10 July 2023

How to make our tax system fairer for families

By Ranil Jayawardena & Tom Clougherty

When we think about how well-off people are, we do not tend to consider them as wholly atomised individuals. Instead, we look at their household circumstances. How much income does the family as a whole receive? How many adults and dependent children are there to clothe, house, and feed? A family’s standard of living does not just depend, after all, on how much the highest earner brings in (although this is obviously a factor) but rather on a broader view of that family’s income and unavoidable outgoings. Indeed, this is how government statistics on poverty and inequality work, and is the basis on which the welfare state operates.

Yet in almost every respect, the British tax system looks at things differently – basing how much tax someone should pay solely on their individual earnings, with no reference to the bigger picture. We mostly take this for granted today, but it is actually a fairly recent phenomenon – at least in its current, extreme form – dating back to the introduction of so-called ‘independent’ taxation in 1990. And, while not unique internationally, this approach certainly marks Britain as something of an outlier among its peers. Most OECD tax systems do significantly more for families, relative to individuals, than ours does.

Like so much of British public policy, the hyper-individualistic focus of the personal tax system does not reflect high principle or grand design, but rather an accident of history and short-term political expediency. The late Lord Lawson, who instigated the shift to ‘independent’ taxation in the 1980s, always intended that it be accompanied by transferable allowances to even out the impact on families. But his vision was compromised in its implementation, and then undermined by his successors.

There has recently been a flourishing of interest in family-friendly tax reform on the British right. Reports from Policy Exchange and Onward have made the case for taxing families more fairly. And multiple Conservative leadership candidates made it part of their platforms last summer. This is an issue that is finally rising up the political agenda, and pro-family policy reforms should certainly be part of any vision for the future of British conservatism. But in our view, there is also a compelling case for this government to act ahead of the next general election.

As we detail in a new report for the Centre for Policy Studies, there are serious problems with the way we tax families in the United Kingdom today. For one thing, families with the same overall earnings can pay wildly different amounts of tax – and have very different disposable incomes as a consequence, hitting the quality of life of millions. This is the result of pairing a highly ‘progressive’ tax structure with the individual as the sole tax unit – and it is getting worse right now, as frozen tax thresholds combine with high inflation to make many more people higher rate taxpayers. Policies like the child benefit tax charge and withdrawing childcare subsidies from higher earners, which create punitive marginal rates and cliff edges in the tax system, do not help.

Families in which one person stays at home (or works only part time) to look after young children, or care for elderly or disabled relatives, are particularly affected by this aspect of the tax system – with one-earner households facing much higher tax bills than households in which the same income is split equally between two earners.

This disparity undoubtedly inflates demand for state services, whether it is taxpayer funded nursery places or care for the elderly. It seems deeply unconservative. Surely we should support people who choose to take on caring responsibilities – or at least make sure the state does not discriminate against them, as it does at the moment?

Later in the report we propose turning the marriage allowance into a fully transferable personal allowance for married couples with children. Depending on the precise details, this would have a fiscal cost of between £2.1bn and £3.6bn. We think it would prove popular – helping hard-pressed families at the most financially-stretched time in their lives, while also underlining Conservative commitment to the family and advancing the principle of fairness. Ideally, such an upgrade on the marriage allowance should be accompanied by reform of the child benefit tax charge, both to limit its application to the bestoff families and to smooth out its effect on marginal tax rates. The withdrawal of childcare subsidies, too, should be based on household income.

It makes sense to prioritise such tax cuts because they bring relief at a time in life when people’s finances are particularly stretched – but also because we, as a country, ought to be doing everything we can to support family formation and parenthood as we face up to the realities of an ageing population. Our nation needs more children as we seek to build a healthy economy, but this is not an exercise in social engineering; it is about removing the barriers to people supporting the children they want to have. It is about giving them control over their lives.

We know our focus on dramatically expanding the marriage allowance will be controversial in certain quarters. But we think it is right that the legal advantages of coupledom should be tied to people making a binding legal commitment to each other, whether through marriage or civil partnership, both of which are open to everyone. We also cannot overlook the evidence that marriage leads to greater family stability and, even adjusting for income and education, better outcomes for children. At the moment, our tax and benefit systems combine to create a severe ‘couple penalty’ for less well-off Britons. Anything we can do to redress the balance constitutes a step in the right direction.

We believe that our report makes a powerful case both for immediate change and for further research to develop a more all-encompassing pro-family agenda for a future government. Looking to the long term, we see much to admire in Germany’s income splitting tax model and France’s quotient familial. And we are attracted to the idea of replacing child benefit and childcare subsidies with a simple family tax credit – which could be paid out in cash if parents didn’t have enough taxable income to set the credit against. We hope our ideas are taken seriously by our friends and colleagues across the conservative movement.

Click here to subscribe to our daily briefing – the best pieces from CapX and across the web.

CapX depends on the generosity of its readers. If you value what we do, please consider making a donation.

Ranil Jayawardena is MP for North East Hampshire and chair of the Conservative Growth Group. Tom Clougherty is Research Director & Head of Tax at the Centre for Policy Studies