Why NI and income tax rates should be harmonised

I was going to write a long post about how our currently overly complex tax system is crying out for simplification and that despite the fact that there will doubtless be some anomalies that need to be ironed out, the putative harmonisation of NI and income tax rates would be a good thing.

And then I came across this post on the Adam Smith Institute blog with this table describing NI and tax rates when currently taken together that illustrates more eloquently than I could articulate in words why the current situation is crazy:

Raising the income tax threshold - great news!

According to reports, George Osborne is likely to raise the threshold at which people start to pay income by £1000 to £7,475. This is apparently to be paid for by clawing it back from top-rate taxpayers. I am am not clear on exactly how this second part will work but if this is correct then I think it is excellent news.

Firstly it is the beginning of an implementation of the Lib Dem policy to take everyone earning less than £10,000 per year out of income tax. It gets us over a quarter of the way to realising this aim. It is also something I think we can genuinely point at at say that it is unlikely to have happened had we not been in the government.

Secondly it will offset the likely rise in VAT to 20% for the poorest earning families. If a 2.5% hike in VAT is going to cost the average family £389 ((c) 2010 Lib Dem election campaign) then surely it will cost the average lower earning families proportionally less. I do not have the exact figures but I would expect it will be a net gain to those earning the lowest amounts.

Don't get me wrong, I still don't think raising VAT is the right move but at least its effect will be mitigated for some of the most vulnerable.

Of course we hit the problem of what happens to those who do not earn anything at all but I await to see what is in the budget overall before passing comment on that.

Why is VAT seen as the natural option?

In George Osborne's first budget next week, most commentators are expecting him to put VAT up to 20% or thereabouts. It will bring in a decent chunk of extra revenue to help deal with the deficit.

Why is it though that VAT is perceived as a natural, easy option for putting up by politicians?

If you measure how VAT affects people by relating it to their income then it is regressive, i.e. it affects the poorer disproportionately. There are some who argue it should be measured by consumption (by which measure it is less regressive) but opinion is at the very least divided on which is the right way to measure it. Items such as some foods, children's clothes and other essentials are exempt from the tax and I would be surprised if Osborne significantly changes this but I still think putting up VAT is quite unfair. There are plenty of things that are not exempt.

One form of tax that is not regressive is income tax because it is based on the ability to pay. So for example if Osborne instead decided to put up income tax by 2% next week, at least then those paying the extra tax would be those earning above the earnings threshold and would only be proportionate to how far up that scale they go.

Of course income tax is the most visible of taxes. A VAT rise may not even be noticed by lots of people because it is many small adjustments to the various things they purchase rather than being able to compare one month's salary slip with another and seeing a very definite and comparatively chunky drop.

But just because something is politically easier should not make it the only game in town. I hope these options are being discussed at a high level and not dismissed out of hand.

The current government is almost certain to be unpopular in a year or two's time due to all the things it is going to have to do that will affect people's services and pockets. Given that, it might as well implement measures that spread the pain more fairly around.