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Tax policies that sound good but don’t work

Posted by Chris Johnes Director, UK Poverty Programme

12th Mar 2014

Tax reforms and other policy changes that help people on the lowest incomes have been in the spotlight in the last couple of weeks. But are these policies really aimed at helping the poorest, asks Chris Johnes, or are they the work of spin doctors?

Economists tell you that tax is used by governments for three reasons: to raise money, to try and promote a more equal society, and to incentivise certain forms of behaviour. Sometimes these three aims can come together in one tax, but most of the time they don't and governments are left with tricky decisions to make.

They often ask for help in making these decisions, especially when it comes to using tax for incentives. Then they call in people with specific expertise, who understand how the people they are trying to incentivise think. This means that, sometimes, they in effect allow the people who are being taxed to write the rules. This has most recently been the case with changes to Corporation Tax (for more on this see Richard Brooks' book The Great Tax Robbery).

The tax reforms proposed are expensive and deliver the majority of their benefits to people on middle incomes.

However, this has very markedly not been the case with some current high profile tax proposals from the main political parties. These come at a time when the cost of living debate is livelier than ever - as the excellent annual report from the Resolution Foundation shows life has become quite tough for many people on low incomes. Alongside this we have seen a growing debate over the last few years on how to incentivise people to take up low paid work rather than staying on the dole.

You'd think that these two debates would make reforms that increase take-home pay a priority. And, in theory, they are - until you see the nature of the proposals from the main political parties.

The Coalition, led in this instance by the Liberal Democrats, want to raise the tax threshold at which people start paying income tax to around £12,500. Their Conservative partners have proposed raising the Minimum Wage. The Labour Party has responded by proposing to reinstate its 10p starting tax rate for those on low incomes.

As the Institute for Fiscal Studies (IFS) has clearly illustrated, the tax reforms above are expensive and deliver the majority of their benefits to people on middle incomes. This is because a large proportion of people on low incomes do not have a high enough income to even be taxed, or, if they do, they will simply see the amount of benefits they are entitled to decrease as their wages increase. The IFS's counter proposals, which involve raising National Insurance thresholds for the low paid and raising the amount of money people can keep under Universal Credit, would deliver benefits strongly targeted at the lowest paid workers and cost a fraction of the above mentioned three proposals.

Raising National Insurance thresholds for the low paid and the amount of money they can keep under Universal Credit would deliver benefits to the lowest paid workers.

Then why are politicians proposing tax changes that won't bring much benefit to those they purport to help and cost much more than a viable alternative?

The sad truth is that for politicians of all the main parties - and we haven't seen anything better from the green or nationalist groups in Parliament either - tax for the low paid is a political football. It's a chance to show they support aspiration, make headline grabbing statements that apparently reward work, and subtly but significantly give tax breaks to middle income swing voters. Low income voters, however numerous they might be, seemingly lack the political status to have their needs taken seriously.

Strangely, when politicians came up with these proposals they don't seem to have consulted with people who might understand the needs of low paid workers: there's no sign of involvement from unions, or anti-poverty groups or economic analysts like the IFS.

These policies are driven by what sounds good, not what works. It's difficult to imagine tax policies aimed at businesses, like Corporation Tax, being designed like this - but then it looks like businesses are more important to our politicians than millions of low paid workers and would be workers, and also have much more political power. Political inequality is effectively making economic inequality far worse than it needs to be.

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Photo credit: UK Parliament on Flickr

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Director, UK Poverty Programme

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