Archived article: Please note that tax, investment, pension and ISA rules can change and the information and any views contained in this article may now be inaccurate.
The Budget is coming at the end of this month and we’ve had the clearest sign yet that Chancellor Rachel Reeves is looking to increase taxes. In an unexpected speech just 20 days before the Budget, Reeves paved the way for future tax rises, saying she wanted to give the context ahead of her speech on 26th November.
While she batted away questions on what taxes would change and whether Labour would break their manifesto commitment to not raise VAT, income tax and National Insurance, that looks increasingly likely. But if she increased the basic rate of income tax, she’d be the first Chancellor in 50 years to do so. Let’s look at the potential options on the table, and how much they would cost you.
Option 1: Raise income tax by 1p
The simplest option would be to increase the basic rate of income tax by one percentage point, taking it from 20% up to 21%. The move would impact anyone who earns more than the tax-free Personal Allowance of £12,570 – but those who earn more would pay more.
It would cost taxpayers up to £377 a year in extra tax, with anyone earning £50,270 or more facing the maximum hit. For someone on £15,000 a year the extra tax hit would be just £24 while someone on £35,000 would pay £224 a year more in tax. The move would impact anyone with a taxable income, not just those who are employed, as you pay income tax on earnings, pension income, rental income and interest on savings.
A more dramatic option would be to add 1 percentage point onto all income tax rates, also taking the higher rate up to 41% and the additional rate to 46%. However, the latter doesn’t raise that much more money for the Government. Increasing the basic rate of tax to 21% would generate £6.9 billion in the next tax year and £23.4 billion over the next three years, according to HMRC’s own figures.
In comparison, hiking the higher rate to 41% would raise £1.6 billion next year and increasing the additional rate to 46% would raise a relatively paltry £145 million in extra tax revenue.
How much raising basic-rate tax to 21% would cost
| Salary | Tax bill now | Tax bill with an extra 1p added | Extra tax |
|---|---|---|---|
| £50,270 | £7,540 | £7,917 | £377 |
| £45,000 | £6,486 | £6,810 | £324 |
| £40,000 | £5,486 | £5,760 | £274 |
| £35,000 | £4,486 | £4,710 | £224 |
| £30,000 | £3,486 | £3,660 | £174 |
| £25,000 | £2,486 | £2,610 | £124 |
| £20,000 | £1,486 | £1,560 | £74 |
| £15,000 | £486 | £510 | £24 |
Source: AJ Bell. Annual income tax bill based on income taxpayer with the standard personal allowance. Rounded to the nearest £1. Taxpayers over £50,270 would incur the maximum £377 increase. Those with earnings over £100,000 would be hit by the additional cost of the loss of personal allowance.
Option 2: Raise income tax by 2p
Clearly a bigger hike in the headline rate of income tax would hit people’s pockets harder – but the Chancellor could raise rates by more than just one percentage point. An increase in the basic rate from 20% to 22% would cost someone on a £30,000 salary an extra £350 a year, while those earning at the higher-rate threshold of £50,270 would see the biggest increase in their tax bill of £754 a year. That means a couple both earning this amount would be handing over £1,500 a year in extra tax – or £126 a month.
A hit of this kind will be an unwelcome extra cost to people, on the back of rising bills, huge increases in mortgage costs and still rising food costs. If it was implemented straight away at the Budget, Keir Starmer would easily be compared to the Grinch before Christmas, eating into people’s take-home pay just as they are trying to afford one of the most expensive months of the year.
Option 3: The two up, two down method
An alternative option is to increase income tax at the same time as cutting National Insurance. The potential move would see income tax increased by 2 percentage points, taking basic rate tax to 22%, but at the same time cut the starting rate for National Insurance from 8% down to 6%.
The move would be cost neutral for employees, as the hike on one would be cancelled out by the reduction on another. So, you’d end up paying more income tax but less National Insurance and your take-home pay would remain the same.
The same would be true for self-employed people, if their rate of National Insurance was also cut. Self-employed people pay a lower rate of National Insurance, so it would see their rate cut from 6% down to 4%. Of course, the Chancellor could choose not to cut this rate, which means self-employed people would see an overall increase in the tax they pay.
The Government could argue that such a move would create fairness between employees and the self-employed, but self-employed would then be paying the same rate but getting fewer benefits. For example, they don't get employer pension contributions, paid leave or sick leave. Many freelancers, contractors and small business owners already face fluctuating incomes and little protection during lean periods. Increasing their effective tax rate could discourage people from striking out on their own or force some to abandon self-employment altogether.
One group that would definitely be hit by this proposed move is pensioners. Once you reach state pension age, you don’t have to pay National Insurance, so it means any pensioners who are paying basic-rate income tax would see an increase in their income tax bill but it wouldn’t be offset by the cut to National Insurance.
Someone with a taxable retirement income of £35,000 would face a tax hike of almost £450, while a pensioner with an income of £65,000 would be stung with a tax increase of over £1,000. While hitting pensioners in the pocket will clearly be unpopular – particularly in the wake of the Winter Fuel Payment fiasco - it may be viewed as the least bad option to raise a chunk of the tens of billions of pounds the chancellor needs to balance the books.
How employees and pensioners could be affected by the ‘two up, two down’ proposal
| Employee | Pensioner (and other sources of income) | |||||
|---|---|---|---|---|---|---|
| Current system | Two up two down | Change in tax | Current system | Two up two down | Change in tax | |
| £15,000 | £680.40 | £680.40 | - | £486.00 | £534.60 | £48.60 |
| £25,000 | £3,840.40 | £3,840.40 | - | £2,486.00 | £2,734.60 | £248.60 |
| £35,000 | £6,280.40 | £6,280.40 | - | £4,486.00 | £4,394.60 | 448.60 |
| £45,000 | £9,080.40 | £9,080.40 | - | £6,486.00 | £7,134.60 | 648.60 |
| £55,000 | £12,542.60 | £12,542.60 | - | £9,432.00 | £10,280.60 | 848.60 |
| £65,000 | £16,742.60 | £16,742.60 | - | £13,432.00 | £14,480.60 | £1,048.60 |
Source: AJ Bell analysis based on current income tax and NI rates compared to a 2% rise in income tax rates and 2% cut to NI
Option 4: Continue the freeze on income tax bands
The Conservatives started the policy of freezing income tax bands as a stealth way to raise taxes, and Labour has opted to maintain it. But it could also extend this freeze.
The move means that income tax bands haven't increased with inflation each year, and instead have remained stuck at the same levels since 2021. So, people pay more tax than they otherwise would have if tax bands had risen with inflation – particularly during the recent periods of high inflation.
The freeze is currently due to last until 2028, but Labour could extend it to 2030 or beyond. The move is an effective tax increase but through the back door, as people don’t realise how much extra they are paying.
For example, the Personal Allowance is still at £12,570 but would have risen to £15,550 in this tax year if it had increased with inflation in the past few years. Equally the higher-rate threshold would have risen from £50,270 to almost £62,200 in the current tax year.
Someone earning £50,000 at the start of the income tax freeze in 2021 would have paid an extra £14,831 in tax by the end of the freeze in 2028*. If Reeves decides to extend that freeze, for example to 2030, then that extra tax paid increases to £23,449. In other words, working people will have racked up higher tax bills during this time.
There’s also a problem at the lower end of the scale when it comes to the state pension, which is set to exceed £12,000 for the first time next year, and be above the £12,570 personal allowance in April 2027. Pensioners entitled to the full state pension will soon be forced to pay tax on at least a portion of their state pension income, meaning the government risks upsetting all sides of the electorate if it opts to extend the freeze.
How much extra tax someone on £50,000 has paid since 2021 freeze
| Year | Salary | Tax due with frozen allowances | Tax due with inflation-linked allowances | Difference |
|---|---|---|---|---|
| 2021/22 | £50,000 | £7,486 | £7,486 | £0 |
| 2022/23 | £53,250 | £8,732 | £8,342 | £390 |
| 2023/24 | £57,191 | £10,308 | £8,739 | £1,569 |
| 2024/25 | £61,365 | £11,978 | £9,377 | £2,601 |
| 2025/26 | £64,925 | £13,402 | £10,422 | £2,980 |
| 2026/27 | £68,301 | £14,752 | £11,275 | £3,477 |
| 2027/28 | £70,213 | £15,517 | £11,703 | £3,814 |
| 2028/29 | £72,039 | £16,247 | £12,105 | £4,142 |
| 2029/30 | £73,912 | £16,997 | £12,520 | £4,476 |
| Totals | £115,420 | £91,970 | £23,449 |
Source: AJ Bell. Figures assume average wage growth, based on actual figures for current years and for future years are based on forecasts taken from March 2025 OBR report.
*Figures assume average wage growth, based on actual figures for current years. Future years are based on forecasts taken from March 2025 OBR report.
Laura Suter: Director of Personal Finance
Laura Suter is AJ Bell's Director of Personal Finance. She joined the company in 2018 and is the go-to spokesperson on all things personal finance - from cash savings rates to saving for children and...
