Progressive Expenditure Tax (PET)

 

 

This note examines the possibility of replacing UK income tax with a progressive tax on consumer expenditure.

 

Instead of being taxed on their income, personal taxpayers would be taxed on the basis of their annual total expenditure. This would be calculated as the aggregate of their income and their net borrowing during the year minus their net saving. Net borrowing means the difference between their total outstanding borrowing[1] (including mortgages[2]) at the end of the year and the total at the beginning of the year. Similarly, net saving means the difference between total savings at the end of the year and the beginning. Therefore if taxpayers reduce their net borrowing or increase their net savings during the year they automatically reduce their tax liability (and vice versa).

 

To ensure that this system is progressive, it retains the concept of personal allowances, but related to expenditure rather than income. Everyone gets a personal allowance of total annual expenditure which is not taxed (more for people with dependants). Above the personal allowance, different slices of expenditure would be taxed at a basic and a higher rate or rates (as now with income).

 

Here are some possible advantages of this new system, both economic and political:

  • Fairness. It is fairer to tax people on their consumption – what they take out of the economy – rather than their income – what they put into the economy through their labour or the fruits of their savings. Those who consume most would pay the most tax
  • By the same token, PET would be a green tax – reducing people’s demands on the planet and its resources, rewarding those who demand least and penalizing those who demand most
  • Check on consumption means permanent check on inflationary pressure
  • Rewards thrift and savings, encourages investment, particularly longer-term investment
  • Will encourage people to be more aware of their savings and borrowings (and to rationalize them)
  • Likely to improve UK’s balance of payments (shift away from consumption likely to reduce imports and increase pressure on domestic producers to export rather than rely on home market)
  • If savings relief limited to savings in UK, would encourage people to save and invest in UK rather than overseas (and might encourage them to remit overseas capital to UK)
  • New system could allow reduction in VAT and one-off fall in RPI, generating savings in government expenditure. (Other consumption taxes, eg on fuel, drink, tobacco, could be retained on environmental or health grounds)

[1] Lenders and savings institutions would supply this information to taxpayers. They would also be required to supply it, on request to the revenue authorities, and they would record their customers’ tax references

[2] There would be a special rule for mortgages when first taken out, to prevent people facing a sudden dramatic increase in tax liability.