A new report from the Centre for Policy Studies has called for National Insurance to be abolished. The report, NICs: The End Should Be Nigh, recommends replacing employee’s National Insurance Contributions and Income Tax on earned income with a new ‘Earnings Tax’. It also calls for employer’s National Insurance to be abolished altogether, with higher consumer taxes to make up the revenue shortfall.
The TaxPayers’ Alliance has long campaigned for National Insurance to be abolished, not least as part of our major campaign to simplify the tax system with The Single Income Tax and our 2020 Tax Commission. We even made a giant payslip to illustrate how abolition would make taxes simpler and more transparent. So this thoughtful proposal deserves close attention and consideration.
The proposals on the employee’s side are entirely sensible and would restore some much-needed transparency and honesty to taxes on income. However, the proposal to increase consumer taxes to balance the revenue shortfall from abolishing employer’s National Insurance is regrettable. The main options are VAT, alcohol and tobacco duties, Fuel Duty and Air Passenger Duty.
But increasing any of these taxes would be regressive. While that is not itself always a reason to oppose a tax reform, it should always cause us to pause for thought. As the Institute for Economic Affairs recently pointed out in their Aggressively Regressive report, consumer taxes, particularly lifestyle taxes on fuel, tobacco and alcohol, hit the poorest hardest.
The other problem is the scale of the rises required. The report says:
HMRC should model the net effect of no longer collecting employer NICs receipts, offset by higher Corporation Tax, dividend tax, Earnings Tax and VAT receipts. Any projected shortfall should be made up by additional consumer taxes.
It is true that abolishing employer’s National Insurance would lead to a considerable rise in receipts from other taxes, but increasing consumption taxes will have the same effect in the other direction, reversing the bulk of the dynamic effect on other receipts. The difference between the two would essentially derive from a combination of two effects.
The first effect is redistributing the tax burden from workers to non-workers, such as pensioners, artists who live off royalties and benefit recipients. The question this poses is should these groups suffer a tax rise and should the last group be given a increase in benefits to maintain their real incomes?
The second effect is the supply side one of transferring the tax burden from more economically sensitive employment taxes to relatively less sensitive consumption taxes. This effect is likely to be marginal. With employer’s National Insurance receipts totalling £61 billion in 2012-13, this equates to a substantial rise in other taxes. This is approximately half the receipts collected by VAT, meaning that if the entire burden were to be transferred to that tax, the main rate would need to rise by approximately that proportion, from 20 to 30 per cent while the reduced rate would need to rise from 5 to 7.5 per cent.
These difficulties are why we proposed the slightly different approach to employer’s National Insurance: namely, increasing paychecks and adjusting the combined earnings tax to suit, together with tax cuts to ensure almost nobody loses out and most groups enjoy a tax cut. Still, the report is a useful addition to the debate and well worth considering.