Introduction: 

Countless features of tax system in UK at present would be accustomed by the visitor from 1970s onwards. The government is yet able to raise a large amount of its revenue from income tax, spending, profits made by corporate firms and from the local property taxes. There have been some significant changes such as valued added tax has been given greater importance in relation to excise duties because the main rate is more than double. The UK income tax system has shifted from combined taxation of married couples to independent taxation of individuals. The rate of income tax has also went down dramatically. The ill-famed top levels of 83% on earned income and 98% on unearned income have declined to 50% and has stood at 40% for majority of the period (Riccardi 2018). However the tax system in UK is yet unnecessarily difficult and distorting. The tax policy for long time been determined mainly by temporary expedience rather than a long-term strategy.

The policy makers seems to be constantly underestimating the extent up to which individuals and companies would retort to financial prospects presented to them by this tax system. It appears that the policy makers are not able to understand the importance of dealing with the system as a whole. As a result there is a need for real and effective reformation from political perspective remains very difficult.

Review of canons of taxation: 

Canon of Equity: 

The eighteenth-century theorist and economist Adam Smith laid down four canons of taxation with which he anticipated a good system of taxation to follow. There are different views in terms of their general desirability and in some cases it is also argued that to apply them faithfully it would result the tax in enquiry managerially impracticable.

The first principle is the cannon of equality. This comprises of two main proposition, firstly, those having equal resources must pay an equivalent amount of tax. Secondly, those that has unequal resources must pay different amounts of tax (BBC News 2020). Taxes that follow with the later belief can be categorized as proportional because the overall sum of tax that is payable is ascertained in the direct proportion based on the wealth or income of taxpayers while the progressive tax is ascertained in increasing proportion with income or wealth. Contrariwise, a system that offers an overall burden of tax to lower and increase the wealth is recognized as regressive.  

All the three elements are present in the UK tax system. The income tax and capital gains tax in UK are progressive as the taxes are charged on increasing scale. While the inheritance tax and stamp duty on instruments such as sale of land starts with an initial exemption and a flat rate of tax is applied above it in order to gradually increase the marginal rate of tax. This type of taxes are regarded as hybrid between proportional and progressive. The argument concerning the cannon of equity can be made with direct taxes (Hargreaves Lansdown 2020). For instance individuals that file personal income tax yearly, if they are married then there is a chance that they pay less amount of tax than those that are single even though both has similar gross income during the tax year. The lower and middle income earners in UK are bearing the burden of tax.

The government is very much dependent on richer for its revenue. Greater than one quarter of income is paid by 1% of taxpayer that has highest income (James 2016). However, in terms of tax take the burden is falling on the lower and middle income earners group. In fact, the system of income is dependent heavily on the richest and this should be seen as problem because their earnings are volatile.

Canon of Efficiency: 

Under this canon a tax is only considered efficient if it is economical to collect. In UK the highest cost of collecting development land tax in proportion to its yield contribution to its eradication in 1985 following less than nine years of operation. During the year 2008-09, the revenue collected based on net tax receipts stands £303.9 billion (Cédelle 2016). The revenue cost every £ of tax collection stands 1.10 pence. It is taken for granted that the income system would remain individual that will be reflecting the extremely strong present political consensus in support of individualized income tax and it can be concluded that the redistributive benefit of conjointly assessed transfers for lower income families simply outweighs any form of efficiency losses.

Classification of taxes by types as direct or indirect and impacts on taxpayers: 

The directly personal taxes involves mostly the income tax and NIC. But also the council tax accountable for redistributing away from those that have higher income (Ifs.org.uk 2020). This should not be considered surprising because the direct tax and benefit system is clearly redistributive. It is evident that the elements of the system does a heavy lifting in respect of redistribution.

The indirect taxes involves VAT and excise duties which are regressive on this measure. They take into account most of the disposable income of poor population than those of richest population (Arnold, Ault and Cooper 2019). This happen mainly at given point of time, the lower income household usually spend a lot in respect to their income. However VAT holds small share of expense for poorer household in UK, as goods that are subjected to zero or reduced rate of VAT largely include necessary items such as food and domestic fuel.

Figure 1: Figure showing income distribution of 50% taxpayers

Source: (BBC News 2020)

As evident from the above given charge it clearly shows that around 90% of the income tax that is paid by 50% of the taxpayers with higher income while more than one quarter of tax paid by riches people stands 1%. The indirect taxes such as VAT and fuel are not considered as progressive (Hargreaves 2020). The proportion of income that is spent on taxes appears to be rising as there is an increase in income throughout the distribution.

When considering the indirect tax in isolation and when there is a concern for equity, there is a strong case for differentiating the rate of tax to help the lower income household by levying lower rate of tax on goods which they consume disproportionately (James 2016). However, the indirect tax should not be considered as an isolation from the remaining tax and welfare system. Where the government is capable of imposing a progressive income tax and pay welfare benefits that changes on the basis of people’s needs and characteristics this would prove to be an effective way of satisfying equity objective.

On the contrary if the government is concerned with equity and lacks an effective direct tax to attain redistribution then there may be a case for levying lower rate of tax on goods that take into account large part of budget of poor (Browne and Phillips 2020). However, where there is an efficient progressive direct tax it will do a good job in redistributing. Low taxing of goods which are complementary for work purpose might permit a highly effective redistribution.

Critical evaluation of UK’s income tax system: 

The tax system needs to be designed in a manner for economies where they operate. In context of UK the two changes have been profound over the past three decades and requires special attention (Emmerson 2016). The first is involves greater increase in the inequality and related changes to labour market. The second is the changes in structure of economy which involve the move from manufacturing to services and the evolving international context. In the autumn of 2017 the UK government projected that its total revenue would be around 40.3% of the national income (Library.croneri.co.uk 2020). This should be considered as a lower share in 1978-79 which reflects a decline in the non-tax receipts as taxes alone were projected to raise approximately 37.3% of the GDP. A large number of developing country has witnessed a share of GDP since the year 1978. In 2017 the share of national income in terms of tax in UK was approximately average for the developed countries which was lower than majority of the EU15 countries but higher majority of the new EU countries of Eastern Europe and greater than USA, Japan and Australia.

In certain respect the UK is considered unusual because of an extraordinarily a small share of UK tax revenue comes from the social security contributions and a remarkably large share of income comes from the recurrent taxes on buildings. The UK applies a zero rate of VAT to majority of goods than most of the other countries (Ifs.org.uk 2020). The UK is considered unusual in abolishing the tax relief for mortgage interest. The tax raising in UK is very centralized as only 5% of revenue is raised locally and it has turned very centralized over the time notably with the move of business rates from local to central control.

The tax system of UK as an overall redistributes significantly from rich to poor (Clist 2016). However, if the tax and benefit reformation have contributed to or countered the severe rise in income equality observed in UK over the span of thirty-years is difficult to determine in parts as it is reliant on what is meant by the term “reform”.

In the year 2010 the marginal rate of income tax beyond £150,000 was raised from 40% to 50%. Later it was reduced to 45% in 2013 following the estimation of HMRC that the 50% rate would perhaps raise not greater than 45% rate. This is due to the extent to which they project that individuals that are affected responded to higher rate by lowering their taxable income (Riccardi 2018). There are numerous debatable assumption used by HMRC to make those estimation. Nevertheless, the range of estimation obtained in the analysis, it can be concluded that HMRC estimate is viewed as reasonable central estimate for the purpose of policy costing.  

Majority of the people consider that UK has the highest rate of income tax of 45% however there are two different situation where a person may end up paying much more without even realising it (Siebert 2019). The presence of inconsistencies in the UK tax system represent that some may have to pay up to 60% of effective tax rates on certain part of their income. This is very common in UK as those that are effected are not very rich as well. It is estimated that around 625,000 people may be paying such a high rate of income tax.

The present tax system in UK creates an influence on the amount that individual salve and the manner in which they save. Owners that occupy housing and “individual saving accounts” are not considered subjected to taxes on their personal income (Miller and Oats 2016). Based on the provision of 25% tax-free lump sum amount the pensions are subsidized effectively and based on exemption provided by employer pension contributions from National Insurance contributions. Under the current tax system of UK pensions, and housing cover large amount of saving of majority of population but it results in discouragement of other types of savings under the current income tax and capital gains tax to a distinctly large degree than the statutory rate of tax may suggest since no allowance is allowed for inflation.  

Several needless difficulties and inconsistencies are created by the current tax system as numerous parts of the system are joined up poorly (Odling-Smee and Lawton 2019). This involves inadequate integration among the income tax and national insurance contributions (NIC) to an insufficient coherence among the personal and corporate taxes.

Recommendations: 

The personal tax and benefit system must be coherent, progressive and should be designed in a manner to reflect the shape of income distribution and how the different groups respond to work incentives. It is recommended to move away from the useless difficulties such as witnessing the rise of marginal tax rate from 40% to 60% at £100,000 of income prior to falling back to 40% at £112.950. It is recommended to broaden the base of NIC in order to cover the self-employment and full capital income.

The second considerable alteration that authors believe is a pre-requisite for the effective tax and benefit system which could result in noteworthy simplification and integration of benefit system. It is also recommended to reform the rate structure of personal taxes and benefits. It is necessary to reduce the effective tax rates for low earners. Reformation in this areas would lead to significant implication for employment, earnings and tax revenues.

It is further recommended that work incentives must be strengthened for families that have youngest child of school age. This would reflect the finding hat mothers of older children are very responsive to incentives in tax and benefit system then the mothers of younger children. Furthermore, the work incentives must be strengthened for those in their later working life that aged between 55 and 70 years group as they are greatly responsive to incentives.

Conclusion:  

In the recent years around 40p in every pound earned in UK has attracted tax. The governments have found it difficult to implement tax policy in a constant manner. The government have constantly set increasing taxes not where they are least economically damaging but where they are less transparent. This has resulted in mistake which requires rectification. The government of UK has also understandably shy away from taking tough decision as they have postponed the pain which in later stages have contributed to future problems. The fact that in UK people still have to pay taxes on the basis of value of their houses in 1991 and still has two separate system of income tax are both acknowledged as the product of failure to challenge politically problematic irregularities in the ;current tax system.

References:

Arnold, B.J., Ault, H.J. and Cooper, G. eds., 2019. Comparative income taxation: a structural analysis. Kluwer Law International BV.

BBC News. 2020. Reality Check: Are Lower Earners Bearing The Tax Burden?. [online] Available at: <https://www.bbc.com/news/uk-politics-39641222> [Accessed 25 August 2020].

Browne, J. and Phillips, D., 2020. How Do The Rich Respond To Higher Income Tax Rates?. [online] Ifs.org.uk. Available at: <https://www.ifs.org.uk/publications/9678> [Accessed 25 August 2020].

Cédelle, A., 2016. The EU anti-tax avoidance directive: A UK perspective.

Clist, P., 2016. Foreign aid and domestic taxation: multiple sources, one conclusion. Development Policy Review, 34(3), pp.365-383.

Emmerson, C., 2016. Taxation of Private Pensions in the UK. CESifo DICE Report, 14(1), pp.10-13.

Hargreaves Lansdown. 2020. Are You Caught In A 60% Income Tax Trap?. [online] Available at: <https://www.hl.co.uk/news/articles/archive/are-you-caught-in-the-income-tax-trap> [Accessed 25 August 2020].

Ifs.org.uk. 2020. Ifs.Org.Uk. [online] Available at: <https://www.ifs.org.uk/uploads/publications/bns/BN214.pdf> [Accessed 25 August 2020].

James, S., 2016. The complexity of tax simplification: the UK experience. In The Complexity of Tax Simplification (pp. 229-246). Palgrave Macmillan, London.

James, S.R., 2016. Accounting and Taxation: UK. Wolters Kluwer.

Library.croneri.co.uk. 2020. 101-200 Adam Smith’s ‘Canons Of Taxation’: Classification | Croner-I Tax And Accounting. [online] Available at: <https://library.croneri.co.uk/cch_uk/btr/101-200> [Accessed 25 August 2020].

Miller, A. and Oats, L., 2016. Principles of international taxation. Bloomsbury Publishing.

Odling-Smee, J. and Lawton, D., 2019. Reforming capital income taxation: the UK experience. In Reforming Capital Income Taxation (pp. 231-257). Routledge.

Riccardi, L., 2018. Introduction to Taxation. In Introduction to Chinese Fiscal System (pp. 1-5). Springer, Singapore.

Siebert, H., 2019. Reforming capital income taxation. Routledge.

www.ifs.org.uk, w., 2020. Www.Ifs.Org.Uk. [online] Ifs.org.uk. Available at: <https://www.ifs.org.uk/docs/mirrlees_dimensions.pdf> [Accessed 25 August 2020].