Rachel Reeves may have no choice but to sign off on further tax rises this spring – despite committing to “one major fiscal event a year” – if she wants to avoid breaking her borrowing rules, experts have warned.
On 26 March, the Office for Budget Responsibility (OBR) will release forecasts for the economy, which the Chancellor will share and respond to in her Spring Statement.
The watchdog is widely expected to slash its growth outlook and warn that Reeves is at risk of breaching her fiscal rules.
Since the October Budget, growth has undershot expectations and inflation has climbed to its highest level in 10 months, at 3 per cent. Meanwhile, a sharp rise in government bond yields has all but wiped-out Reeves’s £9.9bn headroom against her fiscal rules.
Neil Insull, a partner at business advisory firm Blick Rothenberg, said the Chancellor may be “forced” to announce further tax rises in addition to expected spending cuts.
He added: “Lower growth projections in the OBR report will cause further jitters in the already nervous bond market and it will be no surprise if the Chancellor looks to raise tax revenues to meet her fiscal rules.”
The i Paper asked experts what tax changes she might choose to make.
At the Autumn Budget on 30 October, Reeves had confirmed that from the 2028/29 financial year, income tax thresholds will be uprated in line with inflation. However experts now suggest the freeze could actually be extended.
Robert Salter, a director at Blick Rothenberg, said: “I would anticipate that the freeze on the income tax bands could easily be extended until April 2029.
“Freezing the bands isn’t, at least directly, a tax rise, but it is already creating significant additional revenues for the Government through fiscal drag, and freezing the rates for another year would only increase this revenue raising.”
Currently, the standard personal allowance, above which income tax kicks in at a 20 per cent rate, is £12,570. The threshold for the higher rate of 40 per cent is £50,270, and the additional rate of 45 per cent is paid for earnings over £125,140.
If thresholds are kept frozen, it is predicted thousands of pensioners will be dragged into paying income tax for the first time.
At the moment, most savers can take 25 per cent of their pension pot tax-free once they reach the age of 55, up to a maximum of £268,275.
It has been reported that government officials have asked one of the UK’s top pension providers to assess the effects of cutting the tax-free lump sum to £100,000.
Reeves decided against this measure in the October Budget, but it could be on the cards this year.
Mr Salter said: “This would be quite controversial, as it is probably the‘most well known bit about pensions for the average taxpayer.
“Plus, as a country, we clearly need to be saving more from a private pension perspective than we are presently doing and changing the rules about pensions could easily be said to undermine the faith that people have in the pensions system.”
Tom Selby, director of public policy at AJ Bell, said Reeves had three broad choices in the absence of a sharp rise in growth – loosen her fiscal rules, cut government spending, or raise taxes.
“All of those come with significant political and practical challenges, particularly given businesses have already been clobbered and Labour pledged not to raise the rates of income tax, national insurance or VAT on working people in its election manifesto,” he added.
Instead, she could look to reform ISAs as an attempt to boost investment or economic growth.
It has already been rumoured that the Chancellor is looking to scrap the cash ISA or lower the yearly tax-free allowance from its current level of £20,000 to just £4,000.
City firms are said to have lobbied Reeves over this, with hopes more people would invest in stocks and shares ISAs and boost the economy.
But Mr Selby said: “Lowering the cash ISA allowance would introduce complexity, reduce choice and be unlikely to deliver the growth sugar-rush some of the policy’s advocates are claiming.
“Any reforms to ISAs need to be squarely focused on the long-term, with the aim of simplifying the product and encourage greater levels of long-term investing.
“A broader review of the ISA landscape announced at the Spring Statement, rather than a rushed reform to cash allowances, would be a sensible approach.
“Simplification alongside improvements to the help available to investors through ‘targeted support’ could create the foundation for an investing revolution in the UK, although clearly this isn’t going to happen overnight.”
Mr Salter added that Reeves could scrap lifetime ISAs (LISAs) for new savers – which are mainly used to save for property deposits – altogether. “This would be a relatively easy way of gaining some additional revenue whilst arguing it doesn’t impact most people,” he said.
At the last Budget, Reeves announced that employer national insurance contributions (NICs) will increase from 13.8 per cent to 15 per cent on 6 April. This has proved unpopular.
However, Mr Salter said a possible measure would be to impose NICs on employee benefits-in-kind – for example, company cars or private health insurance.
He said NICs were “basically currently chargeable only on cash earnings for employees and employee company share option/stock events.
“However, there is already a move to have benefits-in-kind reported via the payroll in all cases going forward. This would therefore fit ‘quite naturally’ with imposing employee NICs on such benefits.”
Given that Reeves has already imposed VAT on private school fees, it would be “logical” for her to look at widening the scope of VAT, Mr Salter said.
He suggested the levy could be imposed on areas such as private healthcare or VAT on private school fees widened to preschools or university education.
“After all, universities and nurseries are typically privately run charities or for-profit institutions – so broadly akin to private schools,” he said.
Rowan Morrow-McDade, tax director at Alexander & Co Chartered Accountants, thinks Reeves could relax tougher inheritance tax rules for farms (APR), following widespread protests by farmers.
In the October Budget, the Chancellor announced that from April 2026, she announced that claims for business property relief (BPR) and agricultural property relief (APR) will be capped at £1m per taxpayer, with tax charged at 20 per cent above that cap.
Farmers have been protesting against this change since October, which may prompt Reeves to relax the changes, Mr Morrow-McDade said.
According to Fiscal Headroom Monitor, from Capital Economics, the rises in Government borrowing costs since the Budget have whittled away Reeves’s headroom from £9.9bn to just under £3bn.
Taken together with the recent weakness in economic activity, there is now a significant chance that the OBR will judge the main fiscal rule has been missed, Ruth Gregory, deputy chief UK economist at Capital Economics, said.
She explained: “As a result, the Chancellor will probably face a nasty choice of breaking her fiscal rules or announcing more tax rises and/or spending restraint on 26 March.
“We suspect she would choose the latter, perhaps by reducing spending relative to existing plans in 2028/29 and 2029/30. That way she could avoid worsening the economy’s near-term prospects and politically unpalatable tax rises.
“And she may hope that by the time the spending squeeze arrived, things had improved such that she would not have to implement it.”
Tougher rules on personal service companies – limited companies that have been set up to provide the services of a single contractor, who is usually the sole shareholder and company director of the business – could be an option, Mr Salter said.
These firms can decide whether to pay the owner/director a salary or dividends, or a combination of these, to retain funds in the business and pay them out via capital gains in due course – that is, when the business is sold.
These options generally provide the owner-director with a tax advantage compared to someone doing business directly as a self-employed individual.
Mr Salter said: “While this change would be controversial, there are other countries which do – at least to some degree – look through the personal service company when it comes to assessing the owner’s tax position.”
The current budget should be on course to be in balance or surplus by 2029/30 (the “stability rule”)
Net financial debt should fall as a share of the economy in 2029/30 (the “investment rule”)
Some types of welfare spending must remain below a specified level (the “welfare cap”)
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