Raising the personal tax threshold is a flagship policy for the coalition government, one that is presented as a policy to help low earning families. But if the goal is to put cash in the pockets of the working poor, there are some other ideas the Chancellor should consider.
When the coalition came into power in 2010 an employee could earn £6,475 before they had to start paying tax. By the end of this parliament the threshold will be at least £10,600, and some newspaper reports anticipate Wednesday's Budget will raise this "towards £11,000" at an estimated cost of £2.7 billion.
There are three inconvenient truths about the tax threshold as a mechanism to deliver money to the working poor:
1- It is not well targeted on those with the lowest incomes: The majority of the money does not go to low income households as all basic rate tax payers get a boost, making this an expensive way of putting money in the pockets of low income families. Indeed, the Institute for Fiscal Studies shows just 15% of the gains go to the poorest half of working families.
2- The very lowest earners do not pay income tax: 4.6million already do not pay income tax, because their taxable income is below the threshold. Some of these families have gained from tax cuts to date, but the limit of this policy to help these families has been reached.
3- Households in receipt of Universal Credit will only feel about a third of the benefit of the tax cut: In-work support to top up low pay is slowly withdrawn as earnings rise, but under Universal Credit (unlike tax credits) this will be done on an after-tax basis. This means for every £1 a family gains as a result of a tax cut, they will typically keep just 35p. This is expected to affect over two million low income households.
None of these facts is necessarily an argument against increasing the tax threshold, but they do question whether it is an effective policy choice to support low-income households, especially in a time of restrained spending. If the Chancellor's room for manoeuvre has increased, and he has something in the order of £2.7billion to spend, here are some suggestions for more effective alternatives to tackle in-work poverty:
- Targeted income top-ups: Under UC households can earn a designated amount before their benefits start to be withdrawn. Increasing this by £450 a year would cost around £1.5billion. This would benefit all low income workers, not just those that pay tax.
- Incentivise dual earning families: couple families where both parents work have a far lower risk of poverty, but second earners will not be incentivised to work under UC. An earnings disregard for a second worker would cost around £700m.
- Enable parents to work and ensure young children get a good start: childcare can act as a barrier to work, not only because of the cost but because of the lack of confidence in the quality of care. Good quality childcare helps to support child development and ensure children are ready to start school. The Early Years Pupil Premium is designed to improve the quality of childcare for deprived young children, forthcoming JRF research shows doubling the value of it would cost about £600m.
A Budget which focusses support on low-income families would help to tackle in-work poverty, allowing everyone to share in and contribute to economic growth both now and in the future.