We will see lots of smoke and mirrors this afternoon in the pre-budget report.
We have already heard about the VAT yo-yo and we can expect to see the Prime Minister (for he is still the Chancellor in all but name) pushing more people into state dependence by taking too much tax off them and then asking them to reclaim it through his pernicious tax credit system. Just so you know the claim forms are 12 pages long with a 36 page how to guide to help you fill it in. With tax credits you need to constantly update the state on your circumstances so that they give you the right portion of your own money back.
One thing we should all watch carefully is allowances and thresholds. As you can see from the table below the Labour administration has played reasonably fairly with the personal allowance. Don’t forget though that incomes typically rise faster than RPI so we are still out of pocket. In 9 out of 11 budgets the personal allowance has been uprated with RPI although they decided to take a holiday in 2003/4. The allowance shot up last year as a result of the 10% rate/basic rate change. By rights we should expect the personal allowance to go up by 5% or £302 next year.
The threshold at which you pay high rate tax has again been uprated in line with RPI most years except for last year when the government took a bit of a holiday. The threshold should have increased last year by an extra £550 by rights. If the government plays fair this year they should add £1,770 to it this this afternoon.
The Treasury will be sorely tempted to use what is termed fiscal drag to finance some of their changes today. RPI peaked in July and September this year at 5% the highest it has been since July 1991. No doubt they will try to argue that inflation has blipped up and they don’t need to make the full uprating.
This report from the Joseph Rowntree foundation has some useful charts in it to illustrate fiscal drag. The first shows how RPI has lagged earnings in recent history. The second shows the erosion of tax allowances and thresholds that this lag causes.