"Are postponing the merger of Class 2 and Class 4 National Insurance Contributions and the likely abolition of Self-Employed Class 2 NICs what you can call progressive tax reform?"
Class 2 Self Employed National Insurance Contributions (NICs) was due to be abolished from 6 April 2018 and due to merge with Class 4 NICs (paid by self-employed people on profits). However, both abolition and merger have been postponed until 6 April 2019. But what stands out about this story, for me, is not so much the debacle over NICs for the self-employed, but the way it makes the benefits of incorporation stand out as the more sensible and attractive business model!
Why the Delay?
The government justified the delay of the reform to NICs by announcing that a more thorough consultation with interested parties was needed. Why, you do wonder, does the government wait until the eleventh hour before announcing the delay; anyway, the point is that the government is consulting on the likely impact of the abolition of Class 2 NICs on lower earners and meanwhile the merger/postponement has been delayed.
Relevance of Class 2 NICs for the Self-Employed
Self-employed people whose profits are below the small profits threshold (£6,025 for 2017/18) are currently able to protect their rights to the state pension and certain other state benefits by voluntarily paying voluntary Class 2 NICs c (currently at £2.85 per week). As it’s estimated that 967,000 self-employed people earned below the small profits threshold in 2015/16, the abolition of Class 2 NICs is a significant issue, particularly as the self-employed are not eligible for a workplace pension either—and there is yet another benefit of incorporating a sole-trader business!
For self-employed people whose profits fall in between the Class 2 and Class 4 threshold (£8,164), they’ll pay Class 2 NIC of £148.20 p.a. in order to gain a full year’s NICs credit. Paying class 4 NICs is currently purely a tax on profits and does not provide any NICs credits. This means that some self-employed people will pay £150 more than they bargained for over the next tax year.
Who loses out after abolition of Class 2 NIC for the Self-Employed?
The real effect of the delay and the likely effect of the abolition after 2018 will depend on the income bracket of the self-employed person:
Self-employed people earning more than £6,025 p.a. won’t have to pay Class 2 NICs any longer, yet will still benefit as if they’d contributed for the purposes of gaining access to contributory benefits; these lucky taxpayers will still qualify for the state pension and other benefits and will save £148.20 p.a.
Self-employed and earning less than £6,025 p.a. won’t be able to voluntarily pay Class 2 NICs any longer in order to qualify for the state pension and other benefits. In order to continue to qualify, these self-employed people will need to pay Class 3 NICs instead, which will cost £741 p.a. instead of £148.20 p. a. This means that the lowest paid will end up paying £592.80 p.a. extra.
Government consultants, no doubt, are looking at some of these anomalies with some urgency, as the planned changes do not add up to a progressive tax reform in my book! I’ll put my money on the issue of Class 4 NICs coming up somewhere in the Chancellor’s Budget on 22 November. I wouldn’t be surprised if Phillip Hammond announces Class 4 NICs are to rise by a percentage point or two. Watch this space on 22 November for further comment.