Finance Friday - My Thoughts on Labour's First Budget

The wait is finally over. The Labour government’s first budget in over 14 years has officially been announced.

There were many rumours about which taxes Labour might increase in the budget to address the “￡22 billion black hole,” which Chancellor Rachel Reeves said she had “inherited” from the previous Conservative government.

In the lead-up to the General Election, Labour was very clear that there would not be any increases to Income Tax, National Insurance Contributions (NICs), and VAT. Combined, these three taxes account for about 75% of the government’s total tax revenue. During the run-up to budget day, Labour were consistent with their messaging in that there would be no tax increases for “working people,” although there was some inconsistency regarding what defines a “working person.”

With limited room to raise funds for essential public services like schools and the NHS, it meant that Capital Gains Tax, Pensions Tax Relief, and Inheritance Tax were all in scope for potential increases. This effectively targeted wealth rather than income.

Wednesday’s budget announcement was the first to be delivered by a woman in UK history. Regardless of one’s views on the budget itself, Rachel Reeves did a fantastic job presenting a highly challenging and complex budget. She delivered it with confidence, clarity, and conviction, inspiring “girls and young women everywhere” by showing there is no “ceiling on your ambition, your hopes, and your dreams, which she “proudly” declared as the first female Chancellor of the Exchequer.

Labour already announced before the election that VAT exemption for private schools would no longer apply, with the 20% rate applicable from January 2025. The Chancellor reaffirmed this in her budget speech on Wednesday, along with removing business rate relief for private schools from April 2025. The money raised from the tax on private schools is intended for state school investment after what the Labour government claims was years of “underinvestment” by the previous Conservative government. Reports suggest a potential mass exodus of students from private schools to grammar and state schools, as some parents may struggle with the VAT increase, which many private schools have expressed they will pass on.

One of the big announcements in the budget was the increase in employer National Insurance Contributions (NICs) to 15% (up from 13.8%). The threshold at which employer NICs kick in has also been reduced to ￡5,000 (from ￡9,100 currently). Both will take effect from April 2025. For an employee earning ￡50,000 per year, this adds an additional ￡1,105 in employer NICs. Smaller businesses received some relief, as the Employer’s Allowance, which allows eligible businesses to claim a maximum of ￡5,000 from the government toward their NI liability, was increased to ￡10,500.

The government estimates that the NIC increases will bring in approximately ￡25 billion annually, which is the single biggest contributor to the ￡40 billion in announced tax rises. The increase in employer NICs was also contentious, given the Conservative government's argument that this breaks Labour's manifesto of not increasing NICs.?

While the increase in employer NICs does not directly impact employees, there could be indirect and potentially unexpected consequences. This is a significant cost for businesses to absorb, and they may choose to pass it on to consumers through higher prices. Employers may also reconsider future pay raises, impose hiring freezes, or, in severe cases, initiate staff redundancies. If shop prices start increasing, this could drive inflation higher, which could, in turn, impact mortgage rates. This is a big watch out for the government, as inflation at 1.7% is now back below the Bank of England’s 2% target.

Before the announcement, one rumoured change was a possible increase in Capital Gains Tax (CGT) to align it with Income Tax, potentially as high as 45%. There was some relief that CGT did not rise as much as feared, though it did increase nonetheless. CGT rates for Basic Rate Taxpayers (those earning under ￡50,270 per year) rose from 10% to 18%, and for Higher Rate Taxpayers (those earning over ￡50,270 per year) from 20% to 24%, effective immediately. This aligns CGT with the rates for the sale of second properties, which remain unchanged. The CGT allowance remains at ￡3,000 after previous cuts by the Conservative government. Given the small allowance and the increased CGT rates, using your ￡20,000 ISA allowance within a Stocks & Shares ISA, where growth is exempt from CGT, would be prudent. For those sitting on paper losses on some investments, you can “crystallise” those losses to offset potential gains elsewhere in your portfolio to mitigate some of the CGT impact.

Business Asset Disposal Relief (BADR), commonly known as Entrepreneurs Relief, has also seen an increase. Although, the government chose to increase this in stages rather than all at once. BADR allows eligible individuals to pay a reduced 10% CGT on business sales. The Chancellor announced that BADR relief will rise to 14% in April 2025 and 18% in April 2026. A seller qualifying for BADR with a ￡100,000 profit would pay ￡10,000 in CGT today, ￡14,000 if selling after April 2025, and ￡18,000 after April 2026. The lifetime limit for BADR remains at ￡1,000,000. For those thinking about selling their businesses, it may be a good idea to bring those plans forward if necessary before the BADR relief starts to increase.

For Stamp Duty Land Tax (SDLT), the focus was more on what the Chancellor didn’t change rather than what she did. The additional surcharge on second property purchases will rise from 3% to 5%. The Chancellor believes this might deter property investors, therefore levelling the playing field for first-time buyers. It felt like a missed opportunity not to extend the current SDLT threshold. First-time buyers are currently exempt from SDLT on the first ￡425,000 for properties up to ￡625,000, but this threshold will revert to its original ￡300,000 in April 2025. The increase to the SDLT threshold was only temporary when initially introduced by the previous Conservative government.?A first-time buyer today would pay no SDLT on a ￡425,000 property, but this would cost ￡6,250 after April 2025. This may lead to a last-minute rush to purchase properties before April 2025, potentially driving up prices, especially with recent easing in interest rates. For first-time buyers able to purchase now, it may be worth considering accelerating those plans. There is also potential for the Chancellor to continue with the extra SDLT relief in her spring budget due to be announced in March 2025, although, there are no guarantees this will be the case. The thresholds in which you start to pay SDLT for non first time buyers has also reduced, meaning people will pay more in tax when purchasing their next property.

The Chancellor announced major changes to Inheritance Tax (IHT), pledging to close some of the “loopholes” used by the wealthy. IHT is applied to asset transfers at death or on some lifetime gifts. The current IHT rate is 40% (36% if over 10% of the estate is left to charity). Everyone receives a ￡325,000 nil-rate band that allows them to pass on assets without any IHT being due. This threshold was frozen until 2028 by the previous Conservative government. The Chancellor has extended this freeze by two additional years, until 2030, meaning more estates will likely fall into IHT scope, especially with rising property values. Those with children and a primary residence benefit from an additional ￡175,000 through the Residential Nil-Rate Band (RNRB). The RNRB allowance starts to reduce for estates over ￡2,000,000. Effectively, a married couple with children can pass on ￡1,000,000 worth of assets before any IHT is due. There was no changes to the spousal exemption and so there are no limits to how much a spouse can inherit free from IHT.

Pensions currently fall outside IHT for those who pass away before age 75. For those passing after age 75, IHT is not due on pension money, though beneficiaries pay Income Tax at their own marginal rate, which is essentially your highest rate of Income Tax. With the lifetime allowance on pensions now abolished since April 2024, an individual could effectively leave an unlimited amount of money in there pension that would not be subject to IHT. This has been a useful IHT planning tool. However, from April 2027, inherited pensions will now come into scope for IHT. As an example, a couple with ￡1,000,000 in assets and another ￡1,000,000 in pension money currently pays no IHT, but this will result in a ￡400,000 IHT bill post-2027 after allowable exemptions. With this change, higher-value estates may face both IHT (40%) and income tax (up to 45%) if death occurs aged 75 or over, which could mean an effective double taxation rate as high as 67% on inherited pensions after allowances.

Changes were also announced for Agricultural Relief and Business Relief, which previously were exempt from IHT; the latter after 2 years of owning the shares in a qualifying company. These will now be subject to IHT at a reduced rate of 20%, with Agricultural Relief only available up to ￡1,000,000.

Given the significance in the changes to IHT, particularly around pensions, it is likely that more people will change their approach to how they access their pension benefits in retirement. We may start to see more people gifting money from their pensions and hope that they survive 7 years in order for the gift to no longer be in their estate for IHT purposes. Given the potential double death tax on those who pass away over aged 75, we may see a switch to people holding more assets in their ISA tax wrapper instead, as the beneficiaries of the inherited assets would? only be liable to IHT, and not their Income Tax too. With property and pensions forming a significant part of an individuals overall wealth, we may start to see more people exceed ￡2,000,000 of total assets, which will reduce their RNRB (if applicable), thereby paying more IHT. It is estimated that 6% of estates pay IHT and with the announcement on Wednesday, approximately 14% of estates will fall into scope for IHT.?

IHT is one of the most 'hated' taxes in the UK. It was only earlier this year that rumours started swirling that the Conservative government were looking to abolish IHT altogether. There has always been an argument on the validity of IHT, as the government are taxing money that has already been taxed on earned income during ones lifetime in various forms. There is also a moral argument on IHT; is it right to collect death taxes at a time when families are grieving the loss of a loved one? Whatever one's view, it appears as if IHT is here for the foreseeable under the current Labour government.

In a boost for lower-paid workers, the Chancellor announced that the National Living Wage (NLW) will increase by 6.7% to ￡12.21 an hour for adults 21 and older and by 16.3% for 18–20-year-olds to ￡10 an hour, with similar increases for younger workers and apprentices. These hikes are well above the current 1.7% inflation rate, again, likely adding pressure on businesses that may pass on costs to consumers.

Pensioners received an above-inflation increase to the state pension. The maximum state pension is set to rise 4.1% to ￡11,975 per year (￡230.30 weekly) in line with the Triple Lock; this is where the state pension increases every year by either inflation (CPI), average weekly earnings or 2.5%, whichever is highest. The maximum state pension is approaching the ￡12,570 personal tax-free allowance. If the Triple Lock pledge continues, pensioners may soon find themselves having to pay Income Tax on their state pension unless the government provides an exemption.

To uphold her promise not to increase taxes on “working people,” the Chancellor chose not to extend the freeze on Income Tax thresholds beyond 2028. This freeze, introduced by the Conservatives, is a “stealth tax,” allowing the government to collect more tax without changing the headline rate, in the hope that you do not realise. From 2028, Income Tax thresholds will once again adjust with inflation.

As you can see, this was a full-on budget with much to unpack, as the Chancellor seeks to “get Britain building again.” The funding will primarily go to public services, especially schools, to create a safe environment for children to learn, and the NHS, where waiting times have risen significantly.

While there are some welcome and unwelcome news within this budget, it is not without it risks. Taxes are up, government borrowing is up, and the projected growth in the economy is not guaranteed. The Chancellor really needs to deliver on her promise to grow the UK economy through the investments she is making in public services. Should the growth in the economy not come through as expected, we could be looking at further tax hikes to cover any potential deficit, which will surely impact Labour's ability to remain in power at the next General Election.?

Godfrey Asare

Please note that the value of an investment will be directly linked to the performance of the funds selected and may fall as well as rise. You may get back less than the amount invested. The levels and bases of taxation and reliefs from taxation can change at any time and are dependent on individual circumstances.