Wake up to the big tax bite...it will hurt

CGT, VAT, PAYE: The new government has no choice but to address the UK's massive deficit by picking our pockets.

Julian Knight
Sunday 25 April 2010 00:00 BST
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None of the main political parties seems to want to tell the truth over tax. A scan of the manifestos shows more tax cuts than rises, but with the Government borrowing a Greek-style record £163bn in the past year – roughly 11 per cent of economic output – as soon as the dust settles after the election, whoever wins, taxes are going to have to rise, and sharply.

"The manifestos just give the good news, but within two months of the election the government is going to have to start raising taxes. The markets will demand this," says Mike Warburton of Grant Thornton, the accountancy firm. "Spending cuts take time, and the job losses that result from big cuts won't be acceptable – for example, cutting public expenditure by £25bn is equivalent to sacking a million public-sector workers. It can't happen. The quickest route to start to address the deficit is taxes."

But what taxes are likely to rise, and what can you do to minimise the impact on your pocket? "The overwhelming majority of the tax take comes from VAT, National Insurance and income tax. It's these taxes which will be needed to do the heavy lifting to help close the deficit," says John Whiting, tax policy director at the Chartered Institute of Taxation.

Some National Insurance increases have already been announced – although the Tories want to partly reverse these – but mostly these fall hardest on the highest earners. Post election it's the rest of us who will feel proportionately more of the pain.

"The big surprise is that the parties seem to be painting themselves into a corner over tax," says Mr Warburton. "We have the Tories' pledge to reverse the already announced National Insurance increase, and Labour saying no rise in the basic rate of income tax. This is narrowing the options and will actually mean that whoever wins may not have much of a mandate to do what is necessary – and that is a recipe for civil strife, like in Greece."

The one tax that all the parties are keeping quiet on – which means it's a dead cert for being raised – is VAT. "The UK's VAT rate of 17.5 per cent is actually quite low by European standards, which typically stand at the 20 per cent mark. It's a fairly easy hit and can be done in the middle of a tax year. It's a bit of a pain for the retailers but the extra cash can start flowing into the Treasury in a few weeks," says Tony Bernstein of London-based accountancy firm HW Fisher.

This could be boosted by ending the zero rating of VAT on food, children's clothes, books and newspapers. Mr Whiting says: "This could be in the firing line, but I can't see the government raising the rate to, say, 20 per cent. I imagine, instead, they would increase it to, say, 5 per cent, which is what Ken Clarke did, in 1993 as Tory Chancellor, when he first imposed VAT on home energy."

With VAT likely to rise, Mr Warburton reckons that some savvy consumers will bring forward big-ticket item purchases. "It may make sense if you are planning to spend some money to do so now, before VAT goes up," he says. "Wait until after the election and there may not be time to complete the purchase." However, at the same time, he warns: "With the economy in for a choppy few years, it may also be a good idea to repay debts and build up a savings cushion – don't take on extra borrowing."

Grant Thornton estimates that a rise in VAT to 20 per cent would bring in an extra £12bn a year, without the ending of zero rating. But that still leaves a big hole. "The deficit is so large that I can't see how the next government could leave income tax rates alone," says Chas Roy-Chowdhury, the head of tax at the Association of Chartered Certified Accountants (ACCA). "One option that they may choose is to migrate the new 50 per cent top rate of tax down to £100,000, but, again, this won't actually bring in that much money. The reality is that this can't all be paid for by the rich."

None the less, Mr Bernstein reckons a further attack on non-doms is in the offing. "They are currently being asked to pay £30,000 for their non-dom status. This could be raised to, say, £50,000," he says.

Income-tax personal allowances for all taxpayers are forzen this year and those for higher-rate payers will remain the same next year too. "Fiscal drag, as it's called, is when people find more and more of their income being taxed due to personal allowances being frozen. It's a classic technique, in effect a backdoor income-tax rise," Mr Roy-Chowdhury says.

Other taxes that Mr Roy-Chowdhury thinks could be set to rise include stamp duty and Capital Gains Tax (CGT). "It wouldn't surprise me to see stamp duty on property above £500,000 rise in line with the new £1m band. As for CGT, there is an anomaly at the moment that it is charged at 18 per cent, while the higher rates of income tax are at 40 and 50 per cent. As a result, a lot of business owners are choosing to take money out of their business as capital gains rather than income. There is a chance that this gap could be closed," he says.

Mr Whiting agrees that CGT is a likely candidate. "It won't raise a huge amount, but it's all hands to the pump with the deficit. I don't think CGT rates are going any lower than 18 per cent, so people need to make the most of their allowances [CGT allowances are higher than income tax personal allowances too], and the differential with income tax rates," he says.

But changing mid tax year could create real problems.

"It's a logistical nightmare. When, for example is a capital gain realised? It's the sort of thing that would have to wait until 2011 at the earliest. As a result, post election, we could see a sell-off of assets – shares, second homes etc – in order to make the most of CGT rates while they last," says Mr Bernstein.

But, again, this will only scratch the surface of the problem. Mr Warburton says: "CGT is a relatively small tax. It's the big three – NI, income and VAT – which will have to do the work, but, as yet, no one is admitting to this. There is going to be an unpleasant surprise for all taxpayers post election."

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