Self Employed N.I. and Pensions U-Turn Highlights Need For Reform

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Self Employed N.I. and Pensions U-Turn Highlights Need For Reform

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By Trevor Clawson.

You could see it as a tale of two Chancellors. One pledging a £400m tax windfall for Britain’s three million strong army of self-employed workers, the other heartlessly announcing a U-turn on the same policy.

And in some quarters at least, that’s how Chancellor Philip Hammond’s decision to reverse a scheduled cut in National Insurance Contributions paid by the self-employed has been received – as a betrayal of a promise and an attack on ‘ the white van man’. The truth – at least as the Treasury explains it –  is that an overly complex National Insurance system has proved difficult to reform.  Critics say something much simpler is needed to ensure fair taxation and access to pension rights.  

When is a Saving Not a Saving?

Back in 2016,  George Osborne announced a plan to scrap the  Class 2 National Insurance Contributions (NICs) paid by self-employed people, a move that would – when implemented – have saved the beneficiaries around £138 a year. Fast forward to September 2018, and Osborne’s successor Philip Hammond has jettisoned the proposed change, saying that it would not be fair to those generating self-employment profits of £6,000 or less.

On the face of it, this shouldn’t be a surprise. During his time as Chancellor, Mr Hammond has repeatedly stressed his commitment to prudent management of the public finances. What’s more, the Chancellor has in the past indicated his belief that the self-employed do not pay enough tax. You might therefore reasonably assume that a tax giveaway costing the Treasury around £400m was not a policy he felt inclined to pursue. Hence the u-turn.

But as the Treasury tells it, rather than being a money-saving exercise, the decision to throw George Osborne’s policy into reverse was taken to prevent self-employed people on low incomes from facing much larger tax bills to secure their state pensions.

Protecting Low Earners

Indeed, Robert Jenrick, the Treasury Minister who announced the news was at pains to stress that pressing ahead with the tax cut would have actually resulted in around 300,000 people paying substantially more to ensure their entitlement to a state pension.

“A significant number of self-employed individuals on the lowest profits would have seen the voluntary payment they make to maintain access to the state pension rise substantially,” he said.  “Having listened to those likely to be affected by this change we have concluded that it would not be right to proceed during this parliament, given the negative impacts it could have on some of the lowest earning in our society.”

Not everyone is in agreement. Labour’s Shadow Chancellor John McDonnell described the decision as a betrayal.

“These people are the engine of the economy and they have been let down again, while giant corporations have seen their tax bills slashed,” he said.

And perhaps more worryingly for the government, from outside the world of Westminster politics, the Federation of Small Businesses has also expressed concern.

“The self-employed community has been let down today,” said FSB National Chairman Mike Cherry. “This raises serious questions once again about how committed the government is to the self-employed.”

The Complicated Road to a Pension

Self Employed N.I. and Pensions U-Turn Highlights Need For Reform

So who is right?  As things stand, Self Employed people pay two classes of National Insurance Contributions or NICs. Class 2 is a fixed charge of £2.95 a week, levied on anyone making profits of more than £6,025 a year. Class 4, on the other hand, is levied as a percentage ((9% to be precise) on profits from £8,424 to £46,350. Any earnings above the £46,350 Threshold attract a National Insurance charge of 2%.

George Osborne’s plan was to simplify the system by knocking out Class 2, but according to the Treasury, the change would have created winners and losers.

This is why. Under the Osborne plan, those earning between £6.025 and £8.424 would have no national insurance charges to pay but would have been automatically credited for paying into the state pension system. However, those earning less than £6,000 who at the moment can opt to make a voluntary payment towards their pensions through yet another arcane component of National Insurance system in the shape of Class 3 contributions. The changes would have seen that contribution rising from £2.85 a week ( the level of the Class 2 contribution) to more than £14 a week. It was this group that the Treasury said it was seeking to protect.

What all this points to is not only the complexity of the National Insurance system but also the uncomfortable truth that some of the most vulnerable people in our society  – in this case, those who work for themselves but earn only a small income – may not be entitled to a full or even partial state pension, unless they make voluntary contributions. Many people may not even be aware that making those contributions is an option.

Calls for Reform

And according to the Low Income Tax Reform Group (LITGR) – a body set up to lobby for improved tax policies – a thorough review of the National Insurance system is required, particularly in the light of the government’s difficulties in finding a way to implement the Class 2 cut.  LITRG is calling for a much simpler system.

“Public understanding of NI is low as is evidenced by the LITRG websites. We receive many queries about it and we do need to keep looking for ways to make it much simpler to manage,” said Anne Fairpo, chair of Group.

As the LITRG goes on to point out, the National Insurance system is under pressure as self-employment grows in the economy. Employees covered by the  Pay as You Earn system pay roughly the same amount of tax and National Insurance as the self-employed. However, employers also make their own National Insurance contributions for each member of staff. Thus the tax take from the self-employed is lower as there isn’t an employer contribution. It was this mismatch that prompted Chancellor Hammond to attempt to raise self-employed National Insurance by 1.0% last year. The fact that he backed down in the face of heavy criticism, means that the issue of how people who work for themselves should be taxed remains a live issue.

Commenting, Anne Fairpo said the LITRG would like to see a radical shake-up.

“We would like to see the whole system of national insurance reconsidered rather than tinkering and piecemeal changes. This is especially important given the ever-increasing numbers of self-employed workers,” she said.

The self-employed represent something of an iconic group within British society, so any reform of the way that they are taxed will always be controversial. It remains to be seen if the government will grasp the nettle of shaking up the current tax and National Insurance regimes.

By | 2018-09-12T13:49:35+00:00 September 12th, 2018|Business, Personal Finance, Politics|Comments Off on Self Employed N.I. and Pensions U-Turn Highlights Need For Reform

About the Author:

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Trevor is a UK-based business journalist and author, specialising in startups, tech companies and fast growth businesses. His career in journalism began as Business Editor of BBC World television's pan-European text news services. From there he went on to edit e.Business and PLC Director magazines before going freelance. He is the author of three books, including The Unauthorized Guide to Business the Jamie Oliver Way, which has been translated into five languages. Follow Trevor on Twitter @trevorclawson