An extra 1.3 million people will have to start paying income tax – and a further million will be pushed into higher rate taxation – over the next five years, according to the Office for Budget Responsibility.
In his budget on Wednesday, the chancellor, Rishi Sunak, said the thresholds at which the tax starts being paid will be frozen until 2026 after a small rise on 6 April.
While many workers will have shrugged their shoulders assuming that it will not impact on them, the OBR said it estimated that as many as 2.3 million workers would end up paying more tax – more than £8bn in total – as a result.
From 6 April, people will be able to earn up to £12,570 tax-free with the 20% rate being charged on everything they earn above that amount. Workers will pay the higher 40% rate on income above £50,270. Different rates apply in Scotland.
However, the chancellor said these thresholds, along with the inheritance tax and the pensions lifetime allowance, would remain frozen until 2026.
As wages rise, more people will find they have to either start paying income tax, or that they have unwittingly become a higher rate taxpayer. This process is known as fiscal drag.
In its budget report the Institute for Fiscal Studies said it estimated an extra 3% of all adults would end up having to pay income tax by 2026 as a result of the freeze.
The proportion of higher rate taxpayers is to rise from 8.7% to 11% of all adults by 2026, it said.
Becoming a higher rate payer has other implications, besides losing 40% of any pay in excess of the threshold to HM Revenue & Customs. Other benefits – such as private health care, and income from any investments – also become chargeable at 40% for the first time.
Becky O’Connor, head of pensions and savings at Interactive Investor, said: “Freezing allowances is a back-handed way of raising taxes, as wage inflation and asset price inflation increase the number of people pushed over the thresholds at which they have to pay more tax.
“Frozen allowances and thresholds have a habit of remaining fixed for many years, dragging more people into tax charges over time.”
In its report, the OBR said the tax rises announced in this week’s budget would increase the tax burden from 34% to 35% of gross domestic product in 2025-26 – the highest level since Roy Jenkins was chancellor in the late 1960s.
The Conservative manifesto pledged that the main rates of income tax, national insurance and VAT would not rise, and this does not break that pledge.
In 2010-11 (the first tax year of the coalition government), the personal allowance was only £6,475. A person had to earn more than £43,875 before they paid income tax at the higher 40% rate.
Extra 1.3m people in UK to start paying income tax over next five years