'1.3m more' in 40p income tax band

Changes made in George Osborne's Budget yesterday will mean 1.3 million people on "relatively modest salaries" are forced into the higher 40p rate of income tax over the next few years, a respected economic think-tank said today.

The Institute for Fiscal Studies said that the number of higher-rate taxpayers could hit five million for the first time in 2014, because of the Chancellor's decision to reduce the threshold for the 40% rate to £41,450 from April 2013.

The percentage of workers paying the higher rate will hit 15% next year as a result, compared with 5% in the 1980s.

In its analysis of yesterday's Budget, the IFS also questioned Mr Osborne's claim that he will raise five times as much revenue from the rich from measures like increasing stamp duty on £2 million properties as he loses from cutting the top 50p rate to 45p.

The estimate that cutting the 50p rate will cost the Treasury only £100 million is "particularly uncertain", while there is no certainty that the stamp duty hike and caps on tax relief will bring in the sums Mr Osborne is expecting, said IFS director Paul Johnson.

The freezing of age-related allowances for pensioners - branded a "granny tax" by opponents - will act as "a relatively modest tax increase", costing pensioners an average of 0.25% of their income in 2014 but hitting hardest those who reach 65 over the next two years, said the IFS.

Mr Osborne "should perhaps have given more notice of the change" to give new retirees the chance to plan for their retirement, said Mr Johnson. He suggested that, for the change to be presented as a reform rather than a tax hike, it should have been delayed until personal allowances reach £10,000.

The decision to reduce the threshold for the 40% tax rate will lead to a "significant" increase of 325,000 in the number of workers paying the higher rate next year, said Mr Johnson.

"Put that together with the freeze in the basic rate limit and fiscal drag more generally and the number of higher-rate payers could increase from 3.7 million to five million by 2014," he said.

"This is part of a long-term trend towards the encroachment of 40% income tax on to people earning above-average but relatively modest salaries.

"It would be useful to know if the Chancellor has a view as to what proportion of taxpayers should be paying at the higher rate.

"It will reach 15% next year, having been just 5% in the late 1980s."

Describing the Budget as a "hotch-potch of reforms", the IFS said that Mr Osborne was able to meet his borrowing forecasts only because a £6 billion under-spend by the state more than offset the £5 billion undershoot in tax receipts.

It questioned his claim that the measures announced yesterday were "revenue neutral".

The claim rests on assumptions that rich individuals who took action to avoid paying the 50p rate will now be ready to pay income tax at 45p, as well as that the proposed changes to tax relief and stamp duty will each bring in £300 million, said the IFS.

"The truth is we still do not know the true effect of the 50p rate on revenues," said Mr Johnson.

"The worry for the Chancellor is that the estimate that cutting the top rate to 45% will only cost £100 million is particularly uncertain.

"Those who have got a taste for avoiding the 50p rate may continue to avoid the 45p rate."

He warned: "We know pretty much for sure that the increase in the personal allowance will cost about £3.5 billion in 2014/15. We do not know with anything like such certainty that the cut in the 50p rate will only cost £100 million.

"We do not know that the proposed caps on tax reliefs will bring in the £300 million or so the Chancellor is banking on. Nor do we know that the stamp duty changes will raise the nearly £300 million that he has pencilled in.

"This Budget may turn out to be less fiscally neutral than intended."

The IFS criticised the decision to increase stamp duty on house purchases, which it described as "a poorly designed and distorting tax", which threatens to "lock people into their current housing".

The mansion tax favoured by Liberal Democrats "whilst not perfect, might have been preferable (and) could have raised considerably more revenue", said Mr Johnson.

The IFS said the Chancellor will have to impose cuts of around 7.5% a year to the welfare bill, excluding pensions, in 2015/16 and 2016/17 if he is to meet his fiscal targets without accelerating reductions in spending on public services.

Decisions on where the axe will fall are unlikely to be announced until the Government's next spending review, which should be held in autumn 2013, said the IFS's Carl Emmerson.

Mr Osborne said yesterday that it would be necessary to slice a further £10 billion off the annual bill for welfare if the Government is to balance the books within five years without cutting deeper into public services.

As the Chancellor has indicated that he does not want to change the amount spent on pensions and pension credits, any welfare cuts would have to be targeted at other benefits, of which the largest are tax credits, housing benefit and child benefit, said Mr Emmerson.

With pensions and pension credits together taking up around £94 billion of the £214 billion welfare spend in 2014/15, the cuts envisaged by the Chancellor would swallow up around 7.5% of non-pension benefits a year.

If he were to decide instead to hold welfare spending steady over 2015/16 and 2016/17, he would have to increase the rate of cuts in central spending on public services from 2.3% a year over the course of this Parliament to 3.8% in the following two years, after inflation is taken into account.

Protecting services from any further cuts would mean increasing the sums taken out of the welfare bill to around £20 billion a year, unless the Chancellor chose to increase tax or borrowing, said Mr Emmerson.

PA