Want a fairer tax system? Merge national insurance with income tax

by Callum Anderson

One of Ed Miliband’s biggest successes of 2013 was shifting the political argument towards the cost of living crisis. Whilst this will not be sufficient to win the economic debate against the coalition government, it is still likely to be a significant battleground in the run-up to the next general election, as wages continue to stagnate and the cost of living rises, despite signs that unemployment is falling and that economic growth is (finally) beginning to be restored.

Indeed, by May 2015, Ed Miliband could be well set to ask the voters: “Are you better off than you were five years ago?”

Naturally, an aim of a government (and certainly that of a Labour government) should be to increase the money that low and middle income earners have in their pockets. They are more likely to spend more, which will subsequently lead to positive benefits for the economy. Much progress has already been made in increasing wages through the minimum wage (although, of course, a living wage must soon be implemented), as well as increasing the tax-free personal allowances (for which credit deserves to go to the coalition government). One way of improving the living standards of low and middle income households is through the tax system. Tax cuts aimed at the poor are good because they encourage work, reduce the welfare bill, and helps poorer people to be better off.

And the clearest (not to mention the simplest) way of achieving this? Merging National Insurance contributions (NICs) with income tax. I believe that not only would we be able to help millions of the country’s lowest earners, we would also be able to create a fairer tax system that ensured that everyone pays their fair share, as well as making tax avoidance more difficult.

Currently, employees pay income tax on earnings over £9,440 per annum (increasing to £10,000 in April), yet begin to pay NICs when they earn more just £7,748 per annum. Clearly, this is significantly lower than the personal allowance for income tax, despite both being deducted from the same pay packet: NICs are essentially income tax 2.0.

Amol Rajan highlighted a few months ago that the argument against merging NICs and income tax is that National Insurance (NI) sanctifies the contributory principle — namely, that what you put in relates to what you get out – yet doesn’t seem to apply to income tax for no apparent reason. Moreover, it seems to me, that in 2014 the idea that NICs are ring-fenced into a special fund that specifically pays for the NHS and state pensions is pure fantasy. It is simply a matter of fact that all tax revenue is pooled together to fund the government’s expenditures.

By merging NI with income tax, we can reduce costs, make tax more transparent, incentivise companies to hire staff and more effectively target tax cuts at the very poorest. Its transparency and simplicity would be a benefit, and not a hindrance, to such a reform. The Office of Tax Simplification (OTS) points out the high administrative cost of the current system and its report identifies merging income tax and NI as a ‘priority area for structural reform’. John Whiting, Tax Director for the Office of Tax Simplification said: “Our aim is develop practical ideas that will make things easier for small businesses when it comes to their tax responsibilities.”

NI is also an extremely complex system. There are 60 different categories into which employees may fall, and 20 different rebates for pensions. Complexity in taxation puts employers off employing people and conceals the truth about tax from those who pay it. There would be a huge saving for business and the exchequer if they only have to pay and collect one tax instead of three. All the different rules, from assessment periods to how expenses can be deducted, could be consolidated. KPMG puts the cost of just three of the “information obligations” the separate NI system imposes on business at £146m. The true savings from consolidating the three taxes into one payment could be substantial.

The Institute for Fiscal Studies (IFS) has also said that the integration of the systems of income tax and NICs would produce a major improvement to the structure of the personal direct tax system in the UK. It would be more coherent, and reduce the scope for tax.

Naturally, as with all tax reforms, there would be some ‘losers’. The IFS highlighted that under integration, taxpayers with income not currently subject to employee NICs would be worst hit, such as those with investment income, state and occupational pensions. Elderly taxpayers and other pensioners were considered to be the largest group likely to suffer disadvantage, since they did not (and do not) pay NICs. On the other hand, pensioners would now share the burden of tax rises alongside workers.

So, as this would undoubtedly cost money to implement, how could the government recoup this money? Well, the age that people can begin to claim their state pension will be steadily increasing over the coming decades, and this is predicted to claim back up to £40 billion for future governments. Other ideas include abolishing the higher rate of pension tax relief – perhaps capping it at the (reformed) basic rate of Income Tax.

Overall, by merging NICS with income tax, a one nation Labour government could create a tax system that was still progressive, but be simpler and easier to administrate. It could gift low and middle income earners hundreds of pounds a year, at a time when wages are stagnant and the cost of living is rising. Who wouldn’t want that?

Callum Anderson currently works at the Community Development Foundation

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8 Responses to “Want a fairer tax system? Merge national insurance with income tax”

  1. Tafia says:

    It all goes into the same bucket anyway and should have been merged years ago,. The savings in IT, real estate, running costs and the amount of public sector jobs they will be able to shed will be colossal.

  2. Madasafish says:

    A great idea. It will make the argument “if you don’t pay tax and don’t contribute and never have, then you are not entitled to benefits” much easier to enforce.

    An Unintended Consequence perhaps?

    Otherwise it makes sense..tax pensioners more.. I can see that being electorally very popular.

  3. Rational Plan says:

    HA, Ha , HA. Make pensioners pay more tax. Politically popular! Ha Ha Ha .

  4. Ex-Labour says:

    You start of with a sensible suggestion and then go tangetially to the usual progressive tosh.

    Read between the lines of whats written and the message is the same old Labour. Our moral superiority complex gives us the right to tax those we dont like and give it to those who we think deserve it. As normal its dressed up as some other purpose, but its pretty clear what the aims and objectives are.

    Pensioners will be “losers” – obvious vote winner there.

    The lower and middle incomes would have hundreds more to spend – but they already have. As you acknowledge the coailition is increasing personal allowences each year which has already taken many low earners out of tax altogether..

    Our tax system already favours the low paid, benefits claimants etc and you can see the “winners and losers ” here:


  5. Terrific idea. Increasing tax burden on pensioners could be resolved by reinstating the enhanced personal allowance for pensioners, or by exempting the state pension from income tax.

    You’d have to increase the minimum wage to compensate for the switch of employer’s NI over to income tax. Indeed, you’d probably want to pass a law that directly increased all pay of permanent employees by the amount of their employers’ NI contributions (so they don’t lose out).

    Giving everyone an (approx) 10% pay rise and a 10% (apparent) tax increase is going to look a bit odd.

    Self-employed people who aren’t subject to IR35 would lose out, but ones that do pay IR35 will find that their rates compare more favourably to permies and probably end up doing better in the medium term.

    People with a lot of wealth would be the biggest losers, as unearned income (rents, interest, dividends) would now be taxed in the same way as earned income.

  6. uglyfatbloke says:

    NI is a tax on employment for both workers and employers so pretending it is a ‘contribution’ is simply dishonest. It would be cheaper, easier and more effective to merge it with income tax but it would be hard to sell that to the electorate.

  7. Stewart says:

    just googled this story as tories leaked their proposals to do this at the weekend. I am mortified that socialists would agree with this. I am a state pensioner and was naive enough to think that the state pension wasn’t taxable until I discovered otherwise. This proposal is ok for working ppl but how are you going to keep the pensioner vote (and we do vote) when you support taxing them at 32%? (20% tax + 12% NI= 32%). Brown started to punish pensioners with a pathetic pension rise and now labour wants to twist the knife along witht he tories

  8. chris says:

    One assumes all those people advocating amalgamating income tax and national insurance never anticipate that one day they may well become pensioners as well. In planning for the future wouldn’t they like to think at retirement age they might benefit by not paying national insurance. How do the politicans think pensioners will respond at facing a 60 % increase in their tax rate? Is this fair and equitable? I think this change is inevitable with both the Tories and Labour now testing the water. This needs to be raised as an important issue with the grey vote before the next election to determine which party might offer the least painful solution. Cameron did state in the Commons that it was not his intention to make pensioners pay any additional rates in the event of combining these taxes. So over to you Ed.

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