Tax Highlights

It is unquestionably true that John Healey inherited a difficult financial situation from Rachel Reeves when he took over as Chancellor this summer. The fiscal headroom of £24bn in the Spring Statement was pencilled in before the shock of the Iran conflict and consequent fuel crisis and was, in any event, slim by historical standards. In addition to that, a number of government spending commitments remain to be funded, both from the time before Burnham and post-Burnham, including the government’s long term defence spending targets, energy bill mitigation measures, including the removal of VAT on domestic electricity bills, and a £2 cap on bus fares.

With inevitable further mitigation measures required on fuel duty and household energy bills, all eyes were, therefore, on how the Chancellor might seek to square the circle of ensuring fiscal credibility whilst providing additional “breathing room” for struggling consumers against a backdrop of a tight fiscal noose. Though the tax equivalent of “jam today” in the form of relief from some import taxes, including those on some preserves and marmalade, was perhaps spread rather thinly.

Overall, and in line with pre-Budget expectations, the Chancellor opted for a largely minimalist Budget, allowing the headroom to fall a little to £15bn, whilst looking to fill some of the gap with the type of mish-mash of smaller tax raising measures beloved of many recent Chancellors, but not by the tax profession. Notable pre-Budget predictions that failed to materialise were increases in the rates of CGT and a lowering of the threshold for the yet-to-be-introduced mansion tax.

Banks

The largest share of the increasing tax burden (almost £1bn for 2026/27) is to be picked up by the banking sector with the (not unexpected) increase in the bank surcharge by 3% (though not the full 5% increase some had feared). This takes the rate of corporation tax paid by banks up to 31%, but it is, for now, a temporary measure, slated to last for only 15 months from January 2027.

Income tax

Whilst the Chancellor held firm to the Labour commitment not to increase income tax for “working people”, those working but also in receipt of savings and rental income were not so lucky. The increased rates introduced last year to take effect from April 2027 have been increased even before they had chance to take effect and will now be 4% above other income tax rates. Though it is worth noting that these changes will raise only £160m in the first year. There remain no changes to the tax rates applied to dividend income.

Pensioners in receipt of just the State pension will be protected from income tax in another measure, the Pension Tax Allowance, that, whilst understandable, just adds more complexity. However, other arguably unjustifiable features of the tax system, such as the cliff-edge around nursery and childcare benefits and the 62% marginal tax rate for those earning £100,000 plus remain despite recent attention on the inequity of the current system.

Modernising the distributions framework

Despite significant adverse feedback in response to the government consultation that took place over the summer (to the disappointment of many tax advisers), the government has confirmed it intends to proceed with all seven proposals covered in the original consultation proposal (with modifications to reflect aspects of the feedback provided), which will create significant additional complexity for affected taxpayers and will close off a number of common approaches to business restructurings such as demergers. The measures are intended to take effect from April 2028, providing a window for potential impacts to be assessed.

Capital allowances

Whilst maintaining the full expensing regime for new and unused main-rate plant and machinery, the government has decided to raise revenue (over £750m in 2026/27) by reducing the main rate of writing down allowances by two percentage points, taking the rate to 12% from April 2027. At the same time, the government is increasing incentives for new investment by raising the main rate First Year Allowance (FYA) from 40% to 50%.

Entrepreneurs

Following on from the Call for Evidence on tax support for entrepreneurs, the government is introducing a new form of tax relief for entrepreneurs, Founders’ Relief. The relief is intended to focus support on founders and early investors who have made a significant long-term contribution to the creation and development of the UK’s most high-growth and innovative companies, providing a lower 10% rate of CGT for qualifying disposals of shares or securities on or after 6 April 2027. The government is consulting on the practical application of the relief until 30 November 2026. In stark contrast, the original entrepreneurs’ relief (now Business Asset Disposal Relief) is being restricted to a lifetime limit of £500,000.

Sovereign tax status

The government has announced that it will legislate, with effect from 1 January 2029, a new sovereign tax status available for states, heads of state and emanations of states, while bringing certain income and gains (in particular in relation to UK real estate and UK trading activities) into direct tax, putting a sovereign tax exemption on a statutory footing for the first time. Investment management activities undertaken by sovereign investment offices based in the UK and gains arising to State-operated Overseas Pension Funds will be exempted from tax, and there will be a bolt-on to the existing UK REIT regime to support continued investment in UK real estate. A consultation has been published with a deadline of 20 January 2027 for responses.

Devolution of tax revenues

The Budget announces in a Fiscal Devolution Roadmap that funding for local and regional devolution will include a measure of tax devolution. This will include income tax assignment for all Mayors beginning in 2028; increased business rates retention, with Mayors retaining a 20% share of locally retained business rates from next year, and with local and regional government retaining 100% of business rates income by the end of the decade; and plans to legislate for all Strategic Authorities to have the power to introduce an Overnight Visitor Levy.

The income tax assignment will not include devolving the power to set income tax rates or thresholds, but will be calculated as a set number of pence for every pound of local income that is assigned. This pence in the pound rate will be consistent across England, but will be subject to floors and ceilings and a raft of detail set out in the Fiscal Devolution Roadmap.

Fiscal drag ultimately remains the main method of raising taxes with thresholds frozen until April 2031, despite concerns over the freeze to the personal allowance in particular. Higher inflation will inevitably bring more people into the tax net and the higher rates of income tax.

In the end, the resultant increase in complexity of the tax system by another round of tax tinkering is good for no one and cries out for the sort of reform that no party appears to have the political will to undertake. The broader picture appears to be very much one which involves postponing the tougher decisions until after this Budget, perhaps in the hope that the economic outlook will improve were global crises to settle, growth increase, inflation fall, thus improving the public finance projections by very significant amounts.