Is Scottish Labour’s tax policy good for Scotland?

“Let the debate commence,” says the Resolution Foundation 

“‎Scottish Labour has a tax policy – specifically a tax raising policy.‎ That’s a big change, whether you support it or not. In the decade and a half since devolution it is the first time the party will go into a Scottish Parliamentary election with proposals to change income tax,” says the Resolution Foundation, whose director, Torsten Bell, has released the following analysis on the distributional impact of Scottish Labour’s income tax proposal:
  • The sums raised by a 1p increase in the Scottish Rate of Income Tax could be the equivalent of reducing the scale of day to day spending cuts the Scottish block grant faces by around a third.
  • The proposed £100 rebate would prevent any individual earning under £20,000 losing. However most of the spending on it would go to households in the top half of the income distribution.
  •  The overall impact is progressive. The richest ten per cent of households lose around £1,000, while 15 per cent of households in the bottom half of the distribution actually gain from the policy and the majority are unaffected. That leaves open questions of whether it is progressive enough.
  • The policy’s interaction with Universal Credit (as it is rolled out in coming years) would partially compensate low-income households for the extra tax they pay. But that would potentially be at the cost of reducing the amount of revenue raised.
“The proposal is to raise the Scottish rate of income tax by 1p, from 10p to 11p. This would increase all marginal income tax rates by 1p above UK levels (a basic rate of 21p, higher rate of 41p and additional rate of 46p). Some of the money raised – which would amount to £475 million in total according to HMRC – would provide £100 compensation to all taxpayers earning under £20,000, with the remainder serving to reduce the scale of public service cuts in Scotland.
“So is this a good idea? Scots will get the chance to opine in May’s elections. But here are three hard facts about the proposals that can improve the quality of debate – whichever side you come from.
“First these proposals will raise money, although not enough to ‘end austerity’. The revenue raised amounts to a bit under 2 per cent of Scottish resource spending in 2016-17. In real terms that’s enough to compensate for one third of the day to day spending cuts in the Scottish block grant (this part of the Scottish block grant is set to fall by 5 per cent in real terms between today and 2019-20). You might think this is a good thing, providing sufficient funding to reduce but not eliminate “austerity” in the years ahead, or a bad thing, taking nearly half a billion pounds from Scottish wage packets.
“Second, this tax rise would be progressive in the sense that the better off would pay a higher share of their incomes in increased taxes than those on lower incomes (as is almost always the case with raising income tax).
“As the chart below shows, the very poorest households pay little or nothing at all because they tend to pay little or no income tax. This is in part the result of the big increases in the personal allowance of recent years. From April you will only pay income tax on earnings over £11,000. But some households on what you might consider modest incomes in the middle of the distribution will face tax bill increases in the region of £100. The very richest will pay significantly more, not only in cash terms (with households in the top decile paying around £1,000 more) but as a percentage of their incomes too.
“Now here’s the same chart once we take into account the proposed £100 rebate for taxpayers earning under £20,000. It reduces, although does not eliminate, the losses for households in the bottom of the distribution. For the bottom half of the distribution, 15 per cent of families actually gain overall while over half are unaffected. The remainder lose, for example a single earner family on £25,000 pays £140 more tax. Just because a tax change is progressive does not mean there aren’t hard cases or families losing out that some would consider ‘poor’. On an individual basis, no-one earning less than £20,000 loses out, while someone earning £40,000 is £290 worse off.
“When considering the progressivity of the rebate itself it’s worth noting that some fairly well off households will do quite well out of it. That’s because the rebate can go to multiple taxpayers in a single household. For example, a two earner couple on almost £20,000 each will receive £200 from the state, despite having a gross household income of practically £40,000. As a result around 60 per cent of the spending on the rebate will go to households in the top half of the distribution. The rebate doesn’t increase the progressivity of the package, although it is partly the result of the limited tools available to Scottish parties to target support at low income households.
“Taken as a whole this package is progressive. But there is an argument as to whether it is progressive enough. That would be achieved if, for example, the higher and additional rates were increased by more than the basic rate. Policy options of that nature will be available to the Scottish Government from April 2017. However, it’s difficult to raise significant sums through income tax without increasing the basic rate as there simply aren’t enough higher and top rate payers.
“Third, all of the above is based on the existing benefits system of Jobseekers Allowance and Tax Credits being in place. Because of a little understood change that accompanies the forthcoming roll-out of Universal Credit (UC) to replace these benefits, the tax rise is likely to bring in less money in future. That’s because a family’s UC entitlement will be calculated on the basis of their post-tax income, rather than pre-tax income in the current tax credit system. As a result a tax rise actually increases a family’s benefit entitlement by 65 per cent of the tax increase. The upside of this for Labour is that many low income families will receive compensation for the tax hit even without their proposed rebate. The downside is that the Scottish Government is likely, if there ever is an agreement on a new fiscal framework, to have to pay the UK Government for every penny of additional UC expenditure – reducing the revenue raised unless the £100 rebate was reduced in turn.
“So there are three of the things we do know about these proposals that should inform the debate about whether it is a good idea or not. They obviously ignore the politics of whether proposing tax rises ahead of elections is a recipe for success or not – or indeed whether competing proposals could achieve similar ends. For example all Scottish parties should be considering reform to council tax which remains a regressive revenue raiser.
“Scottish political parties have set out more concrete proposals for tax changes in the run up to May’s election than we have seen in any previous Scottish election. Now is the time for those proposals to be tested and debated. Indeed one of the benefits of proposals being set out now is that the debate can take place before the election rather than after it.
“Advocates of Scottish Labour’s plans to raise income tax and reduce spending cuts can correctly argue that the proposals would raise money and do it in a progressive way. But those opposed may argue that there are even more progressive ways to bring in revenue, that the plans will still take money from middle earners pockets, or that cutting spending is the right thing to do in the first place. Let the debate commence.”
The Resolution Foundation works to improve the living standards of those in Britain with low to middle incomes.