The UK’s public finances were once again in focus during last week’s Spending Review. The policy event outlined how taxpayers' money will be allocated to various government departments for the next three years, with capital investment plans projected through to 2029/30.
In setting out her stall, Chancellor Rachel Reeves walked a fine line between keeping bond markets and members of her own party onside, balancing fiscal discipline with rising demands on public services and the requirements for longer term investment.
Are UK tax rises ahead?
Before last year’s general election, Labour pledged not to raise income tax, national insurance or VAT. Then, following last year’s Budget that saw £40bn of extra taxes announced, including a controversial hike in National Insurance (NI) for employers. After this, Ms Reeves stated “I’m really clear, I’m not coming back with more borrowing or more taxes”.
Yet with the UK economy looking increasingly fragile, owing to both US tariffs and domestic issues, the tax take might undershoot expectations. The Spending Review commits significant additional sums to areas such as defence and the NHS, so speculation is inevitably building about how the Chancellor will find the additional revenue to deliver on these key pledges, while keeping to fiscal rules she previously described as “iron clad”.
One option is to relax the rules. These dictate that any extra borrowing used for investment and day-to-day spending must be met by taxation. Yet with the rules primarily based on forward-looking projections, minor changes to the economic outlook can overwhelm the ‘fiscal headroom’ on offer. The International Monetary Fund (IMF) recently recommended more flexibility in the rules to avoid small breaches triggering potentially damaging knee-jerk corrective action.
But for now the rules remain in place, and the Chancellor has doubled down in her commitment. The ill-fated Liz Truss premiership still haunts government’s thinking and underlines the risk of any loss of credibility on public finances in financial markets – limiting the scope for much more borrowing. Which leaves increasing taxation as the only remaining option should growth disappoint, unless the government is prepared to make cutbacks.
What might be in the Autumn Budget?
Barring a considerable deterioration in the economic picture, the tax measures in the next Autumn Budget won’t be anything like the scale we saw last year. But given that the Chancellor is working with narrow margins, there could be some more revenue-raising tactics unveiled.
Further business tax hikes seem unlikely as many companies are already struggling to absorb the recent increase in NI. And while it’s possible the Chancellor could backtrack on election pledges and increase one of the ‘big three’ (income tax, NI or VAT) it comes with considerable political loss of face.
Instead, there are already several frontrunners in commentators’ thinking, though this is all pure speculation at this stage and should be taken with a very large pinch of salt.
1. Extended tax threshold freeze
In the Budget last October, the Chancellor pledged to end the freeze on income tax thresholds in 2028. This phenomenon which is pulling a larger proportion of people’s earnings into higher tax bands is known as ‘fiscal drag’, and it’s a favoured trick of politicians as it increases the tax take by stealth.
Despite her previous promise to return to increasing the tax bands in line with inflation, the Chancellor may revisit this decision. That said, taxpayers are already feeling the chill of frozen tax bands in their wallets. Had it risen with inflation, as was traditionally the case rather than largely flatlined for five years, the income tax personal allowance would be over £15,000 by now rather than the current £12,570. That’s equivalent to £600 extra tax a year for most basic rate taxpayers.
Similarly, the higher rate tax threshold has been stuck at around £50,000 since the 2019/20 tax year and that would be over £62,000 now if it had been increased with inflation. The effect is that many higher rate taxpayers carry an additional burden of £3,000 a year compared to a situation where tax band increased with inflation. The longer the freeze continues, the greater that burden becomes.
2. Restricting salary sacrifice
Many employees have the option to ‘sacrifice’ part of their salary in exchange for contributions into their workplace pension or sometimes cycle to work and electric car schemes. This can be tax-efficient for both employee and employer, as pension payments are not subject to income tax or NI, and this has become even more attractive for employers following April’s increase in their rates.
Speculation that the benefits of salary sacrifice could be restricted has mounted following research produced by HMRC about the potential impact it would have. This wasn’t something commissioned by the current government, but it is something the Chancellor might look at, perhaps with a view to imposing some kind of cap targeting higher earners.
3. Pension changes
Sadly, pensions are often the subject of the rumour mill when it comes to government revenue raising. What the pensions system really needs is consistency to support the confidence people need to provide adequately for their retirements.
Ahead of last year’s Budget, rumours circulated about restrictions on higher rate tax relief and the 25% tax-free cash element that can be taken at retirement. With personal pensions such as a SIPP, lump sums can be taken at any time after age 55 currently (57 from 2028), with the first 25% usually able to be taken tax free and the remainder taxable. However, there is also a cap on tax free cash set at £268,275.
As things stand, if this cash limit stays frozen it provides another example of fiscal drag, but it could also be reduced by any politician looking to restrict the amount being released tax free from defined contribution pots. It’s also an easy lever to pull compared with other possible moves such as reintroducing the Lifetime Allowance or tinkering with tax relief or salary sacrifice.
However, we caution anyone thinking of taking any kind of pre-emptive action based on speculation as there may be damaging consequences for retirement and tax planning. All such decisions should be based on facts, not rumours, in the context of sound long term financial planning.
Find out more - Are more Labour pension tax changes likely?
4. Inheritance tax (IHT)
Significant changes to IHT already lie ahead following announcements in the last Budget. Unused pension pots are to be included in estate valuations from 2027, and planned caps on business and agricultural exemptions are due to come in next year.
This has created significant incentives for families to accelerate the transfer of assets. Current rules allow you to give away any quantity of assets in your lifetime to avoid IHT, so long as you outlive the gifts by seven years. Although it wouldn’t raise much in the short term, the Chancellor could tighten this regime, for example by increasing the period to ten years. In addition, there’s a raft of allowances and exemptions without a time limit, such as ‘gifts out of surplus income’ that could be tidied up with the aim of simplification – and raising a bit more tax.
Find out more: How to pay less inheritance tax in 2025
5. Changes to ISA rules
This is not necessarily a revenue raising measure, but the Chancellor has indicated she is open to some kind of ISA reform with the goal of encouraging more people to invest rather than save. She has confirmed that the government is not planning to reduce the overall £20,000 ISA limit, though it seems very possible that there will be greater restrictions around contributions to Cash ISAs.
The Cash ISA offers an important sanctuary from the effects of fiscal drag for those saving for a house deposit or other shorter-term requirement such as an emergency fund, so it’s important those with shorter-term objectives or who cannot tolerate any risk are not penalised.
Yet for some people who hold lots of cash for long periods there is a missed opportunity to build wealth more effectively, and a wider aversion to risk among the population has negative ramifications for the success of the UK stock market and the wider economy. The autumn is probably when we will find out more from the Chancellor about her desire to balance these two competing needs – while hopefully avoiding further complexity in what has become a cluttered regime of various ISA types.
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Are more Labour pension tax changes likely?
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