Taxation in the UK - Report Example

Taxation in the UK: Taxes are the main source of income for a Government to pay for the services its extends to its people. Some taxes are Indirect in nature, and are generally levied on a transaction (Ex. VAT). Indirect Taxes do not vary with respect to how much a person earns or what his status is (Man, Woman or Child). Other taxes such as Income Tax are Direct in nature which is levied on a person’s direct income, and varies with respect to how much the person is earning, or how many dependants he/she has. (OFT, 2009 p. 26). The main reasons of collecting tax are: (i) To Finance Public Goods & Services. (ii) To correct externalities that arise on goods and Services whose Social Costs are not reflected on its Production or Distribution Costs. (iii) Redistribute Wealth and lessen Income Inequality. Let us take a broader look at the various reasons for taxation below: 1. Finance Public Goods and Services: The government utilizes the revenue generated from the various taxes to spend on a bouquet of services it provides. The following are the major expenses of the UK Government: (i) Provide welfare services like Unemployment payments, Pensions and other benefits. (Gummer, 2012) Provide public goods and services such as internal security (Police Force), External Security (Defense & Military) Infrastructure (Roads); other important services such as Education and Health; Debt interest payments; Transportation. Over the past decade, the UK Government has spent the lion’s share of its expenses on Pensions and Welfare. (Charts, 2003-2013). Next, the major components of UKs public spending happen on Health Care & Education, and Defense. (Charts, 2003-2013) The Figures are in £ billion; for the year 2003-2013. (Charts, 2003-2013) Year 2013 2012 2011 2010 2009 2008 2007 2006 2005 2004 2003 Total Spending 675.1 694.3 693.5 672.3 633.8 582.2 549.4 523.5 491.8 455.1 420.5 Pensions 139.1 129.6 121.7 116.4 108.5 98.8 93.9 89.9 86.4 81.8 79.9 Health Care 124.4 121.2 120 116.9 108.7 102.3 94.7 89.6 82.9 74.9 66.2 Education 87.3 86.9 91.5 88.5 83 78.7 73 69.7 65.1 61 54.7 Defense 42.2 44.4 45 42.6 41 38.3 36.6 35.2 33.4 32.4 30 Welfare 116.6 £113.7 113.1 111.7 99.5 90.4 83.5 81.6 78 74 65.5 [Chart compiled on data available at (Charts, 2003-2013)] Currently, a person earning £25,500 p.a. is liable to pay tax of £5,979. (Gummer, 2012). The following chart represents the way his/her tax is spent by the Government. 2. Externalities: The Government may levy additional taxes on goods and services whose production costs do not reflect the Social costs involved. For example, Cigarettes and other Tobacco Products are linked to various health hazards, which add to the Governments Health Policies. Hence, the Government may decide to impose extra taxes and increase or decrease the same over a period of time on Tobacco Products. Taxation on Tobacco Products (HMRC (1), 2013) From 6 pm 20 March 2013 From 6 pm 19 March 2014 Impact on individuals/household Cigarettes 16.5% of retail price plus £176.22 per 1,000 cigarettes 16.5% of retail price plus £184.10 per 1,000 cigarettes Additional 24 pence to a packet of 20 cigarettes Cigars £219.82/kg £229.65/kg Additional 8 pence to a packet of 5 small cigars Hand rolling tobacco £172.74/kg £180.46/kg Additional 23 pence to a packet (25g) of hand-rolling tobacco Other smoking tobacco and chewing tobacco £96.64/kg £100.96/kg Additional 13 pence to a packet (25g) of pipe tobacco Moreover, the Government can also impose additional taxes on commodities it considers scarce, in order to control or reduce its consumption. For example, fuel and power. Climate Change Levy Commodity Rates from 1 April 2012 Rates from 1 April 2013 Electricity £0.00509 per kilowatt hour £0.00524 per kilowatt hour Natural gas (a different rate applies in Northern Ireland until 31 October 2013) £0.00177 per kilowatt hour £0.00182 per kilowatt hour Natural gas (Northern Ireland) £0.00062 per kilowatt hour £0.00064 per kilowatt hour until 31 October 2013 then main natural gas rate applies Liquefied Petroleum Gas £0.01137 per kilogram £0.01172 per kilogram Any other taxable commodity £0.01387 per kilogram £0.01429 per kilogram (HMRC (2), 2012) 3. Distribution of Wealth: With the collection of taxes such as Income Tax and Wealth Tax, the Government reduces inequality and promotes the distribution of wealth. This is done through a Progressive Income Tax Structure implemented by the UK Government. Moreover, the taxation on Wealth accumulated is taxed on the basis of the wealth of an individual. Hence, people with lesser accumulated wealth pay lower taxes than those with higher wealth. Below is the data obtained from HMRC (UK) which gives the rates of Income Tax, depending on how much income a person generates during a year. Moreover, certain allowances are given w.r.t. the number of children a person has, age and Gender. Income Tax rates and taxable bands Income Tax rates and taxable bands 2013 - 14 and 2014 - 15 Rate 2013-14 2014-15 Starting rate for savings: 10%* £0 - £2,790 £0 - £2,880 Basic rate: 20% £0 - £32,010 £0 - £31,865 Higher rate: 40% £32,011 - £150,000 £31,866 - £150,000 Additional rate: 50% N/A N/A Additional rate: 45% from 6 April 2013 Over £150,000 Over £150,000 Income Tax rates and taxable bands 2011 - 12 and 2012 - 13 Rate 2011-12 2012-13 Starting rate for savings: 10%* £0 - £2,560 £0 - £2,710 Basic rate: 20% £0 - £35,000 £0 - £34,370 Higher rate: 40% £35,001 - £150,000 £34,371 - £150,000 Additional rate: 50% Over £150,000 Over £150,000 Additional rate: 45% from 6 April 2013 N/A N/A [Source: (HMRC (3), 2013)] Income Tax allowances table 2013 - 14 and 2014 - 15 (HMRC (3), 2013) Income Tax allowances 2013-14 2014-15 Personal Allowance (1) N/A N/A Personal Allowance for people born after 5 April 1948 (1) £9,440 £10,000 Income limit for Personal Allowance £100,000 £100,000 Personal Allowance for people aged 65-74 (1)(2) N/A N/A Personal Allowance for people born between 6 April 1938 and 5 April 1948 (1) (2) £10,500 £10,500 Personal Allowance for people aged 75 and over (1)(2) N/A N/A Personal Allowance for people before 6 April 1938 (1) (2) £10,660 £10,660 Maximum amount of Married Couples Allowance (born before 6th April 1935) (2) (3) £7,915 £8,165 Income limit for age-related allowances N/A N/A Income limit for the allowances for those born before 6 April 1948 £26,100 £27,000 Minimum amount of Married Couples Allowance £3,040 £3,140 Blind Persons Allowance £2,160 £2,230 (HMRC (3), 2013) Income Tax allowances for 2011 - 12 and 2012 - 13 Income Tax allowances 2011-12 2012-13 Personal Allowance (1) £7,475 £8,105 Personal Allowance for people born after 5 April 1948 (1) N/A N/A Income limit for Personal Allowance £100,000 £100,000 Personal Allowance for people aged 65-74 (1)(2) £9,940 £10,500 Personal Allowance for people born between 6 April 1938 and 5 April 1948 (1) (2) N/A N/A Personal Allowance for people aged 75 and over (1)(2) £10,090 £10,660 Personal Allowance for people before 6 April 1938 (1) (2) N/A N/A Maximum amount of Married Couples Allowance (aged 75 and over) (2) (3) £7,295 £7,705 Income limit for age-related allowances £24,000 £25,400 Income limit for the allowances for those born before 6 April 1948 N/A N/A Minimum amount of Married Couples Allowance £2,800 £2,960 Blind Persons Allowance £1,980 £2,100 As we can see from the above charts, lower income group people are taxed considerably lesser than people with high incomes. Moreover, the Government through its Public Welfare services such as Unemployment Insurance, Pensions, and Healthcare Policies along with providing Free or Discounted Education aim to reduce the gap between the rich and the poor. Effects of Cutting Direct Taxes During the course of a Country’s history, the Government may alter the tax structure prevailing in the country. The Government may reduce Personal Taxes and increase or introduce Indirect Taxes such as VAT, or decrease Direct AND Indirect Taxes or increase both. It is widely believed that tax cuts leads to boost in businesses. For example, a company in a bad financial phase would not engage in expansions or extra hiring. On the contrary, it would look to downsize. A cut in taxes will provide a huge incentive to the organization to keep its current staff and maybe look to hire more people. This may end up having a social effect as well, where employment in the economy may rise, and the Government will have to spend lesser on Welfare services as Unemployment Insurance for example. One can argue that an increase in taxation would lead to more public spending in welfare. However, that is only partially true as apart from Public Spending, a bulk of the money is expended on the bureaucracy in the Government. Moreover, Public Spending takes a lot of time. It is based on a trickledown effect, whereas the actions of the private sector are almost immediate. (Dr Butler, 2014). In a country such as UK, which has a developed economy, people are more inclined to spend their own money on services such as Education and Healthcare, hence, the Government has an incentive to cut taxes as it does not need to spend as much money on these Welfare services as an underdeveloped economy where more people depend on the Government to provide these services free or at a discount. (Moffatt, n.d). Furthermore, the Government has incentive to cut taxes as it may lead to increase in GDP, which, even at a lower tax rate may generate larger Total Tax Revenue than at a higher tax Rate. The data presented below represents the Net taxes and national insurance contributions in £bn and as a percentage of GDP from 1975-76 to 2017-18 (Projected). (Rogers, 2013) Financial year Net taxes and national insurance contributions £bn % GDP 1975-76 40 35.7 1976-77 46.1 35.2 1977-78 51.6 33.9 1978-79 57.1 32.8 1979-80 70.6 33.7 1980-81 83.9 35.1 1981-82 98.9 37.6 1982-83 107.2 37.3 1983-84 115 36.7 1984-85 126.4 37.6 1985-86 134.5 36.4 1986-87 143.2 36.1 1987-88 156.8 35.6 1988-89 173.1 35.3 1989-90 187.4 34.9 1990-91 199.7 34.6 1991-92 211.2 34.8 1992-93 208.4 33.2 1993-94 215.1 32.4 1994-95 235.2 33.4 1995-96 252.8 34 1996-97 265.7 33.5 1997-98 293.6 34.8 1998-99 313 35.2 1999-00 336.6 35.6 2000-01 358 36.2 2001-02 365.6 35.4 2002-03 372.6 34.1 2003-04 398.3 34.4 2004-05 426.5 35.1 2005-06 457.1 36 2006-07 487.8 36.2 2007-08 514.3 36.1 2008-09 500 35.3 2009-10 485.7 34.5 2010-11 522.4 35.3 2011-12 542.9 35.5 2012-13 550.6 35.6 2013-14 573.5 35.9 2014-15 597.1 35.8 2015-16 624.3 35.9 2016-17 657.2 36 2017-18 689.1 36 According to R Hemming and J A Kay(1980), a country’s increase in Total Tax Revenues after a cut in Direct Tax rates can be shown through a Laffer Curve. The theory of Laffer Curve suggests that “at a tax rate of 0%, the government would collect no tax revenue, just as it would collect no tax revenue at a tax rate of 100% because no one would be willing to work for an after-tax wage of zero.” A Laffer Curve is shown below. (Note: it is not based on any available data) The above-mentioned arguments indicate that tax cutting is generally beneficial for the economy as a whole. However, we must not forget that Taxes are the main source of income for the country, and in a scenario where a tax cut does not reflect in an increase in Total Taxes Generated, the Government would need to borrow money to finance its Public Spending and other Welfare Activities. Especially since a large amount of government spending is required to maintain law and order and defense, the judicial system. If the government is unable to sustain these services owing to inadequate funding, it will lead to a ‘depressed economy.’ (Moffatt, n.d) Moreover, infrastructure is a vital component to bolster a country’s economy. The private sector is assumed to not be able to provide sufficient infrastructure, especially if it is of no benefit for them. For proper infrastructure development in an economy, the Government is required to finance it. (Moffatt, n.d) Conclusion A main point of concern for the Government when it thinks about cutting taxes is how and how much is the tax cut going to stimulate the economy? As mentioned earlier, the tax cut may result in a shortfall for the government. The government then tries to meet the shortfall by selling bonds to its citizens (the very people getting the tax cut), or, to foreigners (who will try and sell more products in that country and importing less of it). To summarize, the private sector will be financing government spending either way. (Dr Butler, 2014). However, the general belief is that tax cuts impacts the economy positively. The reason is that it provides greater flexibility and disposable income in the hands of the people. Some people can chose to increase consumption, which is beneficial for the economy, with the extra income in their hands, while others can save their money to invest in Government Bonds, which again is positive. (Dr Butler, 2014) Development is not essentially related to Public Spending. Development comes with a greater output and a matched consumption in the economy, which can be possible with a lower tax rate in the country. References Charts. (2003-2013). Total Public Spending. Retrieved March 28, 2014, from UK Public Spending: http://www.ukpublicspending.co.uk/total_spending_2003UKbn Dr Butler, E. (2014). Why tax cuts stimulate the economy. Retrieved March 29, 2014, from Adam Smith Institute: http://www.adamsmith.org/blog/tax-and-economy/why-tax-cuts-stimulate-the-economy Economics Online. (n.d). Policies to reduce inequality and poverty. Retrieved March 28, 2014, from Economics Online (UK): http://www.economicsonline.co.uk/Managing_the_economy/Policies_to_reduce_inequality_and_poverty.html Emmerson et al. (2005). Green Budget: The tax burden under Labour. Institute of Fiscal Studies (UK). Gummer, B. ( 2012, January 27 ). Where does all our tax go? Retrieved March 28, 2014, from BBC (UK): http://www.bbc.co.uk/news/uk-england-16744819 HMRC (1). (2013). Tobacco products duty. Retrieved March 28, 2014, from HM Revenue & Customs.: http://www.hmrc.gov.uk/rates/tobacco-duty.htm HMRC (2). (2012). Climate Change Levy. Retrieved March 28, 2014, from HM Revenue & Customs: http://www.hmrc.gov.uk/rates/ccl.htm HMRC (3). (2013). Income Tax rates and allowances. Retrieved March 29, 2014, from HM Revenues and Customs: http://www.hmrc.gov.uk/rates/it.htm Moffatt, M. (n.d). The Effect of Income Taxes on Economic Growth. Retrieved March 29, 2014, from About Economics: http://economics.about.com/cs/taxpolicy/a/taxing_growth_5.htm Rogers, S. (2013, March 18). Tax receipts since 1963. Retrieved March 29, 2014, from The Guardian (UK): http://www.theguardian.com/news/datablog/2010/apr/25/tax-receipts-1963 Read More