The Chancellor of the Exchequer took the brave first steps to simplify Britain’s complicated tax and National Insurance (NI) payment systems in the recent Budget. Lengthy consultations follow, but with crystal ball in hand, Matt Duffy of Aon Hewitt considers the pros and the cons.

From where we sit, we can see obstacles aplenty, but there are some very tempting benefits to merging income tax and NI.  Initial reaction by payroll experts at two blue chip clients is positive. 

What’s not to like about combining multiple tax and NI brackets into something altogether more streamlined and well thought out?  Instead of a 20% tax payment and 12% for NI, for instance, nice straightforward 32% tax on income – whatever it’s called – should be easier to administrate.

Simplifying employers’ reporting commitments would also be welcomed. 

But with tax and NI simplified for pay, the consultations need to consider these key areas, at minimum:

Benefits: With a simpler system of tax, we don’t need additional complications for benefits in kind, and especially not to see extra tax slipping-in on those benefits, in effect reducing employees’ net pay. In other words, employees don’t currently pay NI on non-cash benefits provided by their employer, but they do pay tax (at their current PAYE status). If the new standard combined basic tax on income is 32% (20% tax, 12% NI), this would mean all employees incur more tax on the benefits.

Salary sacrifice: Most flexible benefits schemes (which are on the increase in the UK) offer  Salary Sacrifice benefits such as childcare vouchers, pension & bikes to work, as well as private medical insurance, dental insurance and so forth. ‘Flex’ schemes are extremely popular as they provide choice to employees, offer corporate rates and terms and provide savings for employers in respect of NI contributions (NICs). This enables an employee to give up some salary or bonus which is used by the employer to provide a non-cash benefit in return. In most cases, employees save tax and NI, in others, just the NI.

If the proposed merger goes ahead, will there be no savings for employees on NI?
If this is the case, it will be less attractive for employees to participate in flex schemes, and far more difficult for employers to offer benefits that support recruitment, retention, absence management and other key business processes.

Pensions: A flat rated pension is not best for all, but it is also not unexpected.  It’s great news for those who have been unable to pay NICs all their life, especially women. Also, if it is non-means tested (where income or savings incurred will not affect the amount of benefit received), it will be welcomed. However, removal of the NIC’s will alter the landscape of pension contributions entirely, possibly at a time when NEST and auto-enrolment are being rolled-out. As the majority of employees take up a pension when it is offered via salary sacrifice, its removal is bound to affect take-up rates and the way individuals save for their retirement.

Private Medical Insurance (PMI):  If the merger goes ahead, final effect premiums could become unsustainable.  By way of explanation, if P11D reporting continues in the same way as it does now (and tax is incurred at PAYE status), the higher tax rates from a merged tax/NI will mean a higher tax on core-funded benefits like PMI.

So with higher taxation, the knock on effect could see younger, fitter employees leaving the PMI scheme because they feel they won’t use it, while older, unhealthier employees will keep the benefit – and in all likelihood, have more chances of using it.

With “better risk” employees opting out, the loss ratio (claims made vs premiums paid) will increase, so insurers will need to increase premiums to recoup losses. These higher premiums will be incurred by the employer and may get to the point where the benefit could become unsustainable.

Many businesses use PMI to mitigate the risk of long-term absence, by giving access to quicker, private treatment, rather than employees being at the mercy of slower waiting times within the NHS. Indeed, who’s to say what the long-term impact of less PMI membership would have on the already overburdened NHS?

So, what should HR do right now?  We either sit and wait or we make ourselves heard.  Merging Tax and NI has the potential to simplify years of changes and additions to an unwieldy system.

But it’s also time to ensure that the powers-that-be know our views, positive and negative. We need to ensure that changes are for the better, and not a stealthy way to increase tax on employees and jobs. We’ll be very interested in your views and concerns.

Matt Duffy, Aon Hewitt – for more information visit their website.