The tax burden keeps rising — so who’s bearing the brunt?

We are by no means the highest-taxed rich country, yet it nonetheless marks a seismic shift. It makes Britain look a lot less like the low-tax United States, where revenues are 28 per cent of income, and a lot more like Germany (39 per cent) and Norway (42 per cent). If only we had the public services to match.

Tax cuts for workers, but the overall tax burden rising — something doesn’t quite add up here. The reality is that the tax bill is becoming ever more lopsided. There are winners and losers from every budget, but the fiscal reality is tough on the Matthews: upper-middle earners are locked into a high-tax future. The sum total of tax rises in recent years is “really concentrated at the top”, points out James Smith, research director at the Resolution Foundation think tank.

Whoever governs after the next general election will face demands to spend more on our creaking public services. Where will this money come from? The answer may well be that the already weighty tax burden on upper-middle earners grows even heavier.

‘I don’t want to earn more because of the tax’

As immortalised by the Beatles in their 1966 song Taxman — “should 5 per cent appear too small, be thankful I don’t take it all” — individual tax burdens have been higher in the past. In the late 1970s, the highest income tax band was 83 per cent; today’s top income tax bracket, for earnings above £125,140, is a mere 45 per cent. Why, then, is our overall national bill the highest it has been since the war?

Put simply, far more of us are paying income tax than ever, says Carl Emmerson, deputy director of the Institute for Fiscal Studies. In 1994 only 56 per cent of adults paid income tax; by 2028 it will be 67 per cent. Rising numbers of women entering the workforce have more than offset any recent lost taxes due to economic inactivity.

But when it comes to raising revenues, it is the very top that really matters. In 1979, when the top 1 per cent paid much higher marginal tax rates than they do today, the revenues from this richest group totalled 11 per cent.

Today, though, this tiny sliver of society — with incomes of £200,000 and over — contribute about 29 per cent of the total income tax liability. And about 60 per cent of income tax revenue, some £150 billion, comes from the 3.6 million people earning above £60,000 — the Matthews of this world.

Indeed, these upper-middle households probably have good reason to grumble. Many employees in the richest quarter have barely seen wages rise at all since January 2015, while those in the poorest have jumped by a tenth. And thanks to fiscal drag, when tax thresholds are frozen but wages creep upwards, the number of adults paying higher income tax rates will rise from less than 4 per cent in the early Nineties, to nearly 14 per cent by 2028.

Let’s meet one of them: Michael, 42, from Islington. (Most higher-rate taxpayers are, still, usually men). He works in public relations, and made £85,000 last year, taking home about £59,000, or £4,900 a month. Yet recently his partner stopped working to go back to university. They now have had to find a way of paying their £1,600-a-month mortgage, plus living costs for two in one of the most expensive boroughs in Britain, on a single salary.

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“The worst period was when energy bills were really, really high,” he says. “When I bought my house I did a lot of refurbishment on it as well and had to do extra borrowing to pay for that. We barely got by for a while. We’re still nowhere as comfortable now. But during the peak of the cost of living crisis we really, really struggled for a while. We had to cut back very, very seriously.”

Clearly Michael isn’t poor. But he does have a point. As any Londoner moving to New York or Rotherham knows, pay is partly a reflection of the cost of living. And while London pay is about 15 per cent above the national average, that gap shrinks when you factor in housing costs. Michael needs his extra money.

At this upper-middle level of the income spectrum, marginal tax rates can be enormous. “If I really wanted to, I could push for a higher salary of £100,000,” says Michael. “But I am actively discouraged from going above £100k by the fact that I’d be paying 60 per cent [in tax],” he says. “And that’s a completely stupid situation, discouraging people from making more money.”

Michael is fortunate that he does not have a more recent student loan: as anyone who went to university after 2012 knows, the extra 9 per cent in loan repayments mean those on £50,000 pay an effective marginal income tax rate of 49 per cent.

Why very top earners pay less tax

The fact that our tax take has been allowed to rise as it has reflects the reality of the modern economy. Pandemics and one-off cost of living support schemes must be paid for, but so too must an increasingly ageing population, via an NHS budget that gobbles up a growing chunk of GDP every year.

And if Labour gains power this year, Rachel Reeves will have to seek further ways of expanding the tax take if it is to do the kind of spending that many in the party want. But where to squeeze?

The government has made expanding the number of taxpayers a top priority — yet increasing participation is hard. Already, 9.3 million people are economically inactive, a post-Covid high, and those figures are set to rise. Turning this number round will not be easy.

Taxing the very top of earnings makes sense. But the problem is that the top 1 per cent — although they pay a lot of tax — tend not to follow the laws of income tax like the rest of us. Research by Arun Advani of Warwick University, using official HMRC data, shows that as income rises, a person’s tax burden typically rises too, as you’d expect, but only up to about £600,000.

Above that threshold, their tax bill as a percentage of their income goes down.

Advani found that the average person with total earnings of £10 million paid an effective tax rate of 23 per cent, about the same as a first-year junior doctor.

Why so low? First, higher earners tend to get a larger share of their income from dividends, which are taxed at a lower rate of 39.35 per cent. Second, investment income, which is taxed at 45 per cent, requires no national insurance contributions. They also have more facility to find expensive loopholes in the tax system.

But the biggest reason is that wealthy individuals get a significant chunk of their money through capital gains, which for higher earners are taxed at between 20 and 28 per cent.

This is why Rishi Sunak could legitimately claim an overall tax rate of about 21 per cent on his income of £4.7 million. If capital gains — charged on any assets, including property, shares and art, that are sold at a profit — were taxed like income, Advani suggests, total capital gains tax receipts could nearly double from £18 billion to £36 billion, enough to fund the annual transport budget.

For now, a disproportionate share of the burden falls on Matthew the solicitor. Who arguably isn’t getting much value for money either. The richest tenth may contribute the lion’s share of health spending, for example, but with waiting lists as high as they are, they are increasingly less likely to make use of the NHS. Between 2019 and 2022, the amount the average person spent on healthcare rose by about 14 per cent nationally, but by 34 per cent among the richest tenth of households.

This, according to Dr Zoe Irving, senior lecturer at York University, sets a dangerous precedent. “If you don’t have the whole income range buying into the welfare state, then it becomes very residualised. It means that services decline in quality and scope, and it’s a downward spiral where those who can afford to will be more likely to opt out.”

With our population ageing and our fertility rate falling, the burden on Matthew and his tribe seems likely to grow.

Additional reporting: Phyllis Akalin