Leader: The tax burden should move from earned to unearned income

There are strong, principled and pragmatic arguments for higher taxes on property.

Since the coalition government came to power, it has repeatedly argued that it has no choice but to impose the biggest cuts in public services since 1945. The Trades Union Congress's anti-cuts march on 26 March was the most visible demonstration yet that hundreds of thousands of workers and students disagree. It was right for Ed Miliband to address the marchers, despite the attempts by some to link him to the violence that took place elsewhere. It was also right for him to deliver the unpopular message that "some cuts" need to be made. Even after the coalition's initial austerity measures, the deficit for this year is expected to be £145.9bn.

The Labour Party's commitment to a lower level of cuts than what the coalition is pushing forward is premised on the belief that it can raise significantly more from taxation. Mr Miliband has said that, were Labour in power, it would reduce the deficit through a 60:40 split between spending cuts and tax rises, as opposed to the coalition's 73:27 split. He is understandably reluctant to commit himself to a specific programme of tax rises at this stage but, as he oversees a major policy review, he should note the important debate taking place within the coalition.

Following Chancellor George Osborne's announcement that he hopes to abolish the 50p tax band in the near future, Vince Cable has raised the possibility of replacing the top rate with a range of property-based taxes. As he wrote in his recent essay for the New Statesman on reclaiming John Maynard Keynes, Mr Cable believes in shifting taxation away from "profitable, productive investment" and towards "unproductive asset accumulation". He has promised to push for the introduction of a "mansion tax", as proposed by the Liberal Democrats at the last election, under which a levy of 1 per cent would be imposed on houses worth more than £2m.

There are strong, principled and pragmatic arguments for higher taxes on property. These automatically apply to largely untaxed foreign owners, target the source of much unearned wealth and are harder to avoid than taxes on income. In addition, they reduce the distorting effect that property speculation has on the economy.

The failure of successive governments to tax property at a fair rate is one reason why the top 10 per cent of households own more wealth than all others combined. The concentration of wealth is most grotesque in the case of land, 69 per cent of which is owned by just 0.3 per cent of the population. As we have long argued, a land value tax, at least for business and agricultural land, would provide a new source of income, as well as encouraging divestment and the dispersal of land. Such a programme of reform would enable significant cuts in personal taxation. As the possible merger of income tax and National Insurance has highlighted, the basic marginal rate of tax is, in effect, 32 per cent. This is much too high for those on low and middle incomes.

The old tax-and-spend model of social democracy is failing in an age when capital is so mobile and the rich are so adept at avoiding taxation. We need a new business model for social democracy in Britain, one that shifts the burden of taxation from earned to unearned income; from taxes on income and consumption to those on property, inheritance and land.

This article first appeared in the 04 April 2011 issue of the New Statesman, Who are the English?

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Q&A: What are tax credits and how do they work?

All you need to know about the government's plan to cut tax credits.

What are tax credits?

Tax credits are payments made regularly by the state into bank accounts to support families with children, or those who are in low-paid jobs. There are two types of tax credit: the working tax credit and the child tax credit.

What are they for?

To redistribute income to those less able to get by, or to provide for their children, on what they earn.

Are they similar to tax relief?

No. They don’t have much to do with tax. They’re more of a welfare thing. You don’t need to be a taxpayer to receive tax credits. It’s just that, unlike other benefits, they are based on the tax year and paid via the tax office.

Who is eligible?

Anyone aged over 16 (for child tax credits) and over 25 (for working tax credits) who normally lives in the UK can apply for them, depending on their income, the hours they work, whether they have a disability, and whether they pay for childcare.

What are their circumstances?

The more you earn, the less you are likely to receive. Single claimants must work at least 16 hours a week. Let’s take a full-time worker: if you work at least 30 hours a week, you are generally eligible for working tax credits if you earn less than £13,253 a year (if you’re single and don’t have children), or less than £18,023 (jointly as part of a couple without children but working at least 30 hours a week).

And for families?

A family with children and an income below about £32,200 can claim child tax credit. It used to be that the more children you have, the more you are eligible to receive – but George Osborne in his most recent Budget has limited child tax credit to two children.

How much money do you receive?

Again, this depends on your circumstances. The basic payment for a single claimant, or a joint claim by a couple, of working tax credits is £1,940 for the tax year. You can then receive extra, depending on your circumstances. For example, single parents can receive up to an additional £2,010, on top of the basic £1,940 payment; people who work more than 30 hours a week can receive up to an extra £810; and disabled workers up to £2,970. The average award of tax credit is £6,340 per year. Child tax credit claimants get £545 per year as a flat payment, plus £2,780 per child.

How many people claim tax credits?

About 4.5m people – the vast majority of these people (around 4m) have children.

How much does it cost the taxpayer?

The estimation is that they will cost the government £30bn in April 2015/16. That’s around 14 per cent of the £220bn welfare budget, which the Tories have pledged to cut by £12bn.

Who introduced this system?

New Labour. Gordon Brown, when he was Chancellor, developed tax credits in his first term. The system as we know it was established in April 2003.

Why did they do this?

To lift working people out of poverty, and to remove the disincentives to work believed to have been inculcated by welfare. The tax credit system made it more attractive for people depending on benefits to work, and gave those in low-paid jobs a helping hand.

Did it work?

Yes. Tax credits’ biggest achievement was lifting a record number of children out of poverty since the war. The proportion of children living below the poverty line fell from 35 per cent in 1998/9 to 19 per cent in 2012/13.

So what’s the problem?

Well, it’s a bit of a weird system in that it lets companies pay wages that are too low to live on without the state supplementing them. Many also criticise tax credits for allowing the minimum wage – also brought in by New Labour – to stagnate (ie. not keep up with the rate of inflation). David Cameron has called the system of taxing low earners and then handing them some money back via tax credits a “ridiculous merry-go-round”.

Then it’s a good thing to scrap them?

It would be fine if all those low earners and families struggling to get by would be given support in place of tax credits – a living wage, for example.

And that’s why the Tories are introducing a living wage...

That’s what they call it. But it’s not. The Chancellor announced in his most recent Budget a new minimum wage of £7.20 an hour for over-25s, rising to £9 by 2020. He called this the “national living wage” – it’s not, because the current living wage (which is calculated by the Living Wage Foundation, and currently non-compulsory) is already £9.15 in London and £7.85 in the rest of the country.

Will people be better off?

No. Quite the reverse. The IFS has said this slightly higher national minimum wage will not compensate working families who will be subjected to tax credit cuts; it is arithmetically impossible. The IFS director, Paul Johnson, commented: “Unequivocally, tax credit recipients in work will be made worse off by the measures in the Budget on average.” It has been calculated that 3.2m low-paid workers will have their pay packets cut by an average of £1,350 a year.

Could the government change its policy to avoid this?

The Prime Minister and his frontbenchers have been pretty stubborn about pushing on with the plan. In spite of criticism from all angles – the IFS, campaigners, Labour, The Sun – Cameron has ruled out a review of the policy in the Autumn Statement, which is on 25 November. But there is an alternative. The chair of parliament’s Work & Pensions Select Committee and Labour MP Frank Field has proposed what he calls a “cost neutral” tweak to the tax credit cuts.

How would this alternative work?

Currently, if your income is less than £6,420, you will receive the maximum amount of tax credits. That threshold is called the gross income threshold. Field wants to introduce a second gross income threshold of £13,100 (what you earn if you work 35 hours a week on minimum wage). Those earning a salary between those two thresholds would have their tax credits reduced at a slower rate on whatever they earn above £6,420 up to £13,100. The percentage of what you earn above the basic threshold that is deducted from your tax credits is called the taper rate, and it is currently at 41 per cent. In contrast to this plan, the Tories want to halve the income threshold to £3,850 a year and increase the taper rate to 48 per cent once you hit that threshold, which basically means you lose more tax credits, faster, the more you earn.

When will the tax credit cuts come in?

They will be imposed from April next year, barring a u-turn.

Anoosh Chakelian is deputy web editor at the New Statesman.