The wealth tax: why, what, how, who, and when?
- 21 January 2021
- 15 mins
The pandemic is causing a financial headache for the government. The economic and medical fallout of the Covid-19 crisis has resulted in a dramatic but necessary rise in government spending.
In its November 2020 Economic and Fiscal Outlook, The Office for Budget Responsibility (OBR) has forecast that the UK is on track to borrow a peacetime record of £394 billion this year. While according to this October 13 report from the BBC, the national debt is now greater than annual economic output.
But as Thisismoney.com reported on 25 November 2020, all this borrowing is probably sustainable for the moment as interest rates on UK government debt are close to zero. But the government will need to repay the debt over the coming years.
The government’s predicament
The government is in a bit of a bind. Prime Minister Johnson’s manifesto pledge to ‘level up’ the UK’s local economies takes the reintroduction of austerity measures off the table in the immediate future. That leaves the government having to look at ways to increase its income. And that means taxes.
But in 2019 the Conservatives promised not to raise the rate of income tax, VAT or National Insurance even though these are the three primary ways in which HMRC raises revenues according to data published on the government’s website in October 2020. Of the £633 billion raised in the tax year 2019-20 the biggest contributors were income tax (£194 billion), VAT (£130 billion) and National Insurance (£143 billion). Corporation tax – a tax paid by businesses on their profits – was the fourth biggest source at £61 billion.
And increasing taxes on income and businesses could supress economic activity once the lockdown ends. Consumers would have less to spend, and corporates less to invest to potentially grow their businesses and increase employment.
This has led to a shift in the debate from the taxation of incomes to the taxation of assets.
Isn’t wealth taxed already?
Yes. In July 2020 the Institute of Fiscal Studies (IFS) held an event called Is it time for a UK wealth tax? According to the accompanying presentation notes, there are three principal approaches to taxing wealth:
taxing transfers of wealth: the UK does this through Inheritance Tax (IHT), Stamp Duty Land Tax on property purchases, and Stamp Duty on share deals.
taxing returns on wealth: the UK does this through Capital Gains Tax, and taxing the income from dividends, savings, and rental property
taxing the ownership of wealth: the UK does not currently do this, and this has led to speculation the government has it in its sights.
Who is likely to be affected?
It would be difficult to see the general public being hit with further taxes as it has borne the brunt financially during this crisis. That leaves the finances of high net worth individuals. For in a time of hardship for many, a wealth tax is a very visible attempt at wealth distribution.
According to our analysis of the ONS October 2020 dataset Household income, spending and wealth in Great Britain the median household wealth of the UK’s richest 10% is 323 times that of the poorest 10%. Meanwhile the median household income of the top 10% is 15 times that of the poorest 10%. Many argue those with broader shoulders should foot a larger proportion of the bill.
So a one-off levy or an ongoing tax on personal wealth could rebalance the wealth distribution and provide a significant boost to government revenue. It could be very lucrative. According to Coronavirus: Paying for the pandemic, an April 2020 study by Manchester Metropolitan University, a one-off 2.5% wealth tax on individuals’ assets could generate £350 billion, alleviating the bulk of the deficit.
In December 2020, the Wealth Tax Commission published A Wealth Tax for the UK. It proposes individuals be taxed only once based on the value of their net wealth at a particular date.
Recognising the tax could be punitive, it proposes collecting the tax over a period of years. It calculates that taxing all individual wealth above £500,000 at 1% a year for five years would raise £260 billion; at a threshold of £2 million it would raise £80 billion.
This would be paid by individuals whose total wealth after mortgages and other debts, and after splitting the value of shared assets, exceeded the tax threshold. And only on the value of their wealth above that threshold. So a wealth tax levied at 1% above £500,000 would require a couple to have net wealth of more than £1 million before any tax would be payable.
Wouldn’t it be political suicide?
Not necessarily. It depends on how you classify “the wealthy”.
According to a July 2020 report in Citywire, a YouGov poll found 61% of the British public would support a tax on individuals with assets worth more than £750,000, excluding pensions and the value of their main home. In other words, most people would support a wealth tax just so long as it hits people richer than themselves.
The devil would be in the detail: at what level is someone deemed “wealthy”? £1 million? £2 million? £5 million?
What has been the experience of other countries?
According to the ifo Institute for Economic Research paper Wealth and Inheritance Taxation: An Overview and Country Comparison from February 2018, only three developed countries levy an annual wealth tax down from 12 in 1990. They are Spain, Norway, and Switzerland. The evidence suggests wealth taxes spell a lot of aggravation for little return. In Switzerland - which does not tax capital gains - wealth taxes brought in 3.6% in 2016; for both Spain and Norway it was around 1%. Additional revenue at these levels is not going to make a large dent in the budget deficit.
The super wealthy, and their money, are mobile: what’s to stop them voting with their feet and moving somewhere else? It happened to Sweden in the 1970s and to France after it introduced a wealth tax in 1998. French economist Eric Pichet speculated that the wealth tax ended up costing the French Government almost twice as much as it brought in due, in part, to the loss of other tax revenue from wealthy individuals.
What are the challenges?
The UK has trod this path before. Labour was elected in 1974 on a commitment to introduce a wealth tax, as their manifesto – hosted on the Labour Party website – attests. However, it left office five years later without doing so. As Sky news reported in July 2020, Chancellor Denis Healey confessed in his memoirs that it was “impossible to draft one which would yield enough revenue to be worth the administrative cost and political hassle”.
And that’s the issue.
Speaking at the Tax Justice Network Conference 2019, Helen Miller, deputy director of the IFS, said that wealth taxes have never raised very much money and can be difficult to design. Ideally, it would be as comprehensive as possible and you’d tax all assets equally – investments, savings, pensions, property, wine, artworks etc. This is because as soon as you exclude an asset people start moving their wealth around to reduce their tax liability.
If everything was taxed at the same rate across the board it would make the administration simpler. But it could penalise savers, such as pensioners who rely on their savings and investments to generate their retirement income. It could lead to people being taxed on the income from their savings or investments and on the assets that generate that income. It could also be seen as punishing hard work and success, disincentivising people to save and invest.
Finally, in October 2020 a report in The Telegraph quoted research by the OECD (Organisation for Economic Co-operation and Development) stating wealth taxes reduce the amount of money available to invest in activities that allow a company to grow, generate employment and improve economic activity. And could deter overseas investment, entrepreneurship, and business creation.
You would also need to build a system that compels people to value their assets. How often should you measure wealth? Would people have to pay professional valuers to prepare their inventories? What about residents from overseas? How do you value a privately owned business?
If it happens, who is likely to be affected?
Deciding who foots the bill for the government’s spending will be an extremely sensitive issue. The biggest bang for the government’s buck could come from redistributing the immense housing wealth gains made by baby boomers through a tax on every residential property in the UK. As Citywire reported in May 2020, a mansion tax on properties valued at over £2m was originally proposed by former Liberal Democrat leader Vince Cable in 2009, and later adopted by Ed Miliband at the 2015 general election.
While taxing every property without exception could reduce avoidance, those who are asset rich but cash poor – for example retirees – could struggle to pay a significant tax from their income. And would it mean the end of the Bank of Mum and Dad?
We already have a mechanism for this: the council tax. The bands used to calculate property values have not been updated since 1991. Now might be the excuse to revisit this. The money collected, however, flows into the coffers of local authorities rather than central government. Unless government saw this as a way of completely restructuring local authority funding by reducing central grants and subsidies. But for rental properties, the tax falls to the renter(s) rather than the owner(s). So would this represent a redistribution of wealth?
Where does that leave us?
The government has ruled out an explicit wealth tax. For now at least. Even though, in a time of hardship for many, a wealth tax is a very visible attempt at wealth distribution, and a good political tool even if it’s not meaningful as a revenue raising exercise.
The cancellation of November’s Budget in favour of a Spending Review gives the government some breathing space.
In the meantime it seems more likely the government will review the current tax system to reduce any inconsistencies to demonstrate its “levelling up” agenda.
As reported on the government’s politicshome website, according to a July 2020 report by the Public Accounts Committee the ten most expensive tax reliefs cost the government £117bn a year. It said “Tax reliefs have an enormous impact on tax revenue, but it is far from clear whether they deliver the objectives ... they are supposed to support.”
Following its Is it time for a UK wealth tax? event, the IFS has commissioned a series of papers which will form the basis for a final report to be issued in December.
What could be in the governments sights?
Capital gains are taxed at half the level of incomes, at 10% for basic rate taxpayers and 20% for higher rate taxpayers. Does it make political sense to discriminate against those who have to earn a living?
IHT could also come under scrutiny. As reported by Little Law in July 2020, inheritances have doubled over the last 20 years. But as Withers Worldwide pointed out in July 2020, even though the UK has amongst the highest level of inheritance tax in Europe it brings in less than 1% of all tax receipts. So we could see the removal of the nil rate band or a tiered tax rate.
Pension tax relief may also be up for grabs. According to HMRC’s October 2020 edition of Estimated Cost of Tax Reliefs, pension relief cost the government around £40bn in the last tax year. The rate of relief for higher earners might be scrapped in favour of a flat rate of 20% for everyone.
There are two other things to consider.
The triple lock on the state pension was introduced in 2010. According to a House of Commons Library report from June 2020 it means state pensions increase every April by whichever is the greater: the rise in prices, average salaries or 2.5%. According to politicshome, the government said back in June 2020 that the triple lock will remain in place and it has no plans to end the arrangement. It might decide to tinker with the formula, but any changes could make the government unpopular with retirees.
According to a Thisismoney report from July 2020, the OBR estimates wages fell by 1.2% in the twelve months to the end of June whilst the state pension increased by 3.9%. It goes on to outline that the OBR forecasts average earnings to decline by about 7% over 2020 but could rise by 18% in 2021 as the economy bounces back from the pandemic.
Trying to defend a state pension increase of around a fifth for retirees, while the nation's workforce is still struggling to get itself back on its feet, could prove a bigger political nightmare than changing the triple lock.
Secondly, once the economy is on a firmer footing, there is some evidence that the general public could get behind an increase in income tax. But with a catch. In a YouGov survey carried out in November 2019, 53% of Britons said they would support such a move if it were ringfenced to finance the NHS. Fewer than a third were opposed to the idea. And it could be quite lucrative. According to an FT report from May 2020 HMRC estimates a 1% increase in basic rate income tax could bring in an extra £4.7bn a year.
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