Tax system and benefits helps reduce UK inequality - IFS

A new study by the IFS found that the UK tax system helps reduce inequality but benefits are still doing much of the work in redistributing from rich to poor.

Funded by the Economic and Social Research Council the analysis contradicts the report published in 2018 by Office for National Statistics, which found that the tax system has a “negligible effect on income inequality”.

The report stated that the system of direct taxes (income tax, NICs and council tax) and benefits reduces inequality.

“Before redistribution the highest-income fifth of individuals on average have an income that is 12 times as large as that of the poorest fifth. After adding on cash benefits and deducting direct taxes this ratio falls to 5”.

Still, benefits are the heavy lifter in the fight against inequality. “While taxes are progressive, benefits are considerably more so. The poorest fifth receives 16 times more in benefits as a share of their net income than the highest-income fifth does,” revealed the report.

The analysis showed that 30% of individuals are in households that receive more in cash benefits than they pay in direct and indirect taxes. This is true of 27% of those in working-age households with children; 13% of those in working-age households without children; and 66% of those in households with at least one pensioner.

Furthermore the report explained that different taxes have different distributional effects. Regarding income tax, the highest income fifth pays about 4 times as much direct tax as a share of income as the poorest fifth and 20 times as much in cash terms.

On the other hand regarding council tax, the poorest tenth of the population pay 8% of their income in council tax, while the next 50% pay 4-5% and the richest 40% pay 2-3%.

Around 15% of people’s expenditure is accounted for by indirect tax (around two thirds of which is VAT), with little variation across rich and poor households.

Shadow chancellor, John McDonnell, commented on the findings and said the IFS’s evidence showed that the government was wrong to plan tax cuts.

McDonnell said: “The IFS has confirmed the importance of taxation and social security in creating a fairer society. We all benefit at different times of our lives from the system we pay into, but many are being pushed into poverty by low pay, sharply rising rents and brutal cuts to social security.

“With tax cuts already featuring in the Conservative leadership election campaign, it’s clear only Labour is serious about addressing the problems created by nine years of austerity.”