Budget: Income tax thresholds frozen by Rachel Reeves
Income tax thresholds will be frozen until the end of the decade, despite the Chancellor previously branding the tax trick as a “stealth tax” tantamount to “pickpocketing”from working people.
According to the OBR’s unprecedented leak of Budget contents, the Chancellor chose to freeze the bands at which different rates of income tax are introduced for three years from 2028-29, extending a policy first introduced by Rishi Sunak in the wake of the pandemic.
Income tax thresholds have traditionally risen in line with inflation to ensure workers given pay rises to keep up with the cost of living aren’t sucked into higher bands.
But faced with a major fiscal shortfall in the wake of the pandemic and a return of sustained wage rises, the then-Chancellor Rishi Sunak abandoned that custom.
The OBR confirmed that move would raise £8bn a year by 2029, and will drive 780,000 more people into the basic rate, 920,000 more into the higher rate, and 4,000 into the additional rate by the end of the parliament.
Officials at the organisation confirmed it would offset the fiscal hole left by the OBR’s parallel decision to downgrade the UK’s growth forecasts.
Gabby Donald, a tax partner at Blick Rothenberg, said: “This will drag more middle earners into higher thresholds and more lower income families into paying tax – a stealth tax on working people and pensioners.”
Rachel Reeves’ decision to extend that freeze for longer than even than much of political speculation suggested, represents a stark U-turn after promising to lift the freeze in 2028 during her maiden Budget in October.
She has also gone on record as a staunch critic of the approach, which is a major revenue driver but economists say distorts incentives and leaves raises the effective tax burden on workers.
Income tax freeze follows hike U-turn
In her response to the 2022 Autumn Budget, Reeves accused then Chancellor Jeremy Hunt of “pickpocketing” working people when he chose to extend the threshold freeze.
She has also repeatedly branded it a “stealth tax” that “eats into people’s pay packets”.
The U-turn, which should raise roughly £8bn a year, follows the Treasury’s shock decision to abandon heavily trailed plans to raise income tax as a means of plugging a shortfall believed to be north of £20bn.
Last month, Rachel Reeves prepared voters for the manifesto-busting hike with an unusual ‘scene setter’ speech in which she claimed economic hangover from legacy decisions like Brexit and the mini Budget for the need for difficult decisions.
“We will bear down on waiting lists, on the cost of living, and on the national debt which compound these challenges,” she said.
“And when that requires hard choices, we will act – guided by the interests of working people.”
Despite subsequently dropping the income tax plans, Labour’s political opponents have argued re-freezing thresholds broke its pre-election promise not to raise tax on ‘working people’.
Sarah Coles, head of personal finance at Hargreaves Lansdown, said the decision meant “every pay rise will mean more people paying more tax, and more tipping over into paying higher rates”.
“Someone earning £50,000 this year will pay £8,165 more in tax over those three years as a result. It’s not just the tax on earnings that’s affected. When you start paying higher rate tax, your personal savings allowance shrinks, from £1,000 for basic rate taxpayers to £500 for higher rate taxpayers, and disappears altogether for additional rate taxpayers.
“You also pay a higher rate of capital gains tax when you cross into paying higher rate tax, and your dividend tax rate rises as you cross each income band. It means everyone, whatever their income, needs to consider the steps they can take to protect themselves.”