In a recent decision, the Chancellor has effectively altered the financial future of many earners by announcing a freeze on income tax thresholds for another three years. Although there is no immediate increase in the headline rate of income tax, this move can lead to higher tax bills, particularly hitting individuals making sufficient income. Many may not realize the impact immediately since it does not appear overtly on their payslips, which is why this tactic is often referred to as a “stealth tax.”
To understand the implications of this threshold freeze, it’s important to recognize how tax thresholds work. The threshold is the level of income at which individuals begin paying tax and where they transition to a higher tax rate. By choosing to freeze these thresholds until 2028, the Chancellor has indirectly placed many taxpayers in a position where even modest income increases—such as a salary raise—may push them into higher tax brackets, significantly affecting their net income. In particular, for those whose earnings are just above the current threshold, this decision means that they will be taxed more heavily because their income will not increase alongside inflation, effectively diminishing their disposable income.
According to research from the Institute for Fiscal Studies (IFS), approximately one million people, who are currently outside the income tax brackets, are predicted to start paying taxes once their income exceeds the newly set threshold of £12,570. This situation also significantly affects pensioners and part-time workers. For instance, the basic state pension, presently just under £12,000, is anticipated to rise near this threshold in the upcoming year. Consequently, a part-time minimum-wage earner working 18 hours a week may also find themselves within the taxable range, and thus begin contributing to the tax system for the first time.
These tax threshold adjustments are not merely a localized issue; they apply across the UK. Even individuals residing in Scotland will feel these effects despite variations in their tax bands. Additionally, the freeze on thresholds for National Insurance contributions compounds these challenges, as individuals will also owe more in these areas on increased earnings.
As a result of these sustained freezes, the burden of taxation shifted from broad-based tax increases to more subtle tax increases through thresholds. Year-on-year wage growth typically aims to keep up with living costs, and under normal circumstances, tax thresholds would adjust accordingly to ensure fairness in take-home salaries. However, with threshold freezes, more portions of individuals’ income will be taxed as their wages rise over the years.
One key illustration of this is that a full-time minimum wage employee by the year 2030 could see an extra £137 annually deducted in taxes if thresholds remain frozen compared to a scenario where these thresholds were adjusted regularly for inflation. This scenario highlights not only the immediate tax consequences but also the longer-term erosion of take-home income.
Further complicating the landscape, the freezing of these thresholds means that many more taxpayers will reach the higher 40% tax bracket. For example, an individual earning £49,000 could find themselves earning £54,000 by 2031 due to inflation adjustments. As they cross the £50,271 threshold, more of their income could be taxed at this elevated rate, illustrating how progressive taxation can lead to increased burdens without explicit increases to tax rates.
Looking forward, while current policies indicate a resumption of threshold increases in 2031, billions of pounds have already been collected since the thresholds were first frozen in 2021, causing an unprecedented shift in tax burdens for everyday earners. By 2031, this continuous freeze could generate an estimated £56 billion to support essential public services like the NHS and social programs for vulnerable populations.
The implications of these changes are profound, affecting nearly one in four taxpayers, and they urge a reevaluation of how threshold adjustments can safeguard against continuous economic pressures without unduly burdening households.
