The Sunday Long Read
Only two things are certain in life, death and taxes. So said Benjamin Franklin. But taxes come in many forms, and impact people in very different ways. Government can tax people’s income, their expenditure, or their property. At present most of our tax is paid on income, and very little on wealth. Because of this, the rich become richer in every generation.
The latest British Social Attitudes Survey shows that a majority of people are in favour of increasing taxation to spend on health, education and social benefits. Two thirds believe that “ordinary working people don’t get a fair share of the nation’s wealth”, and that the government should redistribute income to the less well off.
So there is support for raising taxes from some people. How should we do it?
What gets taxed?
In the UK more than half of all taxes are based on people’s income, and taxes on purchases (mainly VAT) are also significant. By contrast, taxes on property (Council Tax, Stamp Duty and Inheritance Tax) represent less than 10% of the total.
It’s wealth that drives inequality, not income
People sometimes assume that income and wealth are closely related, but this is not true. Certainly, people with very big incomes can accumulate wealth by saving a lot of that money, and gradually become richer.
But if your parents, grandparents of ancestors were rich, and invested the money wisely, you begin life rich, and get richer, whatever your income. And, because wealth is lightly taxed, barring disastrous mistakes, you will go on getting richer until you die, and leave it to your (still richer) heirs.
In 2013 the economist Thomas Picketty showed that, over recorded history, wealth has almost always been less equally distributed than income. And because wealth passes between generations, it accumulates. As a result, people almost always earn more from wealth – in dividends, inflation in the value of assets like houses and land etc. – than from earned income.
The reason that we did not notice this is because the mid-20th century was a very unusual period. After decades of steady rises, inequality in wealth (in the developed world) peaked in 1914. But two world wars, the great depression and postwar interventionist governments destroyed the value of many assets. However, since then, the historic pattern has re-established itself, and wealth inequality has now returned to near 1914 levels.
So, perhaps, if we want a more equal society, we should tax wealth more, and income less. There are broadly two ways of doing it, on transfers or on assets.
Taxing transfers of wealth
Taxing transfers is relatively easy. When land or investments are sold or given away, the transaction is traceable, through documents and financial records. Transfer taxes can also be adjusted to make them more equal, by exempting small transfers, or the sale of one’s only residence.
Such taxes can be relatively painless: I buy a house and pay a bit more in Stamp Duty on top of the purchase price. But Stamp Duty only collects 2% of all tax revenue. And it only applies to things which are transferred. So, if I don’t sell it, the value of my land will continue to rise, untaxed. That’s why we have Inheritance Tax, which taxes transfers when people die. However, Inheritance Tax is deeply unpopular, and there are many legal ways of avoiding it. Fewer than 5% of deaths result in any payment, and it currently raises less than 1% of all tax revenue.
Taxing wealth itself
Taxing wealth itself has the potential to raise much more money and have a more powerful equalising effect. However, it is difficult to identify and value assets, and there are problems in taxing people who are asset rich and income poor.
We already have one tax on wealth: Council Tax. However, it demonstrates some of the problems of taxing wealth. It is “efficient”: difficult to avoid, with higher collection rates than for any other tax. But it is notoriously unfair. It is charged on the valuation of a property 30 years ago, and takes no account of changes since then. It was designed to be progressive, with the largest properties paying the highest rates, but house price inflation has eroded that. As a result, every year, a Band D Council Tax payer in Richmond on Thames pays 0.2% of the value of his/her house, while a Band D payer in Great Yarmouth pays 1.2%, six times higher. Planned upratings have been repeatedly put off because of fear of political backlash, and the last attempt at serious reform provoked the Poll Tax riots.
So what might a real wealth tax look like?
When IpsosMori polled people on what tax would be most popular if more revenue was to be raised, wealth was by far the most popular. This is perhaps unsurprising, since most people assume that they would not have to pay it. But it was also the most popular in a survey of professional economists. But how to do it depends on what we want to achieve. Reducing inequality and raising revenue do not necessarily lead to the same strategy.
We now have a valuable source of information about how to tax wealth, thanks to a group of academics, lawyers and policymakers who came together in 2020 as the Wealth Tax Commission. Their aim was to investigate whether, and how, a wealth tax might help recovery from the Covid crisis, which had caused the biggest fall in GDP for 300 years.
Although its remit was very specifically focused on Covid recovery, its report provides a very detailed account of the issues. They considered two broad options: a regular wealth tax, to be charged periodically (perhaps annually); or a “one off” wealth tax to be charged once only, like the windfall taxes on energy suppliers.
Taxing for equality
If the aim is to reduce inequality, it makes sense to apply a wealth tax regularly, perhaps every year. Over time, the wealth of the rich would slowly reduce. However, the Commission did not recommend a periodical wealth tax, on the grounds that it would be too complex, difficult to set up, open to avoidance, and might not raise very much. They noted that Switzerland is the only country with an annual wealth tax which raises significant sums. Several countries have abandoned such taxes for technical reasons (often because they cost more to implement than they raised). In the UK, the idea was last seriously considered, and rejected, by the Callaghan government in the 1970s.
As a long term solution, the Commission preferred serious reform to existing taxes on wealth: inheritance, capital gains, investment income, housing and land. All these could have a significant impact on inequality, but all have a long history of failed attempts at reform.
A one-off wealth tax
However, they did propose a one-off wealth tax, specifically to stimulate post Covid economic recovery. They argue that, unlike an annual tax, a one off tax is difficult to avoid, and does not have unintended consequences for the economy, by changing incentives to work or invest. It is also appropriate as a response to a very specific crisis like Covid. The tax would be assessed once (on the date of the announcement, to avoid evasion) but payment could be spread over several years.
How much could a wealth tax raise?
The Commission discussed a range of rates and thresholds but did not recommend a specific option, since these must be political decisions. But they produced an online calculator, which makes it easy to estimate how much would be raised by different levels of tax, with different thresholds.
For example, a one-off wealth tax could raise £250 billion. This is around 20% of public expenditure, and compares to the extimate of the cost of restoring the NHS to pre 2008 levels, which is £30 billion a year.
The Commission calculate that this could be achieved with a 1.7% tax on individual wealth over £1 million (net of debts like mortgages). This tax would only be paid by 600,000 individuals in the UK, and would have no significant impact on people’s willingness to work or to invest. Certainly the alternatives to raise the same sum, like adding 9p to the basic income tax rate, or putting 6p on VAT, would be extremely unpopular, and would have serious impacts on general economic activity.
Has the issue gone off the boil?
When the Commission met in 2020, political anxiety about the economic impact of Covid was very high. Quantitative Easing and the Furlough scheme had demonstrated that government can take dramatic measures in a crisis. So there was a public and political appetite for radical solutions.
But now the government is trying hard to establish the idea of a return to “normal”. As awareness of the Covid crisis recedes, radical ideas slip off the agenda. But “normal” is not “right”, or fair. And the crisis in our public services continues and deepens.
Our tax system is notoriously complex, confusing and full of loopholes. By taxing income more than wealth it drives inequality. But reform is politically difficult. The losers always protest, and they are usually the people with the greatest political influence. You have only to look at the level of public opposition to reform of Inheritance Tax from many people who will never actually pay it.
However, at present there appears to be widespread support for higher taxes to support public services, which are perceived to be failing. Of the options, taxing wealth, through a one-off “windfall” style tax, and/or reform of existing taxes, seems to be the most popular option.
Probably it is only an incoming government with a comfortable working majority that can afford to take the risk of reform. Current polling suggests that we are on course to get such a government. Will we get the reform?