Millions of low earners set to be worse off after the budget

The centrepiece of Jeremy Hunt’s Spring Budget was the 2% cut in National Insurance.

At first glance this will leave 28 million workers better off with more cash left in their wallets at the end of the month. However, dig a little deeper and the affect could be less than positive.

The chancellor’s decision to keep the income tax thresholds – the amount you can earn before you start paying tax and National Insurance or a higher rate – frozen, could wipe out any saving from the cut to National Insurance.

This means that millions more people will end up either paying tax for the first time or will pay more on the money they earn as their salaries increase to keep up with wage growth and inflation.

The tax bands have not increased since April 2021. However, during that period wages have continued to grow, with reports suggesting pay will increase by a further 4.4% in 2024.

Workers earning less than £12,570 currently don’t pay any tax. Anything they earn over this amount is taxed at 20% up to £50,270.

However, the Office for Budget Responsibility believes that if the tax bands were increased inline with inflation, workers would be able to earn up to £15,220 without being taxed. This would be worth an extra £2,650 a year to the lowest paid workers in the country.

Also affected by fiscal drag are high earners. The only winners are those who earn between £32,000 and £55,000, or more than £131,000 whose contributions will remain the same.  

In essence - for low earners - the chancellor has given with one hand and taken with the other.

What is fiscal drag?

Fiscal drag is where inflation and earnings growth push more workers into paying tax or into higher tax brackets. Put simply, it is a way to generate more money for the country.

Fiscal drag happens when tax thresholds don’t increase with rising wages.

According to the Office for National Statistics (ONS), wage growth is currently 6.2%.

So, by keeping the freeze on income tax thresholds yesterday, millions more workers on low incomes will have to start paying tax on their earnings when their pay increases. And a similar number again will pay the higher rate.

What are the personal tax allowances?

Workers earning under £12,570 pay no tax. Anything they earn over this up to £50,270 is taxed at a basic rate of 20%. Those earning between £50,271 and £150,000 are charged a higher rate of tax at 40%, and there’s a 45% charge for anyone with a salary above £150,000.

How can I avoid fiscal drag?

If you are on a low income, the only real way you can avoid fiscal drag is by reducing your hours, so you earn less keeping you just below the threshold.

There are more options for higher earners, such as paying more into their pensions, claiming all your expenses if you are self-employed, offsetting your salary through the marriage allowance or by giving money to charity.