Experts Fear UK Brain Drain Following Income Tax Hike

by Robert Lee, Tax-News.com, London

24 April 2009

The UK government’s decision in the 2009 budget to create a new 50% tax rate for wealthy taxpayers may have been a politically expedient way to alleviate the fiscal strains the country is facing, but experts warn that the changes could have the unintended consequence of opening a ‘brain drain’ of business talent to more welcoming shores.

In acknowledgement of the need to raise additional taxes, the proposed new top income tax rate of 45%, which was set out only in the November 2008 Pre-Budget Report has already been replaced by a 50% rate to apply from April 6, 2010 onwards. At the same time, these high earners will no longer benefit from the tax free personal allowance, currently GBP6,475 each year.

Furthermore, from the following tax year, 2011/12, higher rate tax relief for pension contributions will be abolished with the relief "capped" at the basic rate on incomes above the same threshold of GBP150,000 per annum.

“I believe that it is fair that those who have gained the most should contribute more,” said Darling in his speech. “Only those with incomes over GBP100,000 a year – or 2 % of the population – will be affected.”

But according to BDO Stoy Hayward, these changes will see certain high earners facing their total income tax bills rising by as much as 50%. For example, a senior professional earning GBP250,000 and contributing to a personal pension currently gets full tax relief for a GBP75,000 pension payment and pays around GBP60,000 in income tax. But BDO calculates that from 2011/12, this income tax bill will leap to almost GBP90,000 as a result of the measures announced by Darling.

Stephen Herring, Senior Tax Partner, BDO Stoy Hayward said: "The announcements in last year's pre-budget report can now properly be seen to be the thin end of the wedge and no one will doubt that the higher rate taxpayer will provide a tempting target for Mr Darling and his successors if the fiscal deficit targets again are to be reined in. Disappointingly, this has shattered the long term cross party consensus on a 40% top income tax rate and personal pension reliefs."

Sean Drury, international mobility partner at PricewaterhouseCoopers LLP, warns that the changes will have a detrimental effect on the UK’s ability to compete effectively. He expects countries with a lower tax burden to gain as business professionals and entrepreneurs vote on the UK tax regime with their feet.

“From next April, a year earlier than expected, the UK will rank 18th among the G20 economies in terms of income tax and social security rates for senior executives, based on current rates. The change applies to both domestic and overseas high-earners working in the UK,” he observed.

“This increased tax take could accelerate the movement of high earners and top performers in industries like finance and technology to other established and growing economic hubs. Countries like Switzerland will look increasingly attractive to some of the people in the key industries needed to lead the UK out of the recession,” he added.

Druruy says that companies relying on expatriates earning over GBP150,000 in the UK will face significantly increased employment costs and will pay GBP1 in tax for every GBP1 spent on providing essential benefits, such as housing and cost of living allowances.

Louise Somerset, Tax Director at RBC Wealth Management, believes that the proposal sends out “the right political message” but will be largely ineffectual because it will raise relatively small amounts of revenue whilst damaging the UK finance industry’s ability to compete for top talent.

“We have already lost a lot of non-domiciled high earners as a result of last year’s tax changes, and I worry that London’s pre-eminence as a financial centre is at serious risk,” she said.

“By only reducing tax relief on pensions for those earning over GBP150,000 from 2011, the Chancellor has reduced the political fallout, but he has also reduced the tax he can expect to raise. I also suspect that the calculations we will have to do will be mind-boggling!” Somerset remarked.

RBC expects an extra tax yield of less than GBP3,000 per person affected for a new measure that “won’t make much difference to the Treasury, and is going to be complicated to implement.”

“Why is this approach better than a straightforward increase in tax rates, I wonder?” Somerset asked.

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