Where will Gordon turn to raise cash?

Income tax is out of bounds, so stamp duty and VAT are most likely to take the hit in this week's Budget, writes Melanie Bien

Gordon Brown will have his work cut out when he delivers his eighth Budget on Wednesday: he needs to raise a lot of cash to plug an estimated £37bn hole in the public finances, but with just over a year until the next election, he has to tread carefully. So will he hike taxes or play it safe?

Gordon Brown will have his work cut out when he delivers his eighth Budget on Wednesday: he needs to raise a lot of cash to plug an estimated £37bn hole in the public finances, but with just over a year until the next election, he has to tread carefully. So will he hike taxes or play it safe?

Tax, NICs and VAT

The Chancellor needs cash, and quickly. However, constrained by a manifesto promise, he is unlikely to risk tinkering with income tax.

He raised national insurance contributions (NICs) by 1 per cent last April, and another rise may be seen as being too much, too soon. It would also kick in next April - just before the election - so it is unlikely.

"The Chancellor only really has VAT left," says Stephen Herring, a tax partner at BDO Stoy Hayward. "Increasing it on 'luxury items' may be a possibility."

Stamp duty

Despite calls from the National Association of Estate Agents and Portman Building Society, among others, for first-time buyers to be exempt from stamp duty and the threshold to be raised from £60,000, it is unlikely the Chancellor will give up such a strong source of revenue. The Treasury clawed in £5bn from stamp duty on land and property in 2002-03, up from £1.5bn in 1997-98.

Rather, he is more likely to see stamp duty as a way of raising extra revenue almost immediately, as it must be paid within 30 days of a transaction. The duty is charged at 1 per cent on properties between £60,000 and £250,000; 3 per cent between £250,000 and £500,000; and 4 per cent on anything above this.

Victor Dauppe, a tax partner at accountants MacIntyre Hudson, predicts the Chancellor will introduce new bands at 5 per cent, on transactions between £750,000 and £1m, and 6 per cent above that. "He will be reluctant to raise the existing rates as it would be politically unpopular with 'Middle England'. So he is likely to look at introducing new bands of stamp duty at the higher end of the property market, while allowing inflation to bring more transactions into the existing higher rates."

David Gibbs, a tax partner at accountants Grant Thornton, believes Mr Brown could justify another band by claiming that it brings the UK into line with the rest of Europe. Yet Steven Andrew, the chief economist at Isis Asset Management, says it is a misconception that the UK housing market is relatively undertaxed. As a share of total taxation, taxes on housing are higher in the UK than in most other developed countries.

Reits

Alongside the publication of Kate Barker's report on affordable housing, the Chancellor will open a formal consultation period prior to launching Real Estate Investment Trusts (Reits) in the UK next year. He is also likely to announce further details on this new investment vehicle, which is designed to allow more people to invest in commercial and residential property. "This will enable a more liquid market to be achieved, with investors able to buy and sell 'units' in the underlying properties owned by the funds, rather than buying or selling properties themselves," says David Whittaker, managing director of Mortgages for Business.

There should also be more details on proposals to include residential property in self-invested personal pensions (Sipps). Mr Whittaker predicts that borrowing to finance a house will be restricted to 50 per cent of the value of the fund, while there will also be an upper limit of 10 properties in a Sipp. And for once there will be good news on inheritance tax (IHT): "The property held in the Sipp will be considered outside your estate and therefore not liable to IHT. We believe the same will happen to rental income."

IHT

Calls for the threshold to be raised from £255,000 are mounting as the rise in property prices means it's not just the rich who are caught in the IHT net. Independent financial adviser The MarketPlace at Bradford & Bingley is calling for the threshold to be raised to £439,000, but this is highly unlikely. Tax experts reckon an inflation-linked threshold rise of a few thousand pounds is all we can hope for, so many people will still face a 40 per cent hit on their estates.

ISAs

With the dividend tax credit on individual savings accounts (ISAs) being scrapped from 6 April, and Mr Brown deciding to cut the ISA allowance from April 2006 onwards (from £7,000 to £5,000 on maxi ISAs and £3,000 to £1,000 on mini cash ISAs), the Government is sending out mixed messages about personal savings.

Mr Gibbs believes the Chancellor may backtrack and decide to keep ISA allowances at current levels. He may also say ISAs will continue after 2009 - the date they are due to end.

"ISAs have really taken off. We are seeing more people saving into them because they know they are tax free," says Adrian Coles, the director general of the Building Societies Association. "Without this incentive, many will simply stop saving."