Fiscal drag

Chances are, if you have been paying attention to the money pages, that you have been reading a lot about ‘fiscal drag’. So, what is this phenomenon, what does it mean for your finances and what can you do about it?

Fiscal drag is the mechanism by which tax thresholds remain frozen while earnings rise, which happens through ‘natural’ inflation as well as the dramatic levels we have been seeing (and will likely continue to suffer through for some time to come). Cynics might say that fiscal drag is a means by which governments effectively increase taxes over time stealthily, so that they do not risk incurring the unfavourable headlines which would inevitably result from outright rises.

The figures would certainly seem to support that theory as UK taxpayers of all kinds but particularly the more affluent continue to reel from the multifaceted raid announced by Chancellor Jeremy Hunt in his Autumn Statement.

While there are currently 5.5 million higher-rate taxpayers in the UK, it is predicted that this will rise to a staggering 8 million by the end of the 2027/2028 tax year as a result of the higher-rate tax threshold being held at £50,270. Most would agree that this is not a high amount at all, particularly given the dwindling spending power of our money, and yet the Chancellor intends there to be no rise in the threshold until 2028 (if the current Conservative government remains in place).
Savers also have to contend with the fact that the lifetime pension allowance will remain frozen at £1,073,100 until April 2026, a figure which it will be all too easy for savers to exceed if they are already approaching that level due to investment gains. We have seen a huge influx of enquiries from such individuals anxious to know if there are other pension saving routes like ISAs they should be exploring.

Pension savings do however remain a useful means for top-rate taxpayers to keep back more of their hard-earned money in the face of a punishing hit which takes the upper threshold down from £150,000 to £125,140 as of April next year – resulting in an effective tax level of 60% on income between £100,000 and £125,140 (not to mention additional tax on amounts over that). Availing yourself of tax relief (at your highest marginal rate) on your pension contributions could be a very clever move.