Is the cut in national insurance contributions cause for celebration – or just a Rishi ‘raw deal’?

As Jeremy Hunt’s reduction in NI contributions takes effect, what does it mean for the taxpayer? Sean O’Grady explains what’s really going on with a policy rubbished by Labour’s Rachel Reeves as a ‘cynical giveaway’ in the run-up to an almighty election scrap

Labour’s Rachel Reeves has called the measure ‘a cynical giveaway from a weak and out-of-touch Tory government’ (PA)

Rishi Sunak has been making the most of the cut in national insurance contributions (NICs) announced by the chancellor in his autumn statement in November. In an unusual move, Jeremy Hunt made the reduction effective in the new year rather than the new fiscal year (which begins in April), thus providing a boost for January pay packets.

The 2 per cent reduction is worth about £450 for the average taxpayer (on about £35,000), while all those in paid employment – some 27 million people – will benefit. For this reason, Hunt called it “the largest ever tax cut for workers”.

Ministers say this is just the beginning of their tax-cutting agenda; critics point to the wider context of a historically high tax burden...

Who’s going to benefit?

All individual taxpayers. Changes to the personal allowance and NIC limits apply to the whole of the UK. Therefore, the national insurance changes, and some other measures announced in the autumn statement to do with rates and thresholds, apply to all taxable income received by English, Welsh and Northern Irish taxpayers, and to income from savings and dividends received by Scottish taxpayers (note that the Scottish government has recently increased income tax for higher earners). Equivalent changes for the self-employed will be effective in the spring.

Who’s left out?

Those who don’t have to earn a living, or cannot, because only those in employment or self-employment have to pay national insurance contributions. Thus, many older people who rely on the state retirement pension and savings to get by won’t see any benefit, and neither will those who receive universal credit. Equally, people who rely on income from investments or rent rather than working will not benefit from the changes, though they are often better off than those in the other categories. In that sense, the reduction is a minor gesture of redistribution and a modest additional incentive to work.

What’s it worth?

The Treasury says the change means an average worker earning £35,400 will get a tax cut of more than £450 in 2024-25. It adds that a “typical” full-time nurse on £38,900 should see an annual gain of more than £520, while working families wherein two people earn the average income will gain £900. An employee earning £50,000 will pay £3,743.00 in national insurance after the change, saving £748.60 over a year.

Is it a bit of a scam?

Some say so. Labour argues that it’s “Rishi Sunak’s Raw Deal”, claiming that for every extra £10 people are paying in tax, they are only getting £2 back. According to Rachel Reeves, the shadow chancellor: “Working people know that this month’s tax con is just a cynical giveaway from a weak and out-of-touch Tory government that is desperate to cling onto power, rather than a credible plan to fix our broken economy.”

So is Reeves right?

Broadly. The average taxpayer will be about £1,000 a year worse off each year as a result of the freezing of tax thresholds and personal allowances, and these freezes have been going on for some years already. This pattern has been verified by the experts. Thus, for example, the independent Office for Budget Responsibility states that the value of the freezes to personal tax thresholds over the course of this parliament will be worth the equivalent of a 10p increase in the main rate of NICs by 2028-29. Against this, the government cut NICs by 2p:

This measure offsets just under a quarter of the post-pandemic personal tax rises that were announced between March 2021 and November 2022, which we now estimate will raise a combined £44.6 billion in 2028-29 (by way of comparison, this is broadly equivalent, in revenue terms, to a 10 percentage point increase in the main rate of NICs).

This is almost 50 per cent higher than our estimate in March and is driven by higher earnings growth bringing more individuals into the scope of the measures, which include the multiyear freezes in the income tax personal allowance, the income tax higher-rate threshold, and both employer and employee NICs thresholds.

Is this all about ‘fiscal drag’?

Yes. The freezing of personal allowances from 2021 to 2028 (as is currently planned) rather than uprating them with inflation is a huge “stealth tax”, sneakily creaming off billions without ever having to alter headline tax rates. It is especially vicious at a time of high inflation, and when wages are increasing in nominal terms to keep pace. Basically, more of a worker’s income is taxed at higher rates, increasing their individual effective rate. As a result, many more relatively middle-class people are paying the higher rates of tax once reserved for the rich. Here is a worked example, courtesy of the House of Commons Library, of how it affects someone at the bottom of the income range:

Laurie earns £12,000 in tax year 2020/21. Because the personal allowance is £12,500, he does not pay any income tax.

In 2021/22, his salary increases to £12,560. In that tax year, the personal allowance is uprated to £12,570. He does not pay any income tax, though he would have had to if the personal allowance had not been uprated.

In 2022/23, Laurie’s employers increase his salary by 3.1 per cent in line with the September 2021 rate of inflation. His salary is now £12,960.

Because the income tax threshold is frozen at £12,570 (instead of rising by 3.1 per cent to £12,960), Laurie now starts paying income tax on the £390 he earns above the personal allowance. This is equivalent to £78 for 2022/23.

Are we all higher-rate taxpayers now?

No, but it’s getting that way. In 1991-92, 3.5 per cent of UK adults (1.6 million) paid the 40 per cent higher rate of income tax. By 2022-23, 11 per cent (6.1 million) were paying higher rates.

What else should we account for?

Certainly council tax, which for the average dwelling is a few hundred pounds a year more than at the start of the parliament; and duties on tobacco and alcohol have risen by more than inflation – though fuel duty has not. Plus mortgages, even with the latest adjustments downwards, are far more expensive than a few years ago – and few will have forgotten or forgiven the mayhem wrought by the Liz Truss-Kwasi Kwarteng mini-Budget.

Anything else?

Well, pensions and benefits are still being updated by the full rate of inflation, and the increases in the minimum wage will also help those who are in work but struggling to make ends meet. The government also stresses that it’s providing a package of support worth £3,700 per household between 2022 and 2025, to help some of those on benefits to cope with the increase in the cost of living. There’ll also be additional help with childcare costs for working parents.

Will the cuts in national insurance contributions win the election?

Not on their own. Politically, tax cuts have often preceded an election win for an incumbent administration, albeit sometimes followed a few months after polling day by an emergency Budget reversing much of the benefit.

With the trend to lower mortgage rates, and promises of income tax and inheritance tax cuts to come after the election, the government will be hoping that a pre-election boost to household living standards will trigger a commensurate rise in its dismal opinion poll ratings. However, the autumn statement, in which these changes were announced, made no noticeable difference to the government’s popularity, and voters seem to be more sceptical about what’s really been happening to their tax bills.