Rachel Reeves is under pressure to break Labour’s manifesto pledge with a tax raid on the highest earners amid growing calls from within Labour to hit the wealthy.
Ministerial sources have told The Independent that changes to the top rate of income tax have been discussed within government as the chancellor looks to find ways to fill a Budget black hole estimated to be between £30bn and £40bn.
The changes would exceed the 1p increase to income tax that Ms Reeves is also understood to be considering.
One source said: “The 45p rate is definitely in play. It would be a popular move within the party.”
The 45p rate is applied at a rate of 45 per cent on income above £125,140, and is expected to be paid by more than 1.2 million people by the end of the year.
The move would break the manifesto pledge to not increase income tax, VAT or employee contributions on national insurance.
However, another source said: “Rachel is in a fix. If we are going to break this manifesto pledge but it was targeted at the highest earners, then I think that would be understandable.”
Speculation that the government is ready to drop its manifesto pledge was heightened earlier this month when the PM’s spokesperson hinted that the manifesto pledge on not raising income tax may not hold.
When asked if income tax, VAT or national insurance could rise in the Budget, the PM’s spokesperson said: “I’m not going to speculate on the Budget but as the chancellor said today, the numbers will always add up.”
However, after claims in The Guardian that the manifesto pledge could be broken generally, Cabinet Office minister Nick Thomas-Symonds insisted on Friday that the manifesto pledge still stands.
But according to sources, changes could involve an increase to the 45p rate, or a lowering of the threshold where it kicks in from £125,140 to around £100,000.
This would impact the so-called HENRYs – high earners but not rich yet – who are already hit by the tax and benefits system.
At £100,000 of earnings, benefits like support for child care are lost. Added to that there is a gradual reduction in the £12,570 personal allowance of income tax-free earnings from £100,000 by £1 in every £2 to £125,140, where it is lost altogether when the 45p rate kicks in.
Some reduce their earnings by putting money into pension funds to bring them under the thresholds where the tax and benefit penalties apply, but Ms Reeves is also understood to be looking at closing this loophole as well.
The Independent revealed this month that the cabinet is already split over the Budget, with disagreement over “taxes on aspiration” including VAT on private school fees and the abolition of non-dom status, with millionaires leaving the UK in record numbers.
One cabinet minister told The Independent: “We do not get enough of a say on tax. Discussion has been very limited and kept to the Treasury but there needs to be an opportunity for more input.”
It is understood that there are “serious concerns” about Ms Reeves trying to fill the budget gap with “a basket of taxes” rather than “grasping the nettle” by increasing income tax, while other ministers want to see reductions in spending, especially on welfare.
Meanwhile, pressure from the left of the party for Ms Reeves to go after the rich and big corporations has been ramped up with the election of sacked left-wing cabinet minister Lucy Powell as deputy leader by Labour members.
But experts have warned that making changes to the top rate of income tax would not raise as much as some in Labour hope.
Isaac Delestre, senior research economist at the Institute for Fiscal Studies (IFS), said: “A 1p increase in the additional rate gets you about £200m, which is not an enormous amount.”
He also warned that the gradual reduction in the initial income tax-free personal allowance of £12,570 is already causing problems, which would be made worse.
“Reducing the threshold at which it starts to apply is a bit more problematic. Currently the tapering away of the personal allowance effectively creates a 60 per cent income tax rate for income between £100k and £125k.
“If you just reduced the additional rate threshold to, say, £110k you would end up with a 40 per cent rate up to £100k, a 60 per cent rate up to £110k, a 67.5 per cent rate up to £125k, and then a 45 per cent rate beyond that.”
Professor Stephen Millard, deputy director for macroeconomics at the National Institute of Economic and Social Research (NIESR), said: “According to the government’s calculations, a 5p rise in the 45p top rate would only raise around £1bn by 2029-30.
“Decreasing all main allowances, starting and basic rate limits by 1 per cent would raise almost £2 billion.”
Tax expert Dan Niedle was also sceptical about the impact of the move.
He said: “The 45p rate is right at the point where diminishing returns are setting in. Nobody was ever really able to determine whether the old 50p rate raised a bit of money or lost a bit of money.”
He warned that the loss of personal allowance was creating very high tax rates of more than 60 per cent when people hit certain income levels and warned that the chancellor should focus more on dealing with that problem.
“The real value would be in dealing with the anomalously high rates between £100,000 and £125,000 of 62 per cent plus,” he said.
The chancellor had to deny claims she was looking at hiking VAT during the Labour Party conference at the end of last month.
However, she is also understood to be looking at a gambling tax and changes to capital gains taxes. Labour MPs are also piling on pressure for her to look at wealth taxes on property and other assets.
The chancellor has been hit by poor growth and higher than expected inflation in the run up to the crucial Budget on 26 November.
Asked about potential changes to income tax for the highest earners, a Treasury spokesperson said: “The chancellor has been clear that at Budget she will strike the right balance between making sure that we have enough money to fund our public services, whilst also ensuring that we can bring growth and investment to businesses.”
