3 Organization Issues White Paper Entitled 'Fixing National Insurance: A Better Way to Fund Social Care'
The white paper was written by
* * *
Key points
* The government's new Health and Social Care Levy is unfair because it will: o Continue to tax younger workers more than pensioners o Continue to tax earnings from work more than income from wealth o Preserve the regressive rate structure of
* We recommend an alternative plan that involves reforming National Insurance Contributions (NICs) so that they apply more equally across different types and levels of income:
* Extend NICs in full - not only the new Levy - on all investment income and on pension-age individuals (although not pension income). This would raise
* Equalise the rates of NICs on higher earnings with the rates that are currently paid by lower earners. This could raise an additional
* Under our plan, the government could raise the same amount of revenue towards health and social care whilst also cutting the main rates of NICs by 1.25p, rather than raising rates by this amount.
* Compared with the government's proposals, under our plan more revenue would come from
* Raising taxes on younger and lower earners is a political choice; the revenue that the government needs could be raised from older people and higher earners.
Introduction
The government has proposed a new 'Health and Social Care Levy' to take effect from
In this report, we argue that instead of adding this new Levy on top of existing NICs, the government should have taken the opportunity to fix the gaps in our current
Below, we review how NICs currently work and explain the problems with the government's proposed new Levy. Then we set out how our alternative plan would work, how much it would raise, and who would be affected.
Six facts about
National Insurance Contributions (NICs) raise a lot of money:
However, there is a lot of misunderstanding about how NICs work, who pays them, and what they're used for. In fact, in their current form, NICs are one of the most arbitrary and unfair taxes in our system. Below, we set out the six facts that everyone needs to know about
Fact 1:
When NICs were first introduced, after the Second World War, there was a direct link between what people paid in and what they were entitled to get out, hence the label 'insurance'. However, the insurance element of NICs has now almost entirely disappeared: today, the amount that someone has paid in NICs makes virtually no difference to what they personally are entitled to receive from the
Fact 2:
It is a myth that the
Fact 3:
Despite the name, National Insurance Contributions are effectively just another tax on income. However, they are a peculiar kind of income tax because they only apply to certain types of income: earnings from employment and self-employment. In other words, people only pay NICs on the income that they get from working. Any income that is received from holding investments - such as dividends from shares, rent from property, and interest on savings - are currently exempt from NICs. This benefits those at the top of the income distribution who are more likely to receive these types of income.
Fact 4:
The liability to pay NICs stops once a person reaches the State Pension Age (SPA), which for most people is currently set at 66. Although employees who continue working after pension age still pay Employer NICs, they no longer have to pay the Employee contribution. For pensioners who are self-employed, NICs stop entirely. And while older people may previously have paid NICs throughout their lives, as NICs rates have been increasing this will have been at a lower rate than the current working-age population.
Fact 5: The highest earners pay a lower average rate of
Whereas an employee who earns between
Fact 6: There are several other oddities and inequities within the
First, unlike Income Tax, there is a lower rate of NICs on the self-employed than on employees, both because their main rate is lower (9% instead of 12%) and because the self-employed do not pay any equivalent of Employer NICs./4 Second, NICs start at a lower level than Income Tax: they kick in on incomes above (the equivalent of)
The government's plan
The government is planning a new 'Health and Social Care Levy', which would apply on top of existing National Insurance Contributions (NICs). The Levy will be set at a rate of 1.25% and will apply to three types of income:
1. Any income on which NICs are already paid
2. Dividends
3. Earnings by people of pension age
The vast majority (over 90%) of the new revenue will come from applying the Levy to income on which NICs are already paid - this is the same as raising all existing NICs rates by 1.25p.
The Levy will also apply to dividends and (from
Introducing this new Levy on top of existing NICs rates is unfair because it compounds all of the problems with our current
* Continue to tax younger workers more than pensioners. The Levy on people of pension age is only 1.25p, whereas younger earners must pay the full rate of NICs.
* Continue to tax earnings from work more than income from wealth. The Levy on dividends is only 1.25p, not the full rate of NICs paid on earnings. Rent from property and interest on bank accounts will escape the tax rise altogether.
* Preserve the regressive rate structure of
* Increase taxes on employment by more than for the self-employed. The 1.25p rise in all rates of NICs is actually 1.25p on Employee NICs plus 1.25p on Employer NICs.
These problems are all avoidable, by taking steps to fix our broken
What are the alternatives?
There are several other options that the government could have pursued instead of its new Health and Social Care Levy, each of which could raise at least as much revenue.
(1) Fix the gaps in
This is the option that we recommend. Instead of a new Levy, we propose fixing some of the biggest gaps in our current system. Specifically, we propose removing the current NICs exemptions for investment income and people of pension age and equalising the rates paid on high earnings with the rates already paid by lower earners. Taken together, these reforms could raise around
(2) Raise Income Tax rates
If for some reason the government felt constrained to tinker with existing tax rates rather than taking on deeper reforms, an increase in Income Tax would be better than the governments proposed Levy. This is because, unlike the Levy, Income Tax also applies to investment income other than dividends. As the
(3)Increase taxes on wealth
In justifying its new Levy, the government has claimed that "Only a broad-based tax base like Income Tax, VAT or NICs can raise the sums needed for such a significant investment in health and social care" (HM Government, 2021). This is wrong. As we have shown in previous work, significant additional revenues can also be raised from reforming how we tax wealth, and income from wealth:
(a) Advani & Summers (2020) recommend raising tax rates on capital gains to match income tax, which would raise approximately
(b) Advani, Hughson & Tarrant (2020) model the effect of plugging holes in Inheritance Tax by removing exemptions, which would raise approximately
(c) Advani, Chamberlain & Summers 2020 recommend introducing a one-off tax on the ownership of wealth. At a rate of 1% per year over five years, on personal wealth over
Our proposal: fixing the gaps in
Instead of the government's new Levy, we propose an alternative package of reforms that would fix gaps in our current
The effect of our proposal is to move towards more equal treatment of income across different sources and levels of income and across different age groups. It is similar to merging NICs with Income Tax to form a single tax on income, which has strong support amongst economists./6 Our proposal does not constitute a full merger,/7 but it takes significant steps in this direction.
The three reforms are summarised below, with further details in the Appendix:
(1) Remove the current exemption for investment income
Investment income - including dividends from shares, rent from property, and interest from savings - is currently exempt from NICs. We would remove this exemption and apply NICs at the rates needed to achieve equal tax treatment with earnings from employment. The justification for this reform is that all income should be taxed in the same way, regardless of where it comes from.
In setting the appropriate rate of NICs, we need to take account of both Employee and Employer NICs. Although the headline rates of these taxes are 12% and 13.8% respectively, the combined effective rate of both taxes is 22.67%./8 This rate assumes that the cost ('incidence') of Employer NICs is ultimately borne by employees./9
Dividends are (usually) paid out of profits that have already been subject to Corporation Tax and face a different - lower - rate of Income Tax than for other forms of income. When setting the appropriate rate of NICs on dividends, we take account of the Corporation Tax already paid, assuming that the incidence of this tax is borne entirely by shareholders./10
Following this approach, the NICs rates that we would levy on investment income are as follows:
* * *
TABLE 1: NICS RATES CHARGED ON INVESTMENT INCOME UNDER OUR REFORM
Notes: The income thresholds shown in this table are for 2021-22. For further details on how we calculate these rates, see Appendix A.
* * *
(2) Remove the current exemption for people of pension age
Individuals who are above the State Pension Age (SPA) are currently exempt from NICs, even if they continue working. We would remove this exemption so that these people paid NICs on the same basis as those of working age. This reform is justified because - as we highlighted above - in practice
Under our proposal, individuals older than the SPA would pay NICs on earnings from employment and self-employment, and also any investment income received - in line with our first reform. Pension income (i.e. income received from registered pension schemes) would continue to be exempt from NICs. There is a case for charging NICs on pension income but allowing all pension contributions to be made free of NICs: /11 however, we do not pursue that proposal here.
(3) Equalise the rate paid on high earnings (above
Earnings above
This reform entails a substantial tax increase of up to 10p on incomes above (approximately)
One likely objection to this reform is that when the top rate of Income Tax was raised from 40p to 50p in
How much revenue would it raise?
The following table shows how much revenue could be raised from our proposed reforms to
* * *
TABLE 2: REVENUE: OUR REFORM VS GOVERNMENT'S PLAN
Notes: Each reform assumes that the previous reform has been carried out (e.g. investment income included in all). Investment income is charged at the combined effective rate of Employee and Employer NICs (22.67% between Primary Threshold and Upper Earnings Limit (UEL); 13.88% above UEL).
Source: Authors' calculations based on the SPI 2016-17.
* * *
Our modelling shows that removing the NICs exemption for investment income - taxing this in line with employment income - would raise an additional
Equalising the NICs rates on high earnings in line with the rates already paid by lower earners, could raise a further
These estimates highlight that fixing our existing
Who would pay?
Our proposal asks those earning income from wealth, and those above pension age, to contribute to the
Impact by age
As people of State Pension age, even those who are still working, are currently exempt from paying NICs, the burden of the tax falls heavily on younger people: half the revenue raised by the government's new Levy would come from people aged under 45 (Figure 1). Given that the aim of the reform is to pay for social care, it seems unfair to saddle the young with these costs. Our proposed reform would shift the balance further up the age distribution.
* * *
FIGURE 1: SHARE OF ADDITIONAL REVENUE PAID BY
Notes: For details of data and methods, see Appendix A. For distributional impact of each component reform in isolation (compared with the status quo and raising NICs rates), see Appendix E.
Source: Authors' calculations based on HMRC administrative data, 2016-17.
* * *
Impact by income level
Currently, the burden of making National Insurance Contributions falls on those earning
* * *
FIGURE 2: SHARE OF ADDITIONAL REVENUE PAID BY INCOME RANGE
Notes: For details of data and methods, see Appendix A. For distributional impact of each component reform in isolation (compared with the status quo and raising NICs rates), see Appendix E.
Source: Authors' calculations based on HMRC administrative data, 2016-17
* * *
Impact by region
Filling the gaps in the current NICs system would also fit better with the government's 'levelling up' agenda. Londoners would contribute 26.8% of the additional revenue raised under our reform, but only 21.1% under the government's plan - a difference of 5.7 percentage points (Figure 3). The full distribution across regions is shown in Appendix E.
* * *
FIGURE 3: ADDITIONAL SHARE OF REVENUE PAID UNDER OUR REFORM BY REGION
Notes: Figure shows difference between share of revenue coming from each region under our reform and share of revenue coming from each region if raising existing NICs rates. For details of data and methods, see Appendix A. For distributional impact of each component reform in isolation (compared with the status quo and raising NICs rates), see Appendix E.
Source: Authors' calculations based on HMRC administrative data, 2016-17
* * *
Conclusion
The government's Health and Social Care Levy is a third tax on income, on top of Income Tax and National Insurance Contributions. Instead of fixing the gaps in our existing
Our proposal would instead deal with some of the worst features of our current
If the government also equalised the NICs rates paid on higher earnings with those currently paid on lower earnings, then this could raise an additional
Focusing tax rises on younger and lower earners is a political choice; it does not need to be this way.
References
Adam, A., Phillips, D. and Roantree, B. (2019). "35 years of reforms: A panel analysis of the incidence of, and employee and employer responses to, social security contributions in the
Adam, S. (2021). "Pensioner families would provide ten times more of the revenue from an income tax rise than from a NICs rise". IFS Observation.
Adam, S. and Waters, T. (2018). "Options for raising taxes". IFS Green Budget, Chapter 5, https://ifs.org.uk/publications/13495
Advani, A., Chamberlain, E. and Summers, A. (2020). "A wealth tax for the
Advani, A., Hughson, H. and Tarrant, H. (2020) "Revenue and distributional modelling for a wealth tax". Wealth and Policy, Working Paper 113.
Advani, A. and Summers, A. (2020). "How much tax do the rich really pay? New evidence from tax microdata in the
Bell, T. and Corlett. A. "A caring tax rise?". Resolution Foundation Spotlight report, https://www.resolutionfoundation.org/publications/a-caring-tax-rise/
Browne, J. and Phillips, D. (2017). "Updating and critiquing HMRC's analysis of the
HM Government (2021). "Building Back Better: Our Plan for Health and Social Care".
HMRC (2021). "Direct effects of illustrative tax changes (
Shakespeare, S. (2015). "Voters in all parties think inheritance tax unfair". YouGov: https://yougov.co.uk/topics/politics/articles-reports/2015/03/19/inheritance-tax-most-unfair * * *
Footnotes:
1/
2/ Some NICs revenue is notionally allocated to the
3/ The rate of Employer NICs stays the same rate of 13.8% on all income above (equivalent of)
4/ Employer NICs are paid by employers, but because they reduce the amount that the employer is willing to pay for the employee's services, ultimately much of the cost is borne by employees through lower wages. See further Adam, Phillips & Roantree (2019).
5/ This is the annualised equivalent of the 'Primary Threshold' for employment income, set at
6/ See further: https://ifs.org.uk/taxlab/key-questions/should-income-tax-and-national-insurance-be-merged 7/ For example, our proposals would not correct the disparity in tax rates on employment and self-employment income or align the different non-taxable allowances under NICs and Income Tax, although we would also be in favour of both of these reforms.
8/ The combined effective rate is not just the simple sum of the headline rates because in each case the tax base is different. Employee NICs are charged on gross income after Employer NICs have been deducted, while Employer NICs are paid in addition to earnings. The rate of 22.67% is expressed as a percentage of the total cost to the individual's employer (which includes Employer NICs in addition to the individual's gross income).
9/ In Appendix C, we show alternative revenue estimates when rates are aligned on the basis of different assumptions about the incidence of Employer NICs.
10/ In Appendix D, we show alternative revenue estimates when rates are aligned on the basis of different assumptions about the incidence of Corporation Tax.
11/ See further Mirrlees et al (2011: ch14).
12/ See further Browne & Phillips (2017).
* * *
The full White Paper can be viewed at https://warwick.ac.uk/fac/soc/economics/research/centres/cage/manage/publications/bn33.2021.pdf
TARGETED NEWS SERVICE (founded 2004) features non-partisan 'edited journalism' news briefs and information for news organizations, public policy groups and individuals; as well as 'gathered' public policy information, including news releases, reports, speeches. For more information contact
Accenture Federal Services Issues Public Comment on National Credit Union Administration Notice
AP Top Science News at 2:20 p.m. EDT
Advisor News
- Social cultivation: How to talk with wealthy prospects
- How important is a written financial plan?
- Coalition wants to advise people impacted by policy changes in new administration
- Diagnosing miscommunication in retirement planning
- Election creates an opportunity for advisor/client dialogue
More Advisor NewsAnnuity News
Health/Employee Benefits News
- Medicaid, ACA most likely to be impacted in Trump administration, panel says
- ‘Especially disgusting’: Former workers, patients, level accusations at addiction treatment empire
- Doctor’s bills often come with sticker shock
- Covering weight loss drugs driving Virginia Medicaid costs higher
- Generations
More Health/Employee Benefits NewsLife Insurance News