Even Lib Dems know higher personal allowance doesn’t help lowest paid

It comes as no surprise that the Chancellor is set to announce yet another inflation-busting increase in the Personal Allowance in the Budget. This has been core Coalition policy, driven by the Liberal Democrat’s desire to show that deficit reduction can be tempered by extra support for the lowest paid. From the start, it’s been obvious that this strategy is not well-targeted on the lowest paid but in fact delivers a tax cut for people earning right up to £100,000. But several years in, it is now clear this approach has completely run out of steam – and a growing number of Liberal Democrats are waking up to this reality.

The Personal Allowance is due to rise to £10,000 this April, which is about £2,545 higher than if it had just risen in line with prices. This is equivalent to a £509 tax cut for all basic rate taxpayers, at a cost of £10.7 billion (higher rate taxpayers have benefited too, contrary to some of the commentary this week). As the Institute for Fiscal Studies says, this is “a substantial tax cut at any time, and even more so in an era of severe fiscal restraint”. Senior Liberal Democrats have said they want the allowance to rise to £12,500. But at the same time, targeted support for low earners in the tax credit system has been cut back, more than outweighing the benefits of a higher personal allowance for many low earning families.

The Coalition argues they have taken 2 million low earners out of income tax altogether, providing a much needed boost to their take-home pay (although less so when combined with cuts to working tax credits). But those 2 million low earners can’t now benefit from any further increases in the personal allowance. In total, 4.6 million workers (roughly 17 per cent of the total) now pay no income tax, so won’t benefit from any future rise. Many are part-time workers, where median pay is just £8,901 a year, already below the personal allowance. Increasingly, the gains are going to better-off families and bypassing the low paid altogether.

Yet the Chancellor looks set to announce another big increase in the allowance tomorrow pushing it up to £10,500 in April next year (rather than £10,220 if it rose with prices). This would create a tax cut of £56 a year for basic rate taxpayers, and may also cut income tax for higher rate taxpayers depending on how the higher rate threshold is adjusted. Families where everyone earns less than £10,000 would get nothing but couples where both partners earn more than £10,500 would gain £112 a year. This would be at a cost of about £1.4 billion, which arguably could be better spent on policies that will actually reach the low paid.

Media reports suggest this is becoming clear to some Liberal Democrats, who are increasingly concerned about the ‘bang for buck’ their flagship policy is delivering for lower earners. Even the business department now says that, in future, increases in wages will be more important for raising incomes among low earners than increasing the personal allowance. This will become even more important as Universal Credit is rolled out, since low earners receiving the new benefit will see two thirds of the value of any increase in the personal allowance clawed back in lost benefit.

After four years of inflation-busting increases in the personal allowance, now is a good time for the Liberal Democrats to reflect on how this policy evolves in future. They can rightly claim credit for a popular policy associated in the public’s mind with supporting low earners. But Liberal Democrats who care about helping the low paid will see that this strategy is running out of steam. There would be no shame in moving onto other priorities that stand a better chance of delivering for Britain’s low to middle earners. Continuing to fight for more investment in childcare and helping to sort out the mess of Universal Credit would be good places to start.

Kayte Lawton leads IPPR’s Condition of Britain programme