UK workers face £20.5bn hike in tax rises as inflation soars

·Finance Reporter, Yahoo Finance UK
·3-min read
UK Britain's Chancellor of the Exchequer Rishi Sunak hosts a news conference in the Downing Street Briefing Room in London, Britain February 3, 2022. Justin Tallis/Pool via REUTERS
Chancellor Rishi Sunak's decision to freeze income tax thresholds has turned into a £20.5bn stealth tax. Photo:Justin Tallis/Reuters

UK taxpayers are set to be hit with a £20.5bn ($27bn) tax rise as inflation soars and tax thresholds remain frozen, the Institute for Fiscal Studies (IFS) has warned.

The hike is £12.5bn bigger than expected give the quick rise in inflation. Usually tax thresholds go up in line with inflation. But last year, chancellor Rishi Sunak announced a four-year freeze to income tax thresholds which, based on inflation forecasts at the time, was expected to represent an £8bn tax rise.

The IFS said this shows the danger with freezing thresholds for long periods.

“Last March, when the Chancellor announced a four-year freeze in income tax thresholds, inflation was fairly low and so he expected it to raise about £8bn per year. Since then inflation has risen rapidly and is expected to rise even further, peaking at more than 8%,” Tom Waters, senior research economist at IFS, said.

Read more: Sunak urged to rescue family finances as households face 10% inflation

“That means that the tax threshold freeze is now on track to be a £20.5bn tax hike – two and a half times what was originally expected.”

On top of that, households already struggling amid the biggest cost of living crisis in decades will also be hit with next month’s £13bn increase in National Insurance contributions.

Experts have warned that frozen thresholds on levies such as income tax and inheritance tax is effectively Treasury’s way to create a stealth tax.

“We’re facing a horrible stealth tax on our incomes, which will cost us far more than we ever expected. Freezing income tax thresholds in a time of wage inflation is going to have a far bigger impact than anyone initially thought, and hit us just as hard as we initially thought the National Insurance hike would,” Sarah Coles, senior personal finance analyst at Hargreaves Lansdown, said.

According to the latest HMRC figures, there were 32.5 million taxpayers in 2019/20. This was down 200,000 in a year largely because of the 5% rise in the personal allowance outstripping wage rises.

The number of higher rate taxpayers fell 400,000 to 3.8 million, because the threshold increased 8% during the year.

However, as Coles noted, the freezing of the additional rate threshold meant 22,000 more people paid this level of tax – up to 421,000 – because pay rises pushed them over the threshold.

Read more: UK basic pay falls behind inflation at fastest rate in eight years

“Freezing the additional rate tax threshold at £150,000 pushed 22,000 more into paying 45% on their income. Given that this only affects those on the very largest incomes, this is going to have a far more dramatic effect when thresholds are frozen lower down the income scale on basic and higher rate tax,” Coles said.

HMRC said 17.9 million men and 13.5 million women paid income tax in 2019/20.

Some 84% of people were basic rate taxpayers, amounting to 26.5 million people, paying 34.3% of the tax. At the other end, 12% are higher rate taxpayers (3.8 million), and they paid 33% of the tax.

Overall, UK workers paid £189bn in income tax – up £2.5bn in a year.

Watch: How does inflation affect interest rates?

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