Should the UK Government Restore the 50 Percent Additional Rate of Income Tax - Case Study Example

INCOME TAX due: Introduction In the UK, Income Tax has a long history. The first move of raising it was experienced in the time span of the Napoleonic Wars. This was triggered with an aim of raising funds for the prosecution of the European War. During this period, a 10% gross income was levied. In the year 1842, Income Tax was made a permanent feature of the British structure and was consequently reintroduced at a standard rate of 7d, equivalent to 3%. It was during the times of war that the highest rates of tax were reached. For instance, during the Crimean War, the rate was 7%, during the First World War; it was 30%, which later rose to 50% during the Second World War. As per now, the basic rate of Income Tax in the UK stands at 25p in the pounds. Just recently, 2008-09, the rate of income tax in the UK has gone very high. The Income Tax has exceeded the basic rate of income tax. The higher rate tax is paid on the basis of taxable income, after personal allowances and other related allowances. Initially, the tax rate in the UK was at 40%, which most people put up with (Law 2008: 212). The tax rate then rose to 50% and finally 52% after introduction of the National Insurance payments. The new policy has risked flat growth over the next decade; and also poses the risk of cumulative fall in tax receipts of at least £350 billion over the same period. It was not until this era that a small minority of the population has carried the liability to the Income Tax. Before the twentieth century, the total number of taxpayers has been below 1 million. Before 1907, there was no clear distinction between earned and unearned income. In 1909, Lloyd George came up with a budget imposing a super tax on incomes exceeding 5000 pounds per annum. At present, Income Tax is charged as a single graduated personal tax (Macleary 2003: 13). Income Tax is the most important tax of all the direct taxes. The main effective incidence of Income Tax is to heighten the awareness on taxation, as well as government spending. Another advantage of Income Tax is that it benefits the government by allowing it to collect more money as the incomes rise. Also, by establishment of tax thresholds, the government can influence important factors in the economy, which include the propensity to save amongst the taxpayers. It is for these reasons that all working adults in the UK are subjected to make contributions to Income Tax. This is for the working adults earning more than the basic personal relief of 3005 pounds, settled on in the year 1990/1991. This means the one not directly paying tax will depend on the taxpayers. This enables the non-paying citizens to enjoy tax-exempt income, which include student grants and also living on an extremely low pension (Macleary 2003: 13). So what makes the government emphasize so much on Income Tax? The government emphasizes so much on income tax as a result of its numerous advantages on the government operations, so as to serve the citizens well, including the non-working ones. Unlike other taxes, Income Tax has a smaller disincentive effect as long as the rates are not very high. This makes Income Tax effective in the realization of the government’s goal of income redistribution. Nevertheless, this has not always been favourable with some of the taxpayers, from the basic fact that their tax is being enjoyed by others who are not contributors to the tax. Arguments for As per now, the income tax rates in the UK are still very high. This is based on the fact that the UK tax system is comprised of a higher effective tax rate, exceeding 50%. Out of this citizens earning between 100,000 pounds and 115,000 pounds have to bear an effective tax rate of 60%. The tax rate stands at 60%, which applies to income between 100,000 and118, 410 pounds. This has distorted incentives, increasing the complexity of the tax system, with the effect of encouraging avoidance. This is not seen as a good approach since for a tax system which is designed to be progressive. The income tax system will further be complicated by the sectioned withdrawal of child benefit, for people with income exceeding £ 50,000 (Great 2012: 69). The UK government ought to restore the 50% income tax rate. This is because the country is struggling to operate on the increased 50% marginal tax rate which is thought to have been developed with no economic purpose. It can be argued that the policy is likely to fail, with the possibility of it stalling the economic growth. Some of the reasons for opposing this increased tax rate are as discussed below. The international tax rate is extremely high as compared to other countries considered high. This has found UK in an awkward position, as a result of the uncompetitive tax regime. The high tax rates have failed to produce public revenues thus injuring the economy. Taxpayers are quite bitter with the increased tax rate since they are the wealth creators (Young & Saltiel 2011: 7). The increased Income Tax is also likely to produce losses of about £350 billion after a period of like ten years. This is likely to cause a recession at the end of this period if the trend is not contained. This will have negative effects on the government revenue, and likely to stall the economic growth badly by year 2020(Young & Saltiel 2011: 7). The high-Income Tax rate as it stands today is considered dysfunctional. That is why there are calls by analysts for the Chancellor to eliminate the additional tax rate from 52% to around 40% or even 30%, and promise even further reductions. Chancellor in this case is an officer in charge of managing taxation in the exchequer, tasked with collection and management of tax as well as other revenues of the government. The personal allowances, currently standing between £100,000 and £115,000 should also be reinstated. The level of capital gains tax should also be reduced from 28% to 18%, if not below (Seely 2014: 7). When coming up with the increased income tax rate, Chancellor Alastair had not thought well of the consequences it would impact on the economy. According to him, he introduced it just because it seemed right at the time. It has no science basis. This is why most observers have concluded that it was just politically motivated rather than economic. Ministers in the coalition government have given suggestions that the higher rate is not likely to raise any revenue at all. In September 2010, the Business Secretary Vince Cable observed that the higher tax rate does not raise much revenue (Young & Saltiel 2011: 8). The increased tax rate also has effects on the taxable income elasticity. This is because the total revenue raised by the 50% rate falls far below the original Treasury estimates. The higher rates lead to loss of revenue, thus the advocacy for a tax rate of 40% which is estimated to be the revenue maximising rate (Young & Saltiel 2011: 23). Arguments against According to Chancellor Alastair, the increased tax rate is supposed to redistribute wealth fairly by ensuring that the rich will create wealth for the benefit of all the rest. Also, Rober Chote complimented the move by arguing that the decision to raise the tax would make the populace change their behaviour. The intention of the rise was to raise an estimated £ 1.6billion in a full year. To increase the revenue rate, it was thought that by deducting personal income tax allowance for people on high incomes would create new income tax bands. This band applies for people earning between £100,000 to £106,450 and £140,000 to £146,450. This was supposed to create powerful incentives for people with incomes within these bands so as to raise their pension contributions. The increased rate on income tax was also meant to withdraw the personal allowance from individuals earning above £100,000, so as to raise the revenue to £1.4bn. To counter the effects of the increased tax rate, the Chancellor announced a proposal to restrict higher rate relief on pension contributed by individuals earning above £ 150,000. The new 50% tax rate, coupled with the scrapped tax allowances and restricted relief on pensions was meant to raise £7bn. This meant more revenue for the government, raised from higher basic rate income tax and higher VAT. The increased tax rate on income was fair in that it sought to create wealth by taxing the ones with more money and sparing the poor ones so that they could enjoy social amenities. This was based on the fact that those on high incomes were supposed to contribute since their incomes had increased by an average of over £5,000 over the last ten years. This is in comparison with the average taxpayer who earned £600 a year. This was however opposed by some people who argued that the best way to raise high revenues was raising tax on ordinary working people instead of focusing on a small section of people (Seely 2014: 5). Conclusion From the discussion, it is clear that there is a dire need for elimination of tax rates above revenue-maximising levels. This is because they damage the economy. The purpose of the tax system should be to increase revenue rather than to punish the taxpayers who are high earners. When a tax system policy is being reviewed, its economic motivation should prevail rather than political moves. At all costs, taxes should remain below the revenue maximising level. The raised tax rates have negative effects on the economy since it seems to discourage taxable economic activities. A good tax system is meant to enrich the poor rather than making the rich poor. Some politicians however tend to encourage the punishment of the successful, which mean less revenue overall. This is because when the rich are penalised the poor will also suffer. This is what has made Britain’s tax system a barrier to the economic growth. When the tax rates go down, the public revenues will rise. Increased tax rates in Britain make it less competitive as compared to other countries where the tax rates are quite reasonable. Business leaders are badly affected by the high tax system in the UK, especially on personal taxes. As a result, investment in the UK is affected, which has seen some investors leave the UK finance industry. The UK government should, therefore, reduce the higher rate of income tax to around 35%. This way, the more public revenues will be raised, thus boosting economic growth. On his part, Mr Darling defended the raise by arguing that it was meant to make UK competitive so as to support the economy. He thought the move was fair enough and would allow them to live according to their financial demands. Thus, the pressing situation of increased tax rate has more demerits than merits. This means that the increase should not be restored. Instead, there should be a reduction in the tax rate. Bibliography A MACLEARY. (2003). National Taxation for Property Management and Valuation. Taylor & Francis, 2003 GREAT BRITAIN. (2012). Budget 2012: thirtieth report of session 2010-12. Vol. I, Vol. I. London, Stationery Office. LAW, J. (2008). A dictionary of finance and banking. Oxford, Oxford University Press. SEELY, A. (2014, May 24). Income tax : The additional 50p rate. Retrieved January 1, 2014. YOUNG, P., & SALTIEL, M. (2011, January 1). The Revenue and Growth Effects of Britain’s High Personal Taxes. Retrieved November 25, 2014, from http://www.adamsmith.org/sites/default/files/resources/high-personal-taxes.pdf Read More