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CHAPTER THREE: HOW MUCH LOCAL INCOME TAX WILL PEOPLE PAY?

PERSONAL ALLOWANCES

3.1 At present the UK income tax system allows each person a 'personal allowance'. Individuals can earn up to this amount without paying any tax. Tax is payable on any amount earned over the allowance. The consultation document proposes that the Scottish Government would like to see a Scottish local income tax allowance which mirrors the UK allowance and respondents were asked for their opinions.

Chart 3.1
Question 1: In your view, should the local income tax personal allowance be the same, higher or lower than the UK income tax personal allowance?

Base: Individuals (418)

Individual responses

3.2 As chart 3.1 shows, the majority (56%) of individuals were in favour of the level of personal allowance being the same as the UK level. Under a quarter (21%) felt the level should be higher with 10% saying that the level should be lower. Thirteen percent did not reply or said 'don't know'.

3.3 The data for each age range shows that people over the age of 55 were most likely to suggest that the rate should stay the same:

• 53% of 18 to 34 year olds felt the allowance should be the same, as did;
• 47% of 35 to 44 year olds;
• 43% of 45 to 54 year olds;
• 71% of those aged 55 to 64;
• 68% of those aged 65 and over.

3.4 Three of the 12 individuals who responded in a free-flowing format commented on this issue and all 3 voiced some support for the level of allowance remaining the same as the UK level.

Organisational responses

3.5 Quantifiable data on whether the local income tax personal allowance should be the same as the UK income tax personal allowance was extracted from 27 of the 86 organisational responses.

3.6 In response to the question on personal allowance, the majority of those who commented, 25 out of 27 respondents, felt that the allowance should remain the same. The only alternative opinion came from 2 organisations in the 'other' category who felt the rate should be higher.

3.7 In addition to those organisational responses where precise answers to the consultation questions could be quantified, there were others where responses were submitted in a free-flowing format or which contained very substantial, detailed comments which could not be coded and were, therefore, analysed qualitatively.

3.8 Nineteen of the qualitative responses received from organisations in relation to this question revealed some support for the local income tax personal allowance staying the same as the UK income tax personal allowance. These 19 organisations comprised 12 local government organisations, 2 political organisations, 2 tax, pay or finance organisations, one retail/ business, one equality and one representative group.

3.9 The administrative advantages associated with linking the Scottish local income tax to the UK income tax personal allowances formed the main focus of these qualitative responses. The consensus of opinion amongst these organisations was that aligning the 2 personal allowance rates:

• would minimise the administrative burden on employers;
• would allow for easier tax collections;
• would be consistent and easier to implement;
• would be better understood and accepted by the public.

3.10 The following quotes represent typical responses from organisations:

"On the assumption that collection by HMRC is likely, the administrative advantages of having the same Scottish local income tax personal allowance as the UK personal tax allowance will mean easier collections through PAYE and self assessment".

(local government organisation)

"From a practical point of view they should be the same. This would provide consistency and ease of implementation to the operation and administration of employer's payroll systems."

(local government)

"There is no evidence to suggest any advantages to altering the local income tax personal allowance from that used by HMRC; indeed having the same allowance would probably be better understood and accepted by the public."

(local government)

3.11 In addition, one political and one local government organisation indicated that no case had been presented in the consultation document to suggest any advantages of having different personal allowances for local income tax.

Concerns

3.12 A small number of organisations expressed their concerns in relation to proposals for local income tax and personal allowances. One local government organisation noted that "the interplay between the two [local income tax personal allowance and UK income tax personal allowance] would require careful consideration and more detail would be required before a judgement could be made on the appropriate level of allowance at a local income tax rate."

3.13 Another local government organisation suggested "the demerit of such an approach would appear to be that control of the allowance levels falls out of the hands of local authorities and also lies beyond the control of the Scottish Parliament." A political organisation also expressed their concern about aligning the personal allowances and the impact this may have on a Scottish local income tax:

"By aligning the UK personal allowance and local income tax allowance, there is a risk that the revenue raised by LIT could be affected by actions of the UK Government. The personal allowance is typically indexed in line with inflation. Where earnings growth is faster than inflation, that should lead to a real terms increase in tax yield. Failure to index the Personal Allowance, or uprating by less than inflation, could have the same effect. Increases to the UK personal allowance would therefore lead to a reduction in LIT revenue which would need to be met from within existing Scottish Government or Local Authority resources."

3.14 Four organisations (2 local government and 2 from tax, pay or finance) considered the implications of the local income tax allowance being set at a different level to the national taxation system and noted the complexity and confusion of having a 2-tier system of tax allowance codes. One tax, pay or finance organisation was concerned that:

"Any change to the current allowances will result in the aim of a fairer tax system not being achieved."

3.15 Two local government organisations discussed the consequence of having a higher or lower personal allowance. One felt a higher personal allowance "could have a disincentive effect on those workers paying more and a lower personal allowance would adversely affect the lowest paid". The other echoed this view and also added "Increasing the allowance could encourage people into work but would reduce the tax yield."

Higher allowances for specific groups

3.16 A range of organisation types made specific reference to personal allowances in relation to:

• students;
• people aged 65 and over;
• visually impaired;
• families receiving tax credits.

3.17 In relation to students, one student organisation and one from local government were of the opinion that students should not be made to be financially worse off as a result of the implementation of local income tax. The student organisation stressed:

"If students do become liable to pay the local income tax then they should have a personal allowance of £7,000 or more. £7,000 is the UK poverty line and [this organisation ] is committed to ensuring all students have a minimum income above this figure to enable them to focus on their studies rather than on staying out of financial hardship. This personal allowance would ensure that the adverse impact of the local income tax on the poorest students would be minimised."

3.18 In relation to age related personal allowances one tax, pay or finance organisation noted consideration needs to be given to the higher (65 and over) personal allowance. One equality organisation welcomed the local income tax personal allowance staying the same as the UK personal allowance, as "the higher income tax personal allowance for people aged 65 and over would apply, which would ensure that the poorest would not have to pay any local income tax."

3.19 A tax, pay or finance organisation was of the opinion that "further information is required about whether the proposal will extend to all the personal allowances within the current income tax system and not just the basic personal allowance, for example blind personal allowance and age related personal allowance."

3.20 In addition, one tax, pay or finance organisation suggested the Scottish Government may wish to consider the impact of its proposals on Scottish families receiving tax credits.

TAXATION RATE

3.21 The Scottish Government proposes that people pay 3% in local income tax on all their income (except income from savings and investments) on top of the rate set by the UK Government. Question 2 in the consultation document asked respondents for their views on the proposed rate.

Chart 3.2
Question 2 -Do you think a flat rate of 3% is too high, too low or about right?

Base: Individuals (418)

Individual responses

3.22 As can be seen in chart 3.2, almost half (49%) of individual respondents felt that a rate of 3% was 'about right'; just over a quarter (26%) thought it too high and 10% felt a 3p rate would be too low. Sixteen percent did not know or did not reply. Again, there were differences of opinion amongst different age ranges with those under 55 most likely to comment that the rate is too high. Thirty-eight percent of 18 to 34 year olds felt the rate was too high as did:

• 40% of 35-44 year olds;
• 45% of 45 to 54 year olds;
• 8% of those aged 55 to 64;
• 3% of those aged 65 and over.

3.23 Looking at the free-flowing individual responses, of the 7 who commented on the 3p tax rate, one felt that the rate was about right. The others felt the rate was too low and gave a variety of reasons including:

• the 3p rate would not yield the same amount as currently collected in council tax;
• the Local Government Finance Review Committee's final report indicated that council tax benefit would end with the abolition of council tax and so there would be a shortfall;
• the basis for the 3p rate had not been proved;
• the 3p rate could lead to funding cuts in poorer areas;
• the rate would need to be set at 5p to generate the same amount as is currently collected through council tax.

Organisational responses

3.24 Sixteen organisations gave a direct answer to question 2 "Do you think a flat rate of 3% is too high, too low or about right". Eight organisations (5 from local government, 2 from tax, pay or finance and one 'other') felt it was too low while 7 (one local government, one tax, pay or finance and 5 'other') said it was about right. One, from the 'other' category, felt that the rate was too high.

3.25 Looking at the free-flowing responses, the main theme to emerge was that a 3% rate would result in a shortfall or funding gap (e.g. that the yield from local income tax would be lower than is currently produced through council tax). This theme was noted in 30 responses including 15 local government organisations, 6 tax, pay or finance organisations, 4 political, 3 retail/ business, one representative group and one trade union, and comments included:

"We believe that a 3% rate may only be marginally enough and on a worst case scenario inadequate to match the current sums raised by council tax."

(tax, pay or finance organisation)

"Current estimates demonstrate that there will be a significant shortfall between what is currently raised through council tax and what could be raised by a 3% local income tax. The Scottish Government has estimated a funding gap of £281m plus a further £429m if existing DWP¹ subsidy for Council Tax Benefit is lost."

(local government organisation)

"The funding gap is made up of three elements (1) The shortfall between a 3% local income tax levy and what is currently raised through council tax (2) the potential loss of the Department [for] Work and Pensions subsidy and (3) the amount required to sustain council tax freeze for three years."

(political organisation)

3.26 Before discussing this finding and other emerging themes in more detail, a number of points should be borne in mind. Firstly, when discussing the 'shortfall' or 'funding gap' different organisations:

• have used different methods to work out figures;
• may or may not have included the £400m council tax benefit in their figures;
• have quoted figures from a variety of sources:
• • Local Government Finance Review Committee;
  • Office of Chief Economic Adviser;
  • The Chartered Institute of Public Finance and Accountancy
  • Institute for Fiscal Studies;
  • Lyons Inquiry;
  • HM Treasury;
  • Scottish Executive;
  • Scottish Government Chief Economic Advisor;
  • The Scottish Parliament Information Centre;
  • Herald newspaper;
  • Scotsman newspaper.

3.27 A small number of organisations (6) suggested that a higher rate should be implemented in order to avoid the funding gap and maintain funding of services. These figures ranged from between 4.5%-6.5% and one source of reference used by organisations was the report headed 'A Fairer Way' by the Local Government Finance Review Committee also known as the 'Burt Report'.

Council tax benefit

3.28 Many of the organisations, who supplied a response to question 2, discussed the proposal that monies equivalent to council tax benefit continue to be provided by the UK Government (equating to approximately £400m annually). This consisted of 9 local government organisations, 2 political, 2 retail/ business, one representative group, one tax, pay or finance organisation and one trade union). In the context of setting a flat rate of 3% one local government organisation and one trade union noted:

"The rate will depend on the Scottish Governments' other arrangements for funding public services. The local income tax will raise approximately £280m less than council tax on introduction in 2011/12 provided that the £400m currently paid as Council Tax Benefit continues to be paid to Scotland."

(local government organisation)

"By common consent, the local income tax based upon 3p rate would be a complete impossibility were the Scottish Government unable to secure agreement from the UK Treasury that the £400m in Council Tax Benefit be retained in Scotland."

(trade union)

3.29 The provision of council tax benefit will be discussed in more detail as part of question 19 in chapter 9.

Funding and public services

3.30 Eight local government organisations, 2 trade unions and one political organisation expressed their concern that the shortfall in funding would have an adverse impact on public services and result in service cuts. The delivery of high quality services was considered a high priority:

"It would be of concern if in the proposals being taken forward there was a reduction in the level of financial support for public services. Clarification is required as to what extent public expenditure would require to be reduced to accommodate the reduced tax burden."

(local government organisation)

"This plan leaves a minimum of £280 million shortfall in local government funding. The proposal would lead to extensive cuts in services and jobs in local government."

(trade union)

3.31 Three organisations (2 from local government and one political) maintained that the shortfall will have to be funded from within the 'Scottish Block'; the block of resources distributed between Scottish programmes by the Secretary of State for Scotland; although these organisations did appreciate there will have to be a corresponding reduction in some areas of public expenditure.

Variable tax rate

3.32 Six organisations discussed the necessity for a variable tax rate. Three local government organisations were of the opinion that a fixed rate would remove the flexibility which would be required if there was a significant change in tax yield. One representative group stated "The legislation should be flexible enough to permit variations as and when required or desired". A different local government response suggested "the level of tax will have to be set year on year at a level which will bring in the amount of revenue required."

3.33 Seven organisations, comprising 5 local government, one retail/ business and one trade union, considered Scotland's changing demographics and how this may affect local income tax revenue. Organisations referred to statistics as identified in the Burt Report which predict that Scotland's working age population is due to decline by 15% by the year 2040. These organisations felt that the impact of these demographic changes have not been taken into account. One trade union noted:

"The shortfall will be exacerbated when Scotland's working age population as predicted falls by 15% by 2040. Moving the financial burden of local government onto a shrinking tax base is very short sighted."

3.34 One local government organisation said that the changing demographics of the Scottish population essentially "means that the smaller number of working age population is financing the entirety of the local taxation system."

Economic factors

3.35 The economy and how a downturn in the economy could affect local income tax yield was also discussed by 6 organisations (5 local government and one tax, pay or finance organisation). On the whole these organisations were concerned that if there was a downturn in the Scottish economy and if unemployment increased, there would be a lower tax yield.

3.36 One local government organisation noted:

"Unlike council tax there would be no benefit scheme to make up the shortfall. This shortfall would require to be funded by the Scottish Government".

3.37 Two other local government organisations were of the view that "If there was a downturn in the economy leading to lower earnings, the yield would not be sufficient and the Scottish Government would have to consider increasing the yield to compensate for the funding shortfall".

Need for more detail

3.38 Seventeen organisations (10 local government, 3 retail/ business, 2 tax, pay or finance, one political, one trade union) were in agreement that the consultation paper does not contain sufficient information to allow stakeholders to "properly" consider this question. There were 3 areas in particular in which organisations felt the consultation should have provided more detail:

• estimates of the amount of receipts expected to be raised by local income tax;
• accurate figures/ estimates for the projected shortfall in funding between the current council tax yield and that projected under the 3% rate;
• how the shortfall will be addressed if the UK Government does not provide the Council Tax Rebate.

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