Council Tax has always been a regressive tax. For many low-income households, it is the largest single tax they pay – the poorest third of British households pay more in council tax than they do in income tax. Council tax on the highest band of properties is only three times the rate of the lowest, even though the property may be worth a hundred times as much. And council tax benefit does relatively little to soften the blow for those on low incomes.
But despite these criticisms, council tax has proven far less controversial than its predecessor, the community charge, or poll tax. It is only now that opposition is really beginning to stir. Successive above-inflation increases have meant that council tax is double what it was when it was introduced in 1993. Protests against the tax are becoming more widespread. Reform is firmly on the agenda, with the Office of the Deputy Prime Minister having set up a review that is looking at how to make the tax fairer. And both the Conservatives and the Liberal Democrats are making political hay on the issue.
In addition, there is now heightened awareness of other flaws in the system of local government finance. The first problem is the so-called ‘gearing effect’ whereby a one percent increase in discretionary spending will on average require a four percent increase in council tax. This results from the fact that councils receive such a large proportion of their spending from central government – three-quarters on average, and sometimes as much as 90 percent. Many councils claim that gearing reduces local room for manoeuvre and distorts political accountability.
The second problem is that local government funding is neither diversified nor buoyant. Councils have only one means of raising additional revenue – putting up council tax. And unlike income tax and VAT receipts which rise when the economy is doing better, council tax receipts remain relatively flat over time. So while the Treasury has reaped a windfall as a result of Britain’s recent economic success, local government has not benefitted directly. All these problems are acting as a spur for reform.
The Liberal Democrats have by far the most radical policy on council tax, promising to abolish it entirely and replace it with a local income tax. Their proposals are detailed, and they are at pains to convince the electorate both that most people would pay less than at present. And they claim that council tax is ‘the most unfair tax’, while LIT ‘has fairness built in’. Many Labour supporters find these arguments persuasive. Indeed, some even wonder why the government has not yet gone down the same route.
Under the proposals, the LIT rate would vary from area to area, but the national average would be around 3.75 per cent. Overall, LIT would raise slightly less than the council tax, but this would be topped up with an additional £1.7 billion from the centre. A website set up to promote the idea, www.axe-the-tax.org.uk, features a number of worked-through examples showing how much particular households would pay.
So how does the local income tax proposal measure up? The answer is that while LIT may appear to be fair, it does not address the most fundamental problems currently facing local government finance, and it would result in a large number of ordinary people paying even more than they do at present.
The first problem is that it would actually worsen the gearing effect. Because Local Income Tax would raise less money than council tax, the party is proposing an offsetting increase in central government grant – shifting the balance of funding further towards the centre. Secondly, while the Liberal Democrats are correct in arguing that local lncome tax would be more buoyant than council tax, it would do nothing to diversify the local funding base. Indeed, it would make the UK as a whole more dependent on income tax as a source of revenue, and would make local government more susceptible to budget cuts in the event of an economic downturn.
The local income tax proposal is questionable even in terms of fairness – the main argument advanced in its favour. Any major tax reform produces winners and losers, and in the case of LIT, it is not simply a case of those on low incomes being the winners – it is far more complex and harder to predict than that. For example, the main winners would be pensioners on low incomes who are property rich, while those on low incomes living in more modest properties would gain less.
There are other concrete examples. Two people on average earnings living together in a typical Band D property would pay £440 more a year than they currently pay in Council Tax. A recent graduate who lived at home to save money would pay £389 on in Local Income Tax, compared to nothing at present. And a young family on median earnings would pay £173 more if one parent worked full-time and the other stayed at home than if both parents worked part-time. It isn’t true that the losers under these proposals would be only those on higher incomes.
Finally, despite its weaknesses, there are advantages to Council Tax, such as the fact that property taxes are relatively easy to collect. Indeed, the compliance rate for Council Tax is more than 98 percent. And although property taxes in Britain are relatively high, almost all developed countries levy such taxes and their level in Britain is broadly comparable to that in the USA, Canada, France, Japan and New Zealand.
In comparison to the detail of Liberal Democrat proposals, Conservative policy on local government finance is rather threadbare and difficult to assess. But these gaping holes raise important questions. Consider the following points. In a speech in February, Michael Howard spoke of the need to ‘the need to lighten the load of the council taxpayer’. He has also opposed a local income tax, saying it would ‘hit many more people much harder than the council tax’. Meanwhile, shadow regions secretary Bernard Jenkin has said ‘we must enable local councils to become less dependent upon central government grant and to raise more of what they spend in local taxation’. And Oliver Letwin’s expenditure strategy proposes a two percent cut for local government followed by a spending freeze.
Think about it for a moment, and you realise that these propositions do not stack up. How is it possible to promise lower council tax and more local autonomy over spending while simultaneously imposing budget cuts and ruling out new local taxes? So where’s the catch? It is possible that a future Conservative government could relocalise business rates – but given how much fuss they have made about the cost of red tape and business taxes, this could prove embarrassing for them. Likewise, it would be difficult for them give local authorities more tax-varying powers while meeting their promise to do so ‘without increasing the overall tax burden on hard-pressed families’. Which leads to an inevitable conclusion: the only way to make Tory sums add up is to cut the services that local authorities provide.
The difficulty for Labour in responding to opposition attacks on this subject is that the government’s own proposals are unclear. The very fact that the Balance of Funding Review is examining council tax suggests the Government recognises the current system is broken. But Labour is not yet about to say how it should be fixed. The likelihood is the council tax will be reformed rather than replaced, with a new and more progressive banding system introduced alongside revaluation. Council Tax Benefit is also likely to be reformed. It is even possible that more radical reforms could be brought in, such as a supplementary income tax which would avoid many of the pitfalls of the Liberal Democrat proposal. But until the recommendations of the review are announced, the Tories and Lib Dems will continue to make the running on this issue – and public faith in council tax will continue to erode.