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The structure of income tax

Income tax on earned income is charged at three rates: the basic rate, the higher rate and the additional rate. For 2021/22 these three rates were 20%, 40% and 45% respectively.  Tax is charged on taxable income at the basic rate up to the basic rate limit, set at £37,700. ‘Taxable income’ excludes personal allowances, which represent the amount of money someone may receive free of tax. Tax is charged at the higher rate on taxable income between the basic rate limit and the higher rate limit, set at £150,000. All three tax rates were unchanged from 2020/21.

The personal allowance was set at £12,570 for 2021/22. Both the allowance and the basic rate limit were increased in line with inflation from 2020/21. As a result the higher rate threshold – the point at which individuals become liable to pay tax at the 40% higher rate – was £50,270 for 2021/22.4F

The Treasury set out details of tax rates and allowances for 2021/22 in its Annex to the Overview of tax legislation and rates, which was published alongside the Spring 2021 Budget.

Receipts from income tax

Income tax provides the biggest source of revenue for the Exchequer. In 2021/22 it is forecast to raise £213 billion. By comparison National Insurance contributions (NICs) and VAT are forecast to raise £157 billion, and £132 billion, in the same year. Taken together the three taxes raise just under 60% of UK government revenues. The Library briefing Tax statistics: an overview provides more details.0F

In its overview of income tax the Office for Budget Responsibility (OBR) note that the main reason income tax is the biggest source of revenue is that personal income makes up the majority of total national income. There are many sources of personal income on which income tax is levied. These include: labour income (the wages and salaries of employees and earnings of the self-employed), income from investments (including interest on savings and the rental income from buy-to-let properties) and pensions income (from both the state pension and any occupational or private pensions).

In 2021/22 the top 10% of income taxpayers (including the top 1%) are expected to contribute around 63% of income tax receipts. The bottom 50% of income taxpayers (with incomes under £26,200) were expected to contribute just over 8% of income tax receipts. This breakdown of total income tax liability for tax years up to 2021/22 was updated by HM Revenue & Customs in June 2022. These figures only include those paying income tax. They exclude, for instance, anyone whose income is too low to be charged income tax. Section 3 of the Library briefing Tax statistics: an overview presents more distributional analysis: that is, how the tax paid varies across individuals or households with different incomes and how taxes affect incomes.0F

Spring Budget 2021: freezing the personal allowance and higher rate threshold

In the Spring 2021 Budget the then Chancellor Rishi Sunak announced that the personal allowance and the higher rate threshold would be frozen for the four-year period 2022/23 to 2025/26. At the time the Treasury’s Budget report stated that this measure was forecast to raise £1.56 billion in 2022/23, rising to £8.18 billion by 2025/26.F The Chancellor presented the Autumn Budget and Spending Review 2021 on 27 October, and although the Budget report did not discuss this tax increase in any detail, the freeze in both the personal allowance and higher rate threshold for 2022/23 was confirmed at this time. The rates of income tax for 2022/23 were unchanged.

The OBR published updated estimates for the yield from this income tax increase in March 2022. The OBR forecast the freeze to the personal allowance and higher rate threshold would raise £2.9 billion in 2022/23, rising to £18.0 billion by 2025/26.  Total receipts from income tax are forecast to rise from £245.5 billion in 2022/23 to £282.9 billion by 2025/26.

Autumn Statement 2022: extending the freeze for two more years

In his Autumn Statement on 17 November the Chancellor Jeremy Hunt announced that both the personal allowance and the higher rate threshold would be frozen for an additional two years, up to April 2028. In its Economic and Fiscal Outlook the OBR stated that the six-year freeze was expected to raise £26 billion per year by 2027/28. The OBR estimate that this policy will result in 3.2 million more people paying income tax, and 2.6 million more people being brought into the higher rate band. The impact that freezing tax allowances and thresholds has on tax receipts and the numbers of taxpayers paying more tax is known as ‘fiscal drag’. Commons Library briefing Fiscal drag: an explainer

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