The Office for Tax Simplification (OTS) has been looking in detail at whether income tax and National Insurance (NI) could become more closely aligned. With further reviews proposed, it looks as if the government is keen to progress this issue.
Differences between income tax and National Insurance Contributions (NICs) have been identified as one of the top causes of complexity for small businesses, so closer alignment of the two is likely to be welcomed by businesses.
The issues identified with the current system are that:
• it no longer supports the UK’s flexible workforce and reward model or its diverse business structures
• its inherent complexity is not well understood by employers or individuals
• two individuals with the same gross income which is constituted differently can have different NICs outcomes and possibly be entitled to different benefits.
In its report of March 2016, the OTS made seven recommendations to achieve closer alignment. The government has asked for further reviews on the following two recommendations:
1. Moving to an annual, cumulative and aggregated (ACA) assessment period for employees’ NICs on employment income (similar to PAYE for income tax).
The current calculation basis for NICs can create distortions as shown below:
For an employee who in 2016/17 has three unconnected jobs, paid monthly, each earning £5,000 per annum, there would be no National Insurance due as the earnings are below the threshold. In contrast, an employee earning £15,000 from one job paid monthly would pay £832 NICs for the year. Moving to an ACA based system should resolve this issue.
2. Basing employer NICs on whole payroll costs. Despite being calculated by reference to employees’ pay, employer NICs do not impact on the contributory benefit entitlements of employees. The OTS proposal is to break the link of employer NICs with the calculation of individual employees’ NICs and base the calculation of employers’ liabilities on total payroll costs.
A flat rate tax on total costs would be simple to calculate and an ‘employment allowance’ could remove many employers from any liability to the tax. For example, a flat rate of 11.5% and an employer allowance of £115,000 would leave only 40,000 employers with a liability and raise the same revenue as at present.
The report on the two reviews is planned to be finalised before the Autumn Statement. This will set out who might pay less and who might pay more (the ‘gainers and losers’), and the benefits and challenges of each system including implementation and transitional issues.
Many employers and employees will be looking forward to some much needed simplification of the tax system.
We will be keeping a close eye on the system and advise clients on any changes as they occur. For advice on income tax, NICs or other payroll matters, please contact one of our offices or enquire online.