This idea starts from the premise that the proper purpose of tax is to raise revenues. (I will return to other purposes at the end.) On this basis, Income Tax should be abolished as it fails to raise revenue; is expensive to collect and administer; and is an obstacle to enterprise.
A consideration of a number of categories of employee will demonstrate how Income Tax fails to raise revenues:
Individuals employed in the Public Sector (close to half our economy): gross salaries are paid from tax receipts, and a portion then taken back immediately from the recipients. Income tax collected from these individuals is merely a recycling of funds; payment on a net basis would eliminate complexity and administration with no loss to the exchequer.
Individuals employed by large, profitable private sector firms: across a workforce of varying earnings, gross PAYE revenues amount to approx. 20% of payroll. Payroll expenses are a deductable expense of business, with larger companies deducting at 30% (set to reduce). The employer is given more relief than the tax taken from the employee. By switching to net pay, abolishing income tax and making payroll no longer a deductable expense, administrative costs and complexity would be reduced, and the total revenue to the exchequer would increase.
Individuals employed by small firms: in a company paying the smaller companies rate, the tax relief to the employer is approximately equal to the tax raised from employees. These companies are, however, particularly impacted by administrative burdens, so would benefit greatly from abolition of Income Tax.
Individuals employed by failing firms: in a loss-making firm, without sufficient profits against which to deduct payroll costs, there is a net gain to the exchequer. A change to net pay and zero income tax might provide considerable assistance to such firms' survival, however, by reducing their cash outgoings. This could help many firms to survive, with overall benefits to the economy and consequently total tax take.
Abolishing Income Tax entirely would increase total tax take from larger firms; save administration costs in both public and private sector enterprises; and allow deep cuts at HMRC. Additionally, by simplifying casual working, it would increase workforce participation.
Certain conditions would need to be met for such a policy to be workable, including:
A national 'Tax Free Day' would need to be announced, from which date employers would have a right to re-set employees' salaries to a net basis, and after which payroll expenses would cease to be deductable.
Appropriate treatment and adjustment of pensions in payment would be required, together with accruing right expressed on a salary-related basis.
The self employed would need to be required to convert to a simple corporate form, and become taxed under the same code as smaller companies.
Suitable transitional arrangements would need to be determined to compensate for impacts to the timing and stability of tax receipts (PAYE offers the benefit to the exchequer of being collected at a consistent rate, and hard to manipulate; which can not be said of Corporation Tax currently.)
(Note: applying a similar logic, one would also create a process whereby smaller companies (charged tax on profits at 20%) that only supply other businesses (claiming relief at 20% – 30%) could opt to supply services on a non-taxable (for supplier) and non-deductable (for customer) basis, saving both administrative costs, and increasing total tax take again.)
In closing, it is appropriate to mention the other current role of the tax system – to support social engineering goals of redistribution through 'progressive' tax rates. I make no comment about the merits or otherwise of a redistributive policy, but would argue that given our system of personal taxation fails to raise revenues that are not recycled in public sector employment or exceeded by Corporation Tax reliefs on the same payrolls in the private sector, it is a hugely wasteful and destructive way to pursue those goals. Other tax mechanisms – such as differential bands of VAT (the Marketing community can tell us which categories of product are consumed by different wealth strata), could achieve similar or greater redistribution at much lower cost.
Why is this idea important?
I believe my proposal to abolish Income Tax (and at the same time reduce salaries to a net basis and make payroll costs non-deductable for Corporation Tax purposes) is important as it increases tax revenues; removes administration and collection costs; and frees enterprise. Moreover, given the need to massively reduce expenditure in the public sector and to increase the competitiveness of British businesses – and of Britain as a jurisdiction in which to operate a business – small solutions can not be the answer.
Abolishing Income Tax would be a radical and transformative change, and would demonstrate Government's willingness to dismantle whole systems of the State that provide neither social nor economic benefit.