A little history: less than 80 years ago, in 1938-39, there were only 3.8 million income taxpayers. This was clearly not enough for a nation on the brink of World War 2 and by 1948-49 (statistics were only collected every 10 years in those days) the number had almost quadrupled to 14.5 million, or around 29% of the UK population (estimates are approximate as there was no census in 1948). Today, there are around 30 million taxpayers, or around 47% of the UK population which, even allowing for the 16-17% uplift in the number of taxpayers caused by the move to individual taxation (rather than counting married couples as a single tax individual as previously), represents nearly a 40% increase in the proportion of the population paying tax since the late forties.

The latest Her Majesty’s Revenue and Customs (HMRC) release on income tax paid by percentile of taxpayers has been seized on by others in the continuing political battle over a future 50% tax rate, but I want to focus instead on one of the other political slogans thrown around in the last few years: the Oxford English Dictionary’s word of the year for 2011 (despite the fact that it is two words) the Squeezed Middle. That the middle has been squeezed is not in doubt, as the graphs below will show. But is this a failure of the income tax system? I think the data suggest otherwise.

First of all, if we look at the proportion of earnings subject to income tax that are paid as tax, they are probably a lot lower than you would think. Obviously this does not include national insurance contributions or Council Tax, both of which are considerably more regressive, but as you can see the percentage did not get above 15% until the top 30% of taxpayers in 1999-00 and the top 12% in 2011-12, with the proportion reducing for everyone below the top 10% of taxpayers until you get to the more complicated interaction between tax and benefits for the bottom 15%. The Squeezed Middle has not been squeezed by the tax man.

percentage tax

We need to be a little careful here, as there has been an effort to move people out of tax through increases to the tax threshold above inflation between 1999-00 and 2011-12. However the percentage of the population paying income tax resulting from this has hardly moved (if anything, it has increased slightly since 1999-00 when it was around 46%), so although the comparison may be approximate, in my view it should still broadly hold.

But the Middle has been squeezed, as the following graph (of earnings in excess of consumer price inflation (CPI) by percentile) shows:

real earnings

Yet even here, the impact of tax has reduced the depth of the squeeze. At the top end, the top 1% do not on average appear to have seen the sort of runaway increases in earnings seen in the United States. To see what has happened at the lowest point of the smile, the median point where exactly 50% of taxpayers earn more and 50% earn less, we can track the median earnings in 1999-00 terms (adjusting for the increase in CPI since then) up to 2011-12 as follows:

median real earnings

It is clear that the squeeze has been an entirely post 2008 crash phenomenon, with real incomes increasing quite reasonably until then. Interestingly, the tax burden as a percentage of income had already started to fall before the crash, with the process accelerating since then.

The Government’s proposal to target a budget surplus by the 2018-19 tax year, to be achieved by spending cuts rather than tax rises, means that this tax burden is unlikely to change if the Conservatives or a coalition they dominate win the next election, according to the Institute of Fiscal Studies, with 60% of cuts in public spending still to come. Labour have also committed to a budget surplus by the end of the next parliament, with a 50% tax rate reintroduced, but only to the top 1% of taxpayers and offset by a reduction in the starting rate for everyone to 10%. So whoever wins the Middle appear to be safe from an increase in income tax at least.

Both parties appear to be depending on increases to incomes (and/or possibly spending unsupported by incomes which could generate more VAT revenues) amongst the Middle so that unincreased tax rates can still meet the gap between their spending plans and the tax take elsewhere. So let’s all hope that the Squeezed Middle start getting paid properly soon.

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