Living standards face a perfect storm

It is a worrying time for many UK households. Living costs are on the rise: food costs are soaring and energy bills are set to jump 12% from October. Meanwhile, many of those on particularly low incomes – five million families were on universal credit at the most recent count – are receiving text messages or emails that their support will be cut by up to £1,040 a year from next month. This is the largest overnight cut to social security since the second world war, affecting more than one in five households in some regions: the North East, London, Northern Ireland, West Midlands, and Yorkshire and the Humber.

The kicker to working people on low incomes – 37% of those on universal credit – is that the government has just voted to increase both employer and employee national insurance contributions (NICs) by 1.25% from April 2022 to pay for social care. This is effectively a 2.5% tax increase as the incidence of employer contributions are likely to be passed on to employees in the form of lower wages (or reduced wage increases) in the long run.

Our analysis finds that the combined effects of the universal credit/​working tax credit cut and social care tax increases will affect 2.5 million working households on low incomes. Those affected by both will lose out by £1,290 on average, even before the likely effects of employer NICs on take home pay. The combined effect of these policies impact the poorest households the most.

Figure 1: Universal credit cuts and NIC increases will hit low-income families hardest

The government’s stated policy is to focus on work as a route out of poverty, but the combined effect of these policies does not achieve that goal. In fact, the increase to the NIC rate makes work a less attractive route, with workers losing up to 75p per additional £1 earnt, and even more once childcare and pension contributions are taken into account. This is due to the effect of the taper rate withdrawing benefits at 63p per £1 earnt combined with the taxes.

And work is not a route out of poverty for everyone all the time – over one in five (29%) universal credit claimants, such as those with limited capability for work or with caring responsibilities to friends, family or young children, should not be expected to work.

Figure 2: Two thirds of people on universal credit are already working or not currently expected to work

Our social care system absolutely needs reform and investment, but raising national insurance contributions in this way is not the answer. Taxing income from wealth – dividends, interest, rent and capital gains – on a comparable basis with earnings from work would be economically efficient and progressive sources of revenue.

This is in large part a consequence of the fact that our tax and social security system is completely divorced from living costs. To address this, NEF calls for a ​“Living Income”, which would link social security payments to a decent minimum income standard.

Notes

The analysis uses the IPPR tax benefit micro-simulation model comparing two scenarios: the baseline is current government policy, compared to a scenario where the cuts to working tax credit and universal credit are not enacted, and the 1.25% increase to national insurance contributions and the dividend tax rate is also not enacted. Our analysis assumes that the incidence of employer NICs is not passed on to employees, so our analysis represents a slight under-estimate of the likely effective final impact.

Figures are reported for households (and may include multiple families/​people living in the same household), and the £1,290 figure is mean un-equivalised disposable income before housing costs in 2022/​23 prices.

Photo: iStock