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Tax rises will wipe out wage inflation

Salaries are rising at the fastest rate in 24 years, but wage inflation could lead to millions being less well-off as tax burden grows.

 

The tax advisory firm warned that wages are increasing as a result of inflation reflecting that the cost of goods and services is going up but that higher salaries does not mean that individuals will have the income to cover the cost of price rises.

The firm warns that the increasing earnings could move them into a higher bracket of tax or could mean that they may lose other income support which means that their net pay does not increase proportionately to the greater cost of living.

Chancellor Rishi Sunak announced in the Spring Budget that the personal tax allowance and higher rate threshold would be frozen from April 2022 to April 2026 which means that over 1m people were estimated at the time to start paying tax.

Blick Rothenberg states that the wage inflation will only increase this number further.

However, the impact will increase tax receipts and lower benefit payments for the government as benefit thresholds do not keep pace with wage inflation. It will also lower the value of government debt as inflation rates increase the numeric value of the pound sterling relative to the cost of borrowing.

David Hough, a partner at the firm said: ‘The government has a vision for a high-wage economy, but many people could end up worse off.

‘In principle it sounds fantastic that wages are going up and the perception that reliance on the state is coming down, but inflation will drive up the cost of living and individuals will find that they are worse off unless thresholds for paying taxes or receiving income support are adjusted; accordingly, it lowers the value of government debt.’

For year end 31 March 2021, net borrowing was 14.5% of GDP according to the Office of National Statistics and inflation rates have been creeping upwards over the summer reaching 3.2% in August.

Blick Rothenberg observed that the government now appears tempted to allow inflation to run above its monetary policy of 2%.

Over the last few months, there has been issues with supply chains which has led to an increase in the cost of raw materials and transportation.

Hough added: ‘The problem with inflation is that once prices start to increase more rapidly it can become hard to control them, especially where demand is exceeding supply and the ramifications of Brexit and Covid-19, mean that is the case in areas such as transportation.

‘The Bank of England could increase interest rates if it were worried that inflation was getting out of hand. However, doing so puts significant pressure on homeowners and businesses of which many are suffering the from the impact of Covid-19 and the financial burden of higher interest rates could be too much to handle.’

Small businesses will be significantly affected by the inflation of wages as the government tries to reduce the reliance on low pay through immigration with businesses paying more to recruit locally.

Businesses are also experiencing a higher rate of vacancies with the number hitting 1.1m between July and September this year which is the highest level since records began 20 years ago and could cause businesses to inflate wages even further in order to gain staff.

Blick Rothenberg warns that the combination of inflating wages, the health and social care levy, and the increasing corporation tax and dividend rates, and the issues with supply chains means that businesses have little choice but to charge more to their customers in order to remain profitable.

Hough states that the Chancellor needs to ‘urgently’ protect the net income of individuals by ensuring that they are not significantly worse off from inflation on the one side, and tax rises on the other.

Hough concluded: ‘The rebound of the economy and success of small businesses requires individuals to have the confidence to spend.’ 

 

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