost for three children. With disposable income of £416 per week they are almost certainly in relative poverty under the widely accepted definition, i.e. they have disposable income of less than 60 per cent of the median. Yet Mark pays virtually the same income tax as someone in the top decile of the income distribution for whom £21,000 is a second household income.
As we will explain later in this mini-series, the 1988 reforms were intended to make the taxation of families better – not worse. Lawson’s original plan, set out in a 1986 Green Paper, was that the independent taxation of married women should be linked with a fully transferable personal allowance. Nigel Lawson said it was “manifestly unjust” that a couple with two incomes could get a combined personal allowance roughly equal to two-and-a-half times the single allowance compared to the one-and-a-half times the allowance which a couple with one earner then got.
In the event the transferable personal allowance proposal was dropped, but a new allowance – the married couples allowance – was introduced and a linked additional personal allowance, which single parents and unmarried couples with children could claim, was retained. Subsequently, both allowances were phased out over the next decade and finally abolished in 2000 by Gordon Brown. It had been said that they were “something of an anomaly”. With hindsight it is now clear that, in the absence of a fully transferable personal allowance, they were an essential part of the structure of independent taxation if people like Mark and Philippa were not to lose out. If Nigel Lawson’s original proposals for independent taxation had been accepted, Mark and Philippa would not be paying any income tax today.
In both Germany and France, both of which are high tax countries, families like theirs do not pay income tax. In the US they would not pay any federal income tax.
In this country, the latest Government figures show that some families have to earn more than twice as much as a someone without children to enjoy the same standard of living and pay almost five times as much tax.
Each year the Department of Work and Pensions (DWP) produce an analysis of household incomes. The figures for the tax year 2016/17 were released in March. In that year a single person without children would have needed a disposable income after housing costs had been met of £247 a week to have an “average” income: by contrast a couple with three children would have needed £680 a week! In 2016/17 a couple with three children would have needed £408 after rent had been paid to be above the poverty line.
Tax and the Family calculate that in 2016/17 a couple with three children paying rent of £600 a month would have needed to earn over £60,000 to have a weekly disposable income of £680. On this income they would have been paying over £15,000 in income tax and, because of the high income Child Benefit charge, they would have lost the value of their child benefit. A single adult with an average income would have been paying just over £3,000 in income tax. To be out of poverty, a single parent with two children would have needed to earn over £35,000 to be out of poverty on which the tax would be over £4,000 – three times as much as a comparable single adult without children and almost twice as much as a couple with no children.
It was the failure of the income tax system to take account of family responsibilities that led Gordon Brown to introduce tax credits. Without tax credits and housing benefit the position of families like our bus driver family would have been dire. Benefits are, however, are a mixed blessing. The complications in claiming them can be very considerable and the resulting effective marginal rates are far higher than those faced by any other group of taxpayers. Many have found it hard to believe that, when tax credits are taken into account, the marginal rate is generally 73 per cent, but for the increasing number of families who have no alternative but to rent it has been 96 per cent. Even under Universal Credit it will still be 80 per cent.
What if anything can be done particularly at a time when there is so much pressure on the public finances? The situation cannot be left as it is. We talk a lot about modern day slavery, but there is also in this country modern day serfdom. Our bus driver’s family have effectively no control over their finances. They have what the state allows them to have – no more and no less – even if that amount leaves them in poverty.
There clearly needs to be a greater awareness as to how the tax system impacts on families – which families have above average incomes, and which have below average incomes. We need to look at the way in which countries like Germany and France tax families to ask whether there are ways of taking account of the family without going back to the 1980s. There surely is.
The much-prized privacy which independent taxation gave married couples has in any case has been taken away from the large number of couples who claim tax credits, the Universal Credit, housing benefit or who pay the High Income Child Benefit Charge. Until a more permanent solution can be found, any tax reductions that can be afforded should be focussed on households in the poorer half of the population. This means focussing them on taxpayers with children.
The increase in the personal allowance from £6,475 in 2010 to £11,850 today has been very costly. The Treasury has failed to respond to a freedom of information request for a costing, but back in 2010 the IFS was saying that the cost of increasing it to £10,000 was £16 billion. Not much of this money has ended up with families whose living standards have been adversely affected by the way in which independent taxation was introduced and subsequently developed. Most of the benefit has ended up with people who are in the better-off half of the population. Transferable allowances are a more cost effective way of raising the tax threshold.
The case for further increases in the personal allowance is weak. A better option would be to freeze the existing allowance, which is high by historical standards, and to use the freed up resources to introduce an allowance for families with children.
Changing the tax system will not solve all the financial problems which people like Mark and Philippa face. But it does not make sense to start with an income tax system that takes tax from families in poverty who are then locked in by high marginal rates as a result of having to be bailed out by benefits and which takes the same tax from a family in poverty as it does from someone who is in the top decile of the income distribution.