The 2000 Budget: the impact on the distribution of household incomes

Transcription

1 The 2 Budget: the impact on the distribution of household incomes 1. Introduction Holly Sutherland and Rebecca Taylor 1 Microsimulation Unit Research Note no. 35 March 2 Traditionally, Budget analysis consists of calculation of the "overnight" effects on particular families. Our analysis departs from this by using survey data, representative of the actual population, which allows us to assess the overall distributional effects. We capture the diverse range of living situations and individual characteristics in the UK today, in the correct proportions. In comparing the impact of two policy regimes it is usual to compare the new policy with a version of the old, indexed forward by a year to account for inflation. Thus the counter-factual is that benefit levels and tax thresholds would have been uprated for changes in the price level. 2 However, the recent trend for announcing changes several years in advance of their implementation, makes the comparison more complicated. Should we compare the actual systems, this year and next, even though some of next year s changes have been known for some time? Or is it more interesting to analyse the impact of the new measures that are announced, regardless of the date at which they will take effect? In this note we do each in turn. First, we take policy as it operated in 1999/2 and index for increases in prices to 2/1 levels. 3 We compare the effects of indexation with those of the policy due to come into effect in 2/1. In fact, since changes were implemented at various times during 1999/2, and the same is the case during 2/1, we choose to compare the systems in operation in October 1999 and October 2. We refer to this comparison as year-to-year. Our second starting point is the tax and benefit policy that was known before the Budget speech on March 21 st. Some of this policy is not due for implementation until 21, but it is all expressed in 2/1 prices. The new changes announced in the Budget are then analysed in relation to what was already known. We refer to this comparison as Budget 2 announcements. All our analyses use the Microsimulation Unit's tax-benefit model POLIMOD to show the effects of changes in personal tax and social security benefits on the disposable incomes of British households. 4 Section 2 lists the changes that are analysed in the two simulations. 1 Thanks to Clive Harding and Lavinia Mitton for timely assistance. 2 An alternative would have been to take the increase in average incomes as the counter-factual uprating factor. 3 We use the actual uprating factors used by the Government for tax thresholds and non-meanstested benefits (1.1%) and for means tested benefits (1.6%). 4 POLIMOD makes use of micro-data from the Family Expenditure Surveys (FES) of 1994/4 and 1995/6, updated to the price and income levels projected for 2/1. The FES data are Crown Copyright. They have been made available by the Office for National Statistics (ONS) through the Data Archive and are used by permission. Neither the ONS nor the Data Archive bear any responsibility for the analysis or interpretation of the data reported here. POLIMOD is the tax-benefit microsimulation model constructed by the Microsimulation Unit in the Department of Applied Economics at the University of Cambridge, originally funded by the ESRC (R ). For more information see Redmond, G., H. Sutherland and M. Wilson (1998) The Arithmetic of Tax and Social Security Reform: A Users Guide to Microsimulation Methods and Analysis, Cambridge University Press. 1

2 Section 3 describes the distributional effects of the year-on-year changes, and Section 4 describes the effects of the Budget 2 announcements. Section 5 concludes. 2. The changes included in the analysis A. Year-to-year Amounts are in per week and increases are in real terms (using statutory updating factors) unless otherwise specified. Working Families Tax Credit (WFTC) child credits increased by 5.45 for children aged under 11 and 4.35 for children aged 11 to 15. Child benefit increased in real terms by.45 to 15 for first or only children and.3 to 1 for other children. Income Support (IS), Housing benefit (HB) and Council tax benefit (CTB): family premium increased by.15; rates for children aged under 11 increased by 1.45, for children aged 11 to 15 by 4.65 and for other children aged under 18 by.3; premia for pensioners ( Minimum Income Guarantee ) increased by 2.25 (single) and 3.45 (couples). Winter fuel allowance: Increased by 48.9 to 15 per year for households containing a person over state pension age or in receipt of Income Support pensioner premium. (Payment assumed to be spread over the year at 2.88 per week.) National insurance contributions: Class 1 employee contribution primary threshold (PT) increased by 9 to 76; upper earnings limit (UEL) increased by 25 to 535; Class 2 (selfemployed) flat rate contributions reduced by 4.6 to 2; Class 4 (self-employed) lower profits limit aligned with the Class 1 PT (a reduction of 62); Class 4 upper profits limit aligned with the Class 1 UEL (an increase of 25) and the rate of Class 4 increased from 6% to 7%. Income tax schedule: standard rate reduced from 23% to 22%. Married couples allowance (MCA) for couples both aged under 65 and Additional personal allowance (APA) abolished. (This would have been worth 1% of 2 per year or 3.85 per week in 2/1 prices.) Mortgage tax relief abolished. (In 1999/ the maximum annual relief was 1% of the annual interest on 3,.) Excise Duties: Spirit duty remained frozen (effectively a decrease of 3.3% in the duty). Duty on tobacco increased by 5% above inflation. 2

3 B. Budget 2 announcements Amounts are in per week and increases are in real terms (using statutory updating factors) unless otherwise specified. Working Families Tax Credit: amounts for children aged under 16 in WFTC increased by 4.35 per week (in June 2). The same increase in Income Support and other incomerelated benefits will be introduced in October 2. Child Benefit increased by.5 to 15.5 per family (and by.35 for second and subsequent children to 1.35) in April 21. It is unclear whether these increases are in real terms on top of any indexation for inflation, or whether they include inflation increases. We have assumed the latter and deflated the increases by an assumed rate of inflation of 2.25% (which is the Government s own forecast). Thus the real value of the increase is.15 for the first child and.12 for other children. Children s Tax Credit to be increased in value by.5 to 8.5 per eligible taxpaying family when it is introduced in April 21. We have made the same assumptions about inflation as with child benefit, making the real value of the increase about.31 per week. Income Support: the earnings disregard in Income Support and Job Seekers Allowance for lone parents, disabled and carers increases by 5 to 2 in April 21. We have deflated the increase for inflation. Winter fuel allowance: Increased by 48.9 to 15 per year for households containing a person over state pension age or in receipt of Income Support pensioner premium. (Payment assumed to be spread over the year at 2.88 per week.) Minimum Income Guarantee (MIG): the capital limits for MIG (Income Support for pensioners) are increased from 3 to 6 (so that income from capital less than 6 per benefit unit is disregarded) and from 8 to 12 (so that pensioners with capital between 8 and 12 may be entitled to MIG assuming other conditions are met). Due in April 21. Excise Duties: Spirit duty remained frozen (effectively a decrease of 3.3% in the duty). Duty on tobacco increased by 5% above inflation. 3. Year-to-year changes The average percentage change in post-tax and benefit income by income decile is charted for two population groups in Figure 1 (see end for all figures). 5 When the population as a whole is considered (all households) the effect of actual policy compared to a simple indexation of last year s policies is a positive one. The households in the lower income deciles benefit most on average from the changes - up to a maximum of 3.7%. Incomes increase at a decreasing rate as household income increases i.e. moving from the lowest to the highest decile. However, when the subgroup of households with children is examined, a different picture 5 Household incomes are equivalised to account for differences in size and composition with the McClements scale. 3

4 emerges. Figure 1 illustrates the more substantial gains for households in the lower deciles which tail off to relatively small losses experienced by households in the upper deciles. Average gains/losses can be decomposed to examine the effects of the changes further. Figure 2 shows the percentages of households who gain and lose, and highlights the differential impact that the policies have on households with children compared to all households. A gain/loss of less than.1 per week is considered negligible and is counted as no change. It shows that there are gainers and losers throughout the distribution; while about 3% of all households are losers, the proportion of households with children who lose is higher: 47%. Most of the losers are in the top half of the income distribution but about 2% of households in the bottom third of the distribution are losers. This is mainly due to the abolition of mortgage tax relief and the MCA/APA. Together these are worth more to a single-earner family than the maximum gain from the cut in the basic income tax rate. 4. Budget 2 announcements The average percentage change in post-tax and benefit income comparing policy before and after the budget announcements can be seen in Figure 3. The policy changes considered have a relatively smaller impact on incomes than in the analysis above maximum increase of 2.5% for the all-household sample. All decile groups gain on average. Households with children benefit more than the average household and in fact, all households with children are net gainers. Figure 4 examines the proportion of households that are net beneficiaries from the announced changes. Roughly 3% of all households in the top decile are gainers, 55% are gainers in the bottom decile. A gain is defined as at least.1 per week increase in net equivalised income. The highest proportion of gainers is seen in the fourth decile (nearly 8% of all households). The darker tips of the bars show households gaining more than 5 per week. These are concentrated in the bottom half of the income distribution and gain this much either from combinations of increases in benefits or credits for children, or from the combination of increases in the winter fuel allowance and the raising of capital limits for pensioners on Income Support. 5. Conclusions The conclusions one draws about the distributional effects of the Budget depend on one s starting point and the policy changes that one considers as part of this year s Budget. With the recent trend for pre-announcing changes well in advance of their implementation there are a number of ways of analysing their effects. For Budget 2, we can draw the following conclusions: The gap year between the abolition of the MCA/APA and the introduction of the CTC means that nearly half of households with children will be worse off in 2/1 than they were in 1999/2. The cut in the basic rate of income tax by 1 percentage point prevented the losses among middle-to-high income households being greater. A high proportion of lower income households with children are substantially better off in 2/1 than they were in 1999/2. The new changes announced in the Budget provide small across-the-board increases in income for households with children (through pre-announced increases for 21/2 in child 4

5 benefit and - for middle-income families only - CTC), and pensioner households (through the increase in the winter fuel allowance). Larger increases for low income families with children result from increases in child rates in means tested benefits and credits. Larger increases for some pensioners are due to the relaxation of capital rules in Income Support for pensioners (MIG). 5

6 Figures: Figure 1: Average percentage change in post-tax household equivalised incomes: "year-to-year" All households Households with children % change Bottom Top Figure 2: Gainers and losers across the household income distibution: " year-to-year" All Losers Losers with children All Gainers Gainers with children % Gainers or losers

7 Figure 3: Average percentage change in post-tax household equivalised incomes: "Budget 2 announcements" All households Households with children % change Bottom Top Figure 4: Gainers across the household income distribution: "Budget 2 announcements" Gainers < 5 Gainers > % gainers