Budget Notes

BN01 MODERNISING THE PERSONAL TAX SYSTEM

Who is likely to be affected?

1. Income tax payers.

General description of the measure

2. These changes are part of a package of measures announced at Budget 2007.

3. From 2008-09, the basic rate of income tax will be reduced to 20 per cent.

The 20 per cent savings rate will be merged with the basic rate.

4. The existing 10 per cent starting rate will be abolished. A new 10 per cent starting rate for savings will be introduced.

5. These changes reduce the main rates of income tax to two: the basic rate and the higher rate.

6. Age-related personal allowances for those aged 65 to 74 and 75 and over will be increased by £1,180 above indexation. For 2008-09, the age-related allowance for someone aged 65 to 74 will be £9,030 and the age-related allowance for someone aged 75 or over will be £9,180.

7. A Treasury order was made on 10 December 2007 which increased the basic personal allowance by indexation to £5,435 for 2008-09.

8. There is no change to the 40 per cent higher rate. There are no changes to the 10 per cent dividend ordinary rate or the 32.5 per cent dividend upper rate.

Operative date

9. These changes have effect on and after 6 April 2008.

Current law and proposed revisions

10. Legislation will be included in Finance Bill 2008 to make the necessary changes to Income Tax Act 2007 (ITA) and the Income and Corporation Taxes Act 1988.

11. For 2007-08, the basic rate of income tax is 22 per cent. It is payable between the starting rate and basic rate limits of £2,230 and £34,600. For 2008-09, the basic rate will be reduced to 20 per cent. It will be payable up to the basic rate limit of £36,000.

12. Savings income which falls within the basic rate band is taxable at the 20 per cent savings rate. From 2008-09, the savings rate will be abolished and savings income which falls within the basic rate band will be taxable at the 20 per cent basic rate.

13. For 2007-08, the first £2,230 of an individual's income is taxable at the 10 per cent starting rate.

14. Legislation in Finance Bill 2008 will abolish the 10 per cent starting rate and introduce a new 10 per cent starting rate for savings and starting rate limit for savings. For 2008-09, the starting rate limit for savings will be £2,320. ITA sets out different types of income and the order in which they are taxed. The first slice is non-savings income, which is not separately defined in ITA but broadly covers earnings, pensions, taxable social security benefits, trading profits and income from property. The next slice is savings income (broadly, bank and building society interest). Dividend income is the top slice. There are no changes to these rules for 2008-09.

15. Should an individual's non-savings income exceed the new starting rate limit for savings, then the starting rate for savings will not be available for the savings income. The individual's savings income will be charged to tax at the 20 per cent basic rate up to the basic rate limit of £36,000. This is unchanged from the way in which savings income is currently taxed. However, should an individual's non-savings income be less than the starting rate for savings limit, then the savings income will be taxable at the 10 per cent starting rate for savings up to the limit.

16. Legislation provides that the personal allowances are increased in line with price inflation each year, unless overridden by the Finance Act. Finance Bill 2008 will increase the amounts for those aged 65 and over by £1,180 above indexation. There are three levels of personal allowance: the basic level for those aged under 65 (£5,435 for 2008-09), and higher levels for those aged 65 to 74 (£9,030 for 2008-09) and those aged 75 and over (£9,180 for 2008-09).

Further advice

17. If you have any questions about these changes to income tax, please contact Paul Thomas on 020 7147 2479 (email: paul.thomas@hmrc.gsi.gov.uk). Information about Budget measures is available on the HM Revenue & Customs website at www.hmrc.gov.uk