24 March 2011
The Taxation of Families
It's that time again, the highlight (or lowlight!) of the financial year is upon us. Yes, the Budget has arrived and was delivered by Chancellor of the Exchequer George Osborne. It was hotly anticipated by many throughout the UK and will have ramifications for many of its citizens.
This is true not least because Wednesday (23 March) gave the Chancellor a chance to enact what was agreed in page 19 and page 30 of the Coalition Agreement all those months ago, namely that marriage will be recognised in the tax system and that the couple penalty will be reduced. Unfortunately however, the Chancellor did not take the opportunity in his Budget speech to announce plans to recognise marriage in the tax system and although the couple penalty (that is, the reduction in entitlements to benefits and tax credits and increase in liability to taxes that occurs when two single people marry, or start to live together as husband and wife) will be reduced for the poorest families, it will leave others facing higher penalties than they do now.
As well as looking at the couple penalty, CARE's research also looks at how marriage is treated by the UK tax system by comparing the tax rates married couples face in the UK in comparison to other countries. The report also looks at the work incentives that exist for poorer families. A final area which the publication covers is where families sit in the income distribution, that is, how rich or poor they are in comparison to the entire UK population. These areas (where appropriate) are analysed according to both how the tax system stands today, and also how it will change under the introduction by the Government of the Universal Credit.
In regard to the tax rates of married couples it appears that the tax burden (the amount of tax a couple pays compared to a single person on the same income) is much higher in the UK than in other developed countries. Indeed CARE's research points out that for married couples on an average wage with two children, the tax burden in 2008/09 was 33 per cent greater than the Organisation for Economic Co-operation and Development (OECD) average. The 2009/10 figures, however, reveal that the burden has risen such that it is now 39 per cent greater than the OECD average. What is arguably most concerning though is that due to policies announced by the Government, this is now destined to soar to a rate which is a staggering 50 per cent greater than the OECD average.
Encouragingly however (despite no announcements being made today), the Government has committed to tackling the couple penalty in the Coalition Agreement; and CARE's findings show that there is a compelling case for doing so. CARE has drawn upon data from the Institute of Fiscal Studies which shows that 95 per cent of all single people with children would incur a couple penalty if they married or started to live together as husband and wife. Half of these families would face a penalty of at least £101 per week, or a drop of 16 per cent in their net income. Ten per cent of single people would incur a penalty of £214 per week if they partnered, which would represent a loss approaching a third of the couple's joint disposable income.
What makes matters worse is that families on the lowest incomes, who are eligible for tax credits, suffer very high Marginal Deduction rates, that is, a reduction in income resulting from income tax, national insurance contributions and loss of tax credits and other means-tested benefits as a result of an increase in gross income. CARE's research illustrates that at the moment, families who receive tax credits face a marginal deduction rate of 71 per cent. However, this rate is due to increase to 73 per cent this April. What this means in practice is that for every extra pound earned over a certain threshold, these people who were on tax credits would only keep 27p, which then has a rather negative impact on work incentives for these people.
In relation to the last of these issues - the income distribution - CARE's study shows that many families, despite having relatively higher incomes, actually sit well down in the income distribution in the UK and will continue to do so after the latest planned child tax credit and child benefits cuts come into effect. A case in point would be families with three children, where one earner is on £42,500 per year. The taxation of families 2009/10 research shows that, when the latest benefit and tax credit cuts come in, such a family will be richer than less than just 40 per cent of the population.
In summary, CARE's findings show that in a number of areas our UK tax system is ripe for reform. As the above findings demonstrate, varying family types are facing either higher than average tax burdens, couple penalties which offer financial penalties for marrying and, as a result of the how the UK tax system is designed, certain one-earner families on average incomes are actually poorer than the majority of the population. Despite such compelling findings, changes in this area were not announced by the Chancellor, but we can be hopeful that either in the forthcoming Budget resolutions or in future Budgets favourable announcements will be made due to the commitments made in the Coalition Agreement.
David Binder, CARE