Budget Special: Dismay as tax break scrapped for 3.7 million

THE BUDGET AND YOU: Profit-related pay

The Chancellor's move to save pounds 2bn a year by phasing out profit-related pay provoked astonishment from benefits experts yesterday, who said the announcement would hit up to 3.7 million employees presently taking part in such schemes.

Unions warned they would demand that any income lost from the ending of the profit-related tax concessions would have to be made up by employers in pay packets.

A spokesman for Bifu, the bank workers' union, most of whose members have been placed on such schemes in recent years, said last night: "We shall be pressing on the banks to now focus on direct improvements to basic pay. "

Tony Bonner, chairman of the Confederation of British Industry's SME council, said: "[This] does not augur well for future payroll costs."

The move was also heavily attacked by the John Lewis Partnership, the retail group whose staff have long been paid a share of company annual profits.

Mr Clarke told MPs yesterday: "The tax relief this Government introduced in 1987 to promote profit-related pay [PRP] schemes ... has played a key role in reinforcing this Government's strong beliefs that rewards should depend on the success of the business for which they work. I am delighted that tax reliefs have helped to get this idea accepted so widely."

However, Mr Clarke reminded the Commons that Nigel Lawson, the Chancellor who introduced PRP, had always intended it to be a "pump-priming measure" aimed at overcoming initial inertia. "I can no longer justify the increasing cost of the tax relief to the 22 million taxpayers who are not in PRP schemes," the Chancellor added.

"We cannot permanently divide the workforce into groups who pay different levels of tax on the same earnings depending on whether the firm they work for is in a scheme or not."

At present, employees can "sacrifice" up to 20 per cent or pounds 4,000, whichever is the greater, of their guaranteed pay, and link it to a profit-related pay scheme instead.

In return they avoid any tax they would have paid on that amount of money. For staff earning pounds 20,000, on the maximum PRP, the tax incentive adds pounds 960 to their take-home salaries, assuming tax at 24 per cent.

Mr Clarke is proposing to progressively reduce the pounds 4,000 upper limit relief from 1998, ending it within two years in pounds 1,000 stages.

While those on higher incomes benefit disproportionately, many lower- paid full-time employees also gain.

One PRP option is to give staff a tax-free bonus to their pay each year.

At Marks & Spencer, about 90 per cent of the company's 55,000 staff receive a Christmas bonus of four weeks' pay. Since the company introduced a PRP scheme in 1994, the bonus has been paid tax-free. For a till worker, earning pounds 177 a week, the tax-free element means an extra pounds 210. This will be lost. At least one bank, Barclays, faces a immediate increase in its pay bill of 2.7 per cent. It cut pay by that amount last year because it claimed staff would gain more than that from PRP.

Stagecoach, the train and bus company, confirmed last night that staff in its bus business would be affected by the Chancellor's announcement.

Alastair Hatchett, at Income Data Services, the pay and benefits information specialists, said he was surprised at the timing of the move.

"One wonders how he allowed himself to get boxed in at this stage in the day. There will be 4 million people who won't be very happy at what he has done. Its own success has cost the Revenue too much," Mr Hatchett said.

Brian Friedman, head of human capital services at Arthur Andersen, the benefits consultants, said that in the past few years, PRP schemes, which must include 80 per cent of employees, had become highly successful.

Mr Friedman disputed suggestions that PRP cost the Government: "It ignores the extent to which extra taxes have been paid by companies. It also ignores the fact that higher pay leads to higher consumption and therefore to higher VAT receipts." PRP had helped keep workers in jobs, while one additional effect of scrapping it might be to fuel wage demands in the public sector.

Stuart Hampson, chairman of the John Lewis Partnership, said: "I am astonished. Our 36,000 partners are bound to wonder why the Chancellor does not see [PRP] as something worth promoting.

"No doubt some clever accountants and lawyers have run rings round the rules, but the John Lewis scheme was a genuine sharing of profit from top to bottom."

However, unions have claimed that salary increases were not paid for by companies, which have used PRP to control their wage bills.

Bifu said last night: "This has been a subsidy at the expense of taxpayers and, in the end, it was always going to prove too expensive to sustain."