Hamish McRae: Top-rate tax may not raise a penny

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The Independent Online

The increase in the headline top tax rate to 45 per cent may actually cut government revenues, not increase them. That is the harsh reality of taxation in a modern economy and probably the reason (aside from its initial covenant) why Labour had not increased them in the past.

Though any increase in tax rates on incomes above £150,000 only affects 1 per cent of earners, that 1 per cent pays nearly a quarter of all income tax. So a small change in their habits could have a knock-on impact on tax revenues that more than offsets any revenue on paper gained.

So what can they do? One option for the very rich is to move offshore and run their business from a tax haven. That is what many sports stars do.

But more important are the small changes by the less high-profile members of the rich club. One would be to retire earlier. Another is to put more of their money into their pension pot. Another is to shift income into capital gain and be taxed at 18 per cent.

How, though, does one know whether the Exchequer gains or loses from any change?

The answer is that you don't. The neutral Institute for Fiscal Studies (IFS) suggests that tax rates may already have reached a tipping point. Take that 45 per cent, add in national insurance contributions and consumption taxes and the total tax slice is nearly 60 per cent. That is higher than the optimal tax-raising level of 56.6 per cent, a calculation based in academic work. Result? The IFS reckons that the 45 per cent rate will not raise tax income.

Indeed, since people are more mobile than ever before, it might even be that had the Chancellor cut top tax rates he would have ended up with more money. After all, back in 1979, when the highest income tax rate was 83 per cent, the top 1 per cent of earners paid only 11 per cent of the total.