Is the closer alignment of income tax and National Insurance a realistic idea?
The Office for Tax Simplification (OTS) have been looking at this topic and with further reviews proposed it looks like the government are keen to progress this issue.
Differences between income tax and NICs have been identified, by the OTS, as one of the top causes of complexity for small businesses so closer alignment between the two is likely to be welcomed by businesses.
The issues identified with the current system are that:
- it no longer supports the UK's flexible workforce and reward model or its diverse business structures
- its inherent complexity is not well understood by employers or individuals
- two individuals with the same gross income which is constituted differently can have different NICs outcomes and possibly be entitled to different benefits.
The OTS have made seven recommendations to achieve closer alignment in its report in March 2016. The government has asked the OTS to undertake further reviews on two of the recommendations. The two recommendations are:
- Moving to an annual, cumulative and aggregated (ACA) assessment period for employees' NICs on employment income similar to PAYE for income tax
The current calculation basis for NICs can create distortions as shown in the example below:
For an employee who in 2016/17 has three, unconnected jobs, paid monthly, each earning £5,000 per annum, there would be no NICs due as the earnings are below the threshold. In contrast, an employee earning £15,000 from one job paid monthly would pay £832 NICs for the year.
Moving to an ACA based system should resolve this issue.
- Basing employer NICs on whole payroll costs
Despite being calculated by reference to employees' pay, employer NICs do not impact on the contributory benefit entitlements of employees. The OTS proposal is to break the link of employer NICs with the calculation of individual employees' NICs and base the calculation of employers' liabilities on total payroll costs. A flat rate tax on total costs would be simple to calculate and an 'employment allowance' could remove many employers from any liability to the tax. For example a flat rate of 11.5% and an employer allowance of £115,000 would leave only 40,000 employers with a liability and raise the same revenue as at present.
The report on the two reviews is planned to be finalised before the Autumn Statement. The report will set out who might pay less and who might pay more (the 'gainers and losers'), and the benefits and challenges of an ACA system of employee's NICs and a payroll tax system of employer NICs including implementation and transitional issues.
Many employers and employees will look forward to some much needed simplification of the tax system.