11 October 2017

Revealed - The 775,000 people who pay a higher tax rate than a millionaire - New Royal London analysis

8 min read

 
Steve Webb - Director of Policy

Steve Webb

Director of Policy, Royal London

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Ahead of the November Budget, mutual insurer Royal London is calling for the tax system to be rationalised following new analysis showing that around 775,000 people pay more tax on each extra pound that they earn than a millionaire.

Under the current UK income tax system, the amount of tax paid on an extra pound is intended to rise steadily as incomes rise. Those under £11,500 pay no tax, those up to £45,000 pay tax at 20p in the pound, those up to £150,000 pay 40p in the pound, and those on higher incomes – including millionaires – pay 45p in the pound in income tax for each extra pound that they earn.

But new analysis by Royal London has shown the large number of people not in the ‘Millionaire’s Club’ who can lose anything from 60p to 70p in the pound because of a series of complications which have been introduced to the tax system over recent years. These complex rules have created a series of anomalies where people who are not the ‘super-rich’ can lose more of any extra cash they earn in tax than a millionaire.

Commenting on this analysis, Steve Webb, Director of Policy at Royal London said:

Most people would agree that as people earn more they should pay a higher rate of tax. But a series of complex changes which have been bolted on to the tax system over recent years mean this is no longer true. This analysis shows that there are hundreds of thousands of people who pay more tax on each extra pound that they earn than a millionaire – in some cases losing 60p or 70p in the pound. It is hard to believe that this is a sensible way to run a tax system. As part of his Budget, the Chancellor should be looking to rationalise the tax system so that is simpler, fairer and easier to understand”.

The three key groups are:

Parents where one partner earns between £50,000 and £60,000 per year – since January 2013, this group loses 1% of their child benefit for each £100 per year that they earn above the £50,000 floor;   a couple with two children on £50,000 per year receives £1,789 per year in child benefit; if the higher earner earns £51,000 they lose 10% of their child benefit or £179.  The extra £1000 costs them £400 in income tax, £179 in child benefit, and £20 in National Insurance or £599 in total;  this is a tax rate of 59.9%; it is estimated that 375,000 people are in this category [see notes to editors for details];   the following table summarises the impact:  

Family earns £1,000 extra but loses:  
Regular income tax @ 40% £400
Reduced child benefit (2 children) £179
National Insurance Contributions £20
Total loss per £1,000

£599

Or a tax rate of 59.9%

People who earn between £100,000 and £123,000 – those earning under £100,000 per year benefit from a tax free personal allowance of £11,500 per year;  beyond the threshold of £100,000, the tax free personal allowance is ‘tapered’ at a rate of 50p in the pound;  for example, someone earning £101,000 has £1,000 above the threshold so loses £500 in personal allowance;  this is an extra £500 which is now taxed at 40%, increasing their tax bill by £200;  overall, the extra £1,000 costs them £400 in income tax, £200 in lost personal allowance and £20 in National Insurance or £620 in total;  this is a tax rate of 62%;  it is estimated that around 250,000 people are in this category;  the following table summarises the impact:

Worker earns £1,000 extra but loses:  
Regular income tax @ 40% £400
Reduced personal allowance £200
National Insurance Contributions £20
Total loss per £1,000

£620

Or a tax rate of 62.0%

People with total taxable income (including employer pension contributions) between £150,000 and £210,000 per year – those on lower incomes can contribute £40,000 per year into a pension and benefit from tax relief;  above the £150,000 threshold, this ‘annual allowance’ is reduced at a rate of 50p in the pound;  many people in this income band will be paying tax at 45%, so a reduction of 50p in the annual allowance will mean an additional 22.5% in tax;  including National Insurance Contributions, this means a tax rate of 69.5%;  it is estimated that around 150,000 people may be affected;  the following table summarises the impact: 

Worker earns £1,000 extra but loses:  
Regular income tax @ 45% £450
Reduced pensions annual allowance £225
National Insurance Contributions £20
Total loss per £1,000

£695

Or a tax rate of 69.5%

The total numbers affected are shown in the next table:

Table: Total numbers ‘paying more tax than a millionaire’ on each extra pound

  Estimated number of people
Parents earning £50k-£60k 375,000
Individuals earning £100k-£123k 250,000
Pension savers with total income £150k-£210k 150,000
TOTAL 775,000

- ENDS –

For further information please contact:

Steve Webb, Director of Policy, Royal London

Notes to editors:

  • The estimates of the numbers in each category are derived as follows:
    • Parents earning £50k-£60k
      • When this change was implemented in January 2013, the Institute for Fiscal Studies estimated that around 320,000 families would be affected. Since then, the £50,000 threshold has been frozen for four years, whilst overall employment has risen. Based on HMRC data on personal incomes, we estimate an increase of 17% in the numbers affected, giving a total now of 375,000;
    • People earning in 100,000 to 123,000 band
      • HMRC provides data on the number earning in the £100k to £150k band which is 500,000; but we know that there are more earners in the lower half of this band than in the upper half; we therefore believe that 250,000 people affected would be a conservative estimate;
    • People in £150k to £210k band with pensions
      • There are two ways to estimate the numbers potentially affected:
        • From HMRC data, the number with income in £150k to £200k band is 175,000; the number in the £150k to £210k band would be slightly larger, especially given that we need to include the value of employer pension contributions; however, not everyone in this income band will be saving in a pension; on this basis, the original figure of 175,000 might be a reasonable approximation; OR
        • HMRC estimate a yield in 2018/19 from the policy of tapered annual allowance of £900m; if we suppose someone at mid-point (£180k) loses £15k in allowance, they now pay 45% extra tax on £15k or £6,750; if average loss is £6,750 and total loss is £900m, number of people is 135,000; this number may be a conservative estimate however because there will be more people earning £150k-£180k than £180k-£210k, which means that the average loss will be lower and the number of people affected larger;
      • We therefore have two ways of estimating the numbers affected, one of which yields a figure of 175,000 and the other a conservative 135,000. We think that a central estimate of 150,000 should therefore be reasonably accurate.
  • This analysis does not include the impact of repayment of student debt. Whilst relatively few recent graduates will be included in the highest income groups, there will certainly be some parents in the £50k-£60k group who are repaying student debt. This would add an extra 9p in the pound to their effective tax rate

 

About Royal London:

Royal London is the largest mutual life, pensions and investment company in the UK, with funds under management of £117 billion, 8.8 million policies in force and 3,745 employees. Figures quoted are as at 30 June 2018.