The Tax Payers’ Alliance (TPA) have a new report on welfare reform. Don Paskini’s already had a review of it over on Liberal Conspiracy. He makes some interesting points but I think in his rush to rubbish anything the TPA come up with (and, generally, that would be my reaction too) he fails to quite get to the heart of the problem.

£20, courtesy of gagilas on flickr

The report does actually have some sensible ideas; it quite accurately identifies a number of problems with our current welfare system. They tell us “It is almost impossible to understand, with over 50 different benefits, all with different rules and taper rates and a total of 8,690 pages of guidance for DWP benefits alone.” That take up rates can be “as low as 57 per cent in some instances” for some benefits. That “[p]eople who want to work and progress in work are financially penalised. A claimant who loses Housing Benefit, Council Tax Benefit and tax credits, at the same time as paying income tax and NICs, faces a marginal tax and benefit withdrawal rate of 95.5 per cent. Over 2.5 million non-disabled working-age households face a marginal tax and benefit withdrawal rate of over 60 per cent.” And that despite the number of children living in households on less than 60 per cent of the national median income falling, the number of people “living in households with less than 40 per cent of median income, has actually increased from around 5 per cent of households a decade ago to around 6 per cent today.”

These are all serious issues, and ones we need to deal with. The problem comes in their solutions. First of all, they claim it is impossible to do more than two of the three following objectives: “directly raise the incomes of the poor, increase the employment of the poor and reduce welfare spending”. They don’t seem to give much of convincing explanation for this assertion. They also decide that given that choice the most important objectives need to be increasing employment and reducing spending. And so they set out five criteria for an effective welfare system:

1. The state should provide a basic minimum to all citizens of working age, and through them, to all children, at an affordable cost to taxpayers.
2. Work should not be discouraged by excessive benefit taper rates.
3. There should not be too many people on middle or higher incomes unnecessarily receiving means-tested benefits.
4. The welfare system should be comprehensible for people to understand and to navigate.
5. The welfare system should be responsive to changes in people’s circumstances without a high level of fraud and error.”

Which actually all seem pretty reasonable, perhaps to the point of meaninglessness. You won’t find many people arguing for an unaffordable, incomprehensible and unresponsive system.

The TPA’s solution to all this is a negative income tax paid at either 50, 55 or 60 per cent of national median income (after tax and NIC) with taper rates of either 50, 60 or 70 per cent. Relative poverty is currently defined as 60 per cent of the median income. The TPA, in rejecting any proposal, that by their calculation, costs more than we pay now, favour a negative tax set at 50 per cent of the national median income with a 55 per cent taper rate. The taper rate is the effective tax rate you would face once you started earning until your net income (after negative tax but before other taxes) equalled your gross income (before all taxes). So a 50% taper rate means for every pound you earn you lose 50p of benefits.

Tapering of Negative Income Tax

At zero earned income you receive the full value of the negative income tax (NIT), as you earn it tapers away till it disappears at some threshold.

They suggest that you could have all other income tax and national insurance starting only after the negative tax had tapered out but that this would be “unaffordable” so the negative tax would have to run alongside other taxes. Like the Lib Dems, though, they’d be in favour of raising the tax allowance. All this together means that the marginal rate of taxation could actually be pretty high for low income earners. Certainly higher than the marginal rates on higher earners in our supposedly progressive taxation system. At the start of their report the TPA point out that the excessive marginal rates at low incomes is a failing of our current system, yet their alternative could be almost as bad.

They do, partially, address this, suggesting at one point that the taper rate could vary over time, so those newly in work would face a rate of, perhaps, just 25 per cent, while those who had been in a low paid job for a number of months, would see their rate gradually rise and settle out at 65 per cent. Conversely, those just leaving work would have to wait a while before all their benefits came back again. That’s to make sure if you’re offered a short term contract you’ve more incentive to take it. There’s less detail on their final time based effect, perhaps because, as they admit it would be rather controversial. That’s to time limit some part of you negative tax benefit. So those out of work, over 6 months, maybe, would see their benefits drop.

It’s here, past the executive summary and into the real details of how their proposal works that you start to see the real problems. The basic idea of a simplified system isn’t a bad one, and a negative income tax isn’t, necessarily, much different to our suggestion for a citizens income. But where citizens income is designed to give you more freedom, to allow people not to take work if they don’t want it, to take time to study, or care or change their lifestyle, the TPA’s suggestion is designed to force you into work. Low paying work, short term work, any kind of work you can find, or you’ll be punished.

Welfare reform is going to be a major issue in the coming years, the government are going to be after ways to reduce costs whilst appearing progressive. A universal scheme that makes things simpler and eliminates some of the worst of the marginal rates facing people as they go back into employment may well look very appealing. We have to take the time to understand where the problems really are and to be clear on the alternatives. Otherwise we risk having nothing to offer in the debate and leaving the TPA an open goal

About Alasdair Thompson

Alasdair co-founded Bright Green Scotland in 2009.