April 20, 2018

A Taxing Question

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George Osborne MP, pictured speaking on the la...

The Chancellor has gone against his political instincts by retaining the 50p tax rate (Image via Wikipedia)

Some readers will have seen or heard about the recent debate in the UK press about the “50p” rate of income tax. For those who haven’t, here’s some background.

The UK operates a progressive tax structure which until recently consisted of a rate of 20%, or 20 pence in the pound, for earnings above the tax free allowance, and 40% on earnings above a higher threshold, currently around £43,000 per year. A controversial decision by the outgoing Labour government introduced a higher rate of tax for very high earners in April 2010. Earnings over £150,000 per year are now taxed at 50 pence in the pound. The question is, what are the costs and what are the benefits of such a policy? Both have been hotly debated since the policy was introduced.

The coalition government, which took over in May 2010 and is composed of both Conservative and Liberal Democrat MPs, have pledged to remove the 50p rate as soon as practically possible despite the reservations of some Liberal Democrat members. The problem for the Conservatives is that a high rate of tax goes against their political beliefs, but is in keeping with Chancellor George Osborne’s (pictured) stated strategy of budget deficit reduction.

The Chancellor announced in August 2011 that he was keen to reduce the 50p tax rate as soon as possible. This has ignited debate among leading figures in government and the opposition around the costs and benefits of the policy. Those for the policy claim that the rate brings in much-needed revenues that help to reduce the size of the budget deficit. Leading Liberal Democrats have come out in favour of the 50p rate, or replacing it with another tax on the very wealthy.

Those against the policy claim that it stifles entrepreneurship and encourages high earners to move overseas. The debate hit headlines again in early September with a group of Economists writing a letter to the Financial Times calling for the removal of the 50p rate, but the government has now stated that it has no immediate plans to remove the top rate of tax until economic conditions improve. This is hardly surprising given the current state of the UK economy. Many would argue that it would be political suicide to reduce taxes on the rich when those on middle and low incomes continue to feel the squeeze of higher taxes and increasing prices. The Liberal Democrats, at their annual party conference, have  said that they would only support removing the 50p rate if another way of taxing the rich could be found.

Those who are familiar with Tim Harford, who wrote the Undercover Economist, may want to have a look at his amusing piece on the 50p tax rate and how it relates to the Laffer Curve (discussed in the EBS course text here) Also see discussions on macroeconomic goals and income redistribution for more related concepts in the course text.