British Tax Review Article
In a previous article in the British Tax Review, Glen Loutzenhiser said that the introduction of a limited form of transferable allowances was “a small step away from an individual tax unit down the path towards joint taxation, but it is a small step in the wrong direction.”
In reply Beighton and Draper argue that the transferable allowance for married couples is a small but essential step towards reintroducing into the income tax system support for family responsibilities. This was an urgent need following changes to tax credits and universal credit announced in the Summer 2015 Budget.
Tax credits were introduced when that support through the income tax system was finally withdrawn: as a result the system has two major weaknesses.
First, the amount of tax anyone pays is poorly related to how well off (s)he is, which depends on household income. Large families may be liable to higher rate tax even if their income is insufficient to provide “a minimum acceptable standard of living.” The family unit was first introduced in the High Income Child Benefit Charge (HICBC) where it disadvantages single income families and operates contrary to its stated objectives. Independent taxation was originally planned to give married couples privacy in their tax affairs—which because of tax credits it fails to do—but also through transferable allowances to end discrimination against families with young children. The second weakness is that it has resulted in very high effective marginal tax rates (EMTRs) for very many families.
The changes to tax credits announced in July 2015 will cost households in work an average of £1,400 a year—for many families with children, more than £2,000 a year. The proposed national living wage will not help them. The 50 per cent of families who will still be receiving tax credits or will be entitled to the universal credit will have difficulty in replacing the lost income—in 2016–17 their EMTR will rise to 80 per cent and in some cases as high as 97 per cent. Even under universal credit their EMTR will be 76 per cent. The disincentive effect will become clearer with universal credit. Under universal credit a fully transferable allowance would reduce marginal rates by lifting some families out of credits.
The article concludes that even before the Summer 2015 Budget it was clear that there were problems with the way independent taxation was working and that there was a need to rethink the way income tax applied to families. This need has become more urgent following the changes to tax credits and Universal Credit announced in July 2015.
A way needs to be found which relates income tax more closely to how well off people are and which does not involve marginal rates in the seventies or eighties for a large number of working families. The introduction of a fully transferable allowance with something like the Additional Personal Allowance for single parents would not be a panacea but might be a step towards a more radical and comprehensive solution such as some form of optional joint assessment—possibly a quotient system. This would equate tax more closely to family circumstances without imposing excessive marginal rates. For those who see paid work to be of greater value than unpaid caring work, it would have the disadvantage of imposing a disincentive for getting the caring parent back into paid work. However for the 60 per cent of families currently within tax credits a non-working parent going back to work already loses 41 per cent of any new income and from April will lose 48 per cent and when Universal Credit comes in that parent will lose 65 per cent. Reducing the income tax these families pay would take some families out of Universal Credit and in some cases would reduce the effective marginal rate on a non-earner returning to paid work to nil.