Simplifying the UK tax system
Nigel Lawson left us with the memory of a Chancellor, one of the greatest of all time, who not only cut taxes, but simplified them in every budget. There are lessons to be learned today from his record.
One of the most disturbing features of the 2022 mini-budget was the announcement that the Office of Tax Simplification (OTS) would be abolished and replaced with a general mandate to HM Treasury and HM Revenue and Customs to focus on simplifying the tax code. A “general mandate” is meaningless unless there is a policy or series of policies with a team dedicated to implementing them. There is no such commitment within the Treasury and HMRC.
Simplifying the UK tax system is a complex and challenging task that would require significant political will and resources. Nonetheless, there are some initiatives on how the tax system might be simplified in key areas.
One option to simplify the income tax system would be to merge income tax and national insurance into a single tax, levied at the same rate and with the same threshold. This would remove some of the confusion around the different thresholds and rates for the two taxes and make the system easier to understand. The NI would simply be incorporated into current income tax, and if the misnamed “employer contribution” were to be retained, it could be done so as a payroll tax, which is what it is.
Another approach would be to simplify the income tax system by reducing the number of tax rates and thresholds. This could involve introducing a flat rate of tax, or reducing the number of income tax bands to perhaps just two, just as Nigel Lawson did. This would make it easier for people to understand how much tax they need to pay and reduce the administrative burden on HMRC.
The Treasury and HMRC will oppose this simplification because it would make more evident the level of tax that people are actually paying. The current complexity and confusion serve to hide that true level, and minimize the resentment that would be aroused if it were known. Nonetheless, it is a simplification that is long overdue.
Simplifying business taxes could involve reducing the number of taxes that businesses need to pay, as well as streamlining the tax rules and regulations that apply to businesses. This could involve simplifying the rules around capital allowances and other deductions that businesses can claim to reduce their tax bill. Ideally, full expensing would be permanent to encourage long-term investment. And we could thereby reduce the number of tax reliefs and exemptions that are available to businesses, which can be complicated and difficult to navigate.
If inheritance tax is not abolished, it could certainly be simplified. One option would be to greatly raise the threshold at which the tax is payable, meaning that fewer people would need to pay inheritance tax. It is the UK’s most unpopular tax because it is levied on savings that have been taxed as they were earned. A higher threshold would reduce the need for complex exemptions and allowances.
The rules on pensions are unnecessarily complex because they are based on a flawed system. Pensions can be taxed (T) or exempt (E) when payments into them are made, when they grow in funds, or when they are withdrawn in retirement. Currently the system is EET, allowing tax relief on in-payments, but taxing funds when they are withdrawn. This sets up a hugely complicated set of rules as to how much qualifies for tax relief. The system should be changed to TEE, so that payments into pension funds attract no tax relief, but no tax is levied thereafter on growth within the fund or subsequent withdrawals. This would not only simplify; it would be a massive boost for future investment.
Nigel Lawson was not only the great tax cutter, he was also the great tax simplifier. The time for revisiting his legacy is long overdue. Taxes should be simple and transparent, and there are huge savings to be achieved by making them so.