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Alistair Darling will announce today that income tax for those earning more than £150,000 a year will rise to 45p in the pound during the next parliament to help pay for Labour's £15bn anti-recession emergency package.
Faced with the challenge of reducing state borrowing from an expected £120bn next year, the chancellor will use today's pre-budget report to break New Labour's 15-year taboo on raising income tax on the wealthy. Darling will also unveil a one-year cut in standard-rate VAT from 17.5% to 15%, in the hope consumers bring forward spending and shorten the recession.
The government hopes by targeting the rich, people on low and middle incomes will be reassured they are not to be victims of an aggressive spend-now-tax-later strategy. It is expected the measure will raise £2bn.
Robert Chote, director of the Institute for Fiscal Studies, the UK's leading tax thinktank, said the change would affect only 400,000 high earners. "You are not going to raise an enormous amount of revenue from this," he said. The current top rate of tax - 40p in the pound - hits earnings of more than £39,825 a year, affecting about 4 million people.
The Liberal Democrat Treasury spokesman, Vince Cable, also said the measure will raise "negligible" amounts of revenue.
The Conservatives did not issue a formal response to the news after it broke late last night, but this morning a senior party source said that a 45p band would raise "a negligible amount of money" and that the party wanted to see "the full picture" before issuing a considered response.
"Let's not lose sight of the fact that we are about to see the biggest borrowing figures in the history of the UK. This tax would raise about £2bn, but the borrowing figures being talked about are in the order of £100bn. That's going to hit not just the wealthy, but every single person who pays taxes," said the source.
Geoffrey Robinson, the former Treasury minister and a key Brown ally, admitted on the Today programme that the amount of money raised by a new 45p band was "not significant" in relation to the overall amount of money the government would need to find. But he said it was still a "big change" that would make an important statement about fairness.
"After all, those earning over £100,000 over the last 10 years have seen their earnings after tax increase at more than double the rate of those below. They have done extremely well," he said.
Robinson said it was important for the chancellor to "take on the Tory charge that there was going to be some great tax bombshell" in the future. He also said he was confident Darling would do this when he delivered his statement this afternoon.
"I'm quite clear it is going to be the case that Alistair Darling is going to take [this] head on and answer specifically how we are going to fund what we are borrowing now," he said.
Treasury sources declined to comment on reports of the tax rise.
Even so, Darling's statement represents a watershed for Labour, which has ruled out raising either the standard or the top rate of income tax in successive election manifestos since that of 1997; putting into effect the change is therefore contingent on winning a further election.
Many on the left have despaired of seeing a Labour government starting to reintroduce progressive taxation, but the Treasury has been forced into a U-turn by the deterioration in public finances caused by the recession and the cost of today's pre-budget report package.
Labour leftwinger John McDonnell, said 45% was "hardly a revolution"; he would rather see a 50% tax rate for those earning more than £100,000. But he said: "There is a change in the public's mood, who have seen what has been happening to bankers and their huge salaries."
Darling believes the VAT holiday will boost spending, but he will also threaten legislation today to stop banks withdrawing cheap mortgages and credit from hard-pressed customers overnight, help for small businesses, and plans to make homes more energy efficient.
In a pre-budget report designed to draw the battle lines for the next general election, the chancellor will insist that his plans will ease the financial pressure on consumers and companies, and will deliver economic recovery in 2010.
Darling will underline the government's frustration at the way banks are intensifying the impact of the credit crunch by summarily withdrawing mortgages. Unless they agree to toughen their code of practice, the government will consult on legislation requiring banks to give customers fair notice of any changes to products. "All the risk is falling on the consumer," a Whitehall source said. "It is much easier for the banks to manage that risk."
Gordon Brown said the government had to "persuade and cajole" banks into lending at appropriate prices and resume mortgage lending. "You will see in the pre-budget report, and subsequently, measures that will actually make that happen more quickly," he said.
Small businesses would also be helped by defering the increase in corporation tax from 21% to 22%. Revenue and Customs will be instructed to give small firms more time to pay tax bills. Government sources said the report was likely to inject some £15bn into the economy, about 1% of GDP. The VAT change will cost the exchequer £12.5bn in lost revenue.
Fearful that the markets will be alarmed at a plan to borrow 8% of GDP in 2009-10, Darling will explain how he intends to repair the hole in the public finances.
On BBC1's The Daily Politics show, Brown said: "If you say at the moment there is nothing government can do by spending more or investing more at the moment, that is a gospel of despair in the future ... I believe people will say action now is better than no action and more problems later."
Conservative leader David Cameron attacked what he called a borrowing binge: "I have a real concern about a government ... borrowing binge that even they admit is going to lead to much higher taxes."
- Pre-budget report
- Alistair Darling
- Credit crunch
- Recession
- Tax and spending
- Economic policy
- Tax
- Income tax
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