What you need to know about the Scottish Income Tax Proposals

The Scottish government has put together a discussion paper on income tax – but what does this mean and what might be the impact?

The paper outlines and examines the income tax proposals suggested by each party, and to evaluate them effectively, the government have set out four priorities they must rigorously adhere to:

  • tax policy should help maintain and protect the level of public services – no cuts
  • the lowest earners should not see their taxes increase – no blanket rises
  • tax changes should make the system “more progressive” and reduce inequality – so middle and higher earners will shoulder more of the burden
  • changes should support the economy – no overly high rates that would ruin businesses

These priorities are not ‘universally accepted by all parties of course’ reports the BBC, but the government are clear they must form the foundation of any deal.

Since April 2017, some taxpayers earning around the 40% tax threshold pay around £400 p.a. more than their counterparts in the rest of the UK. So, HR teams wanting to move employees north of the boarder must consider compensatory reward packages for these internal expats.

The vast majority of Scottish citizens, over 2 million people, are 20% taxpayers, however as up to 300,000 of them have yet to be issued with S tax codes even their current 20% tax is not flowing to the Scottish Parliament. HMRC made another plea for up to date addresses in the latest Employer Bulletin but as employers are not mandated to send them in the FPS and any taxpayer who would pay more if an S code is issued to them, they are unlikely to be rushing to tell HMRC their main residence is in Scotland.

The alternative options proposed in the paper all leave the basic rate of income tax ‘untouched’ for those earning under the median wage of £24K but there is still lots of complexity for employers and software developers that would have to be implemented at very short notice as Mrs Sturgeon’s minority government needs to develop a consensus for any changes – last year it was February before we had certainty of this year’s thresholds. The proposals are:

Option 1: Higher and additional rates rounded up by a penny.

This would raise between £80m and £90m, with potential behavioural changes factored in (i.e. people cutting the number of hours they work, or at the more extreme end of the scale just leaving the country altogether).

Option 2: This plan adds an extra band by splitting the lower end of the spectrum in two. Earnings below the £24k median salary would stay in a 20p band, but there would be an additional 21p band for those earning between the median and the higher rate.

Instead of 2.1m people on the basic rate, there would be 1.2m on a 20p rate and 900,000 on a 21p rate.

Option two also adds a penny to the higher rate and either 3p or 5p to the additional rate, therefore splitting into two sub-options: 2A or 2B.

The forecast for 2A is between £210m and £250m, adjusted for behaviour, while 2B is £190m and £270m. So, there are higher potential returns for the higher-tax option – but equally it could end up bringing in less money if it pushes higher earners either into cutting their hours or moving house.

Option 3: split the higher rate band into different rates. This would see five different rates, of 20%, 21%, 41%, 42% and 50% – so basically, chipping off an extra penny in the pound at various increments (incidentally HMRC can accommodate eight Scottish tax bands!)

By leaving the basic rate untouched for those earning below the median wage, this would see about half of taxpayers pay no extra than under the current system.

The government reckons this plan would raise between £220m and £290m, again adjusted for potential behavioural change.

Option 4: Six different tax bands, double the number of bands currently in place.

The option includes dividing the standard and higher rate cohorts in two, with 1p increments – with the addition of a new lower rate in the form of a 19p band for those at the lower end of the earnings scale.

This is not in fact a small group; some 386,000 taxpayers are on a gross income which is more than the tax-free allowance, but below £15,000 – so quite a few people would end up taking home more money at the end of the month.

As such, this model might not raise quite as much money as options 2 or 3, between £150m and £220m (adjusted for behavioural change) – but it does tick that “more progressive” box.

Progressive doesn’t necessarily mean less complex in this instance though, and lowering taxes for those on low incomes could cause complications with social security payments, for those who receive them.

But what is the impact on the Scots’ pay packets?

Well it seems certain that if you earn more than £24,000, your taxes are likely to be going up, but higher earners will take the greatest hit.

According to the discussion paper and four priorities, ideas suggested by Labour and the Lib Dems would be ruled out straight away due to the involvement of a blanket increase which would see lower earners pay more. The Conservative proposals are also out, as they wouldn’t raise extra funds.

‘The Green ideas are closer to the priorities outlined but they also go very hard after the highest earners – their existing proposals might not quite fit the bill, but they are by far the most likely partners for the SNP as things stand’ suggests the BBC.

But it’s a waiting game now with all to play for until the release of the draft budget in December.

HR and payroll impacts

As well as further complications in reward packages for mobile employees, any proposals that lead to a change in the basic rate, or even two basic rates, bring with them complexity for tax relief for pension contributions in relief at source schemes. Currently payroll systems default to 20% tax relief for all taxpayers in such pension schemes. One assumes that if there is any change to the basic rate or rates, there will need to be a matching rate of tax relief on pension contributions. Particularly, as those in Net Pay Arrangement (NPA) schemes will automatically receive relief at their appropriate marginal rate, so it would be unfair for those in RAS schemes not to be treated the same especially if they are paying additional tax on tier earnings. It also means it is even more vital that HMRC track down the missing cohort of Scottish taxpayers as Mrs Sturgeon’s budget will have been predicated on a £2.2m taxpayer population.

Based on original article published at http://www.bbc.co.uk/news/uk-scotland-scotland-politics-41846230