Five things to expect from Kwasi Kwarteng's emergency mini-budget

Liz Truss's new chancellor is set to reveal sweeping tax cuts in his emergency budget next week. What will it mean for your finances and the economy?

A new broom sweeps clean, and Liz Truss’s government is planning a series of large-scale tax cuts that could affect your finances, and the future of the UK economy.

Next week’s emergency mini-budget is expected to focus on stimulating economic growth by cutting taxes. The planned cuts could help consumers and businesses struggling with escalating costs.

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But there’s no such thing as a free lunch, and critics argue that Chancellor of the Exchequer Kwasi Kwarteng’s plans would increase the level of government debt and could force tax rises or cuts to public services in the future. The tax cuts, by giving consumers more money to spend, could heap coals on the fire of red-hot inflation, prompting higher interest rate rises in the future.

1. Energy support package

After the longest job interview in history, Liz Truss’s energy support package was finally announced last week, but details are still thin on the ground. The policy would see the average energy bill capped at £2,500 for two years, with support also available for some businesses.

The bailout won’t come cheap, costing an estimated £100 billion, more than the cost of the furlough scheme during the Covid pandemic. The exact cost of the support package is still a moving target and will depend on the price of wholesale energy over the months and years ahead.

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In the short term, the plans will rein in retail inflation: the average energy bill was due to reach £5,000 in January and a possible £7,000 by March 2023. But in the medium-term, the energy package could simply defer inflationary pain. In fact, longer term inflation may be even higher as lower energy bills give consumers more money to spend and further increase inflationary pressures.

2. Income tax

Part of Liz Truss’s leadership pitch was a plan to cut Income Tax by 1%, and there are rumours that this headline-grabbing policy could be brought forward to next week.

There are all sorts of combinations that would change the detail of this proposed cut. Here are some of the things to watch out for:

• Change in higher rate threshold: there are rumours that Kwarteng may raise the higher threshold for Income Tax to £80,000. This would reverse years of fiscal drag and mean that only the top 5% of earners would pay the 40% rate. A change in Income Tax thresholds would be a U-turn on previous plans to freeze current thresholds until 2026, but it seems unlikely that the lower rate threshold would change.
• 60% tax rate: it’s possible that Kwasi may adjust or scrap the complicated tax rules for those earning just over £100,000. At the moment, a taper of the personal allowance means that some higher earners have an effective tax rate of 60% as their personal allowance is gradually withdrawn.
• Level of higher rate: it will also be interesting to see if higher rate taxpayers benefit fully from the 1% drop in rate. It’s possible that a change in the higher rate threshold would be accompanied by tweaks to the headline rate for higher earners, offsetting some of the cost for the Treasury.

A cut of 1% in the headline rate of Income Tax would save £174 per year for someone earning £30,000; £374 for someone earning £50,000 and £674 for someone earning £80,000.

But raising the higher rate threshold to £80,000 would save a massive £6,620 per year for someone earning £80,000, although the saving could be slightly offset by lower pension tax relief, as they would receive a lower top-up for money paid into their pension scheme.

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3. National Insurance

National Insurance (NI) proved a tough nut to crack for the previous chancellor. NI is usually a tax that flies under the radar, but Rishi Sunak’s stealthy NI rise in the spring grabbed the headlines, forcing him into reverse gear.

In April 2022, the rate of National Insurance was raised 1.25%; from 12% to 13.25% for the lower rate and from 2% to 3.25% for amounts over the higher earnings threshold.

An unpopular move, Sunak then partially reversed the changes in July by raising the NI threshold from £9,880 to £12,570, aligning it with the Income Tax threshold and lifting the very poorest workers out of paying NI. But middle and higher earners still ended up with a bigger bill than before the first set of changes as the higher rate of tax more than offset the increased threshold.

Kwasi Kwarteng has promised to reverse the NI rises, but he has various options. It seems likely NI rate will drop back to 12% for the lower rate and 2% for the higher rate, but it’s not yet clear if Kwarteng will revert to the previous lower NI threshold. Not dropping the threshold would result in a bigger net tax cut and lower the total NI tax take from the 2022/23 level.

Scrapping the recent National Insurance changes would save around £235 per year for a middle earner on a salary of £30,000, whereas a higher earner on £50,000 would save around £1,093 per year. There would be no change for many lower earners.

• National Insurance changes: will you pay more?
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4. Corporation tax

A Corporation Tax hike is currently planned for April 2023, leaping up from 19% to 25%. It’s a controversial rise, and one that will push the UK to one of the highest rates for businesses in Europe. It’s estimated that cancelling this tax rise could cost the Treasury around £17 billion per year by 2026, but it could also encourage foreign investment in UK companies.

Under expected plans to scrap the rise, a small business with profits of £50,000 would save no Corporation Tax, as their taxes were not due to increase. A medium sized business with taxable profits of £500,000 would save £30,000 in Corporation Tax and a large business with taxable profits of £2 million would save £120,000 on their tax bill.

5. VAT

Another rumoured policy under consideration is a cut to VAT from 20% to 17.5%, or even 15%. It would be popular with consumers as it would offset some of the recent inflationary price rises. On the other hand, critics point out that reducing VAT could stimulate inflation and lead to interest rate rises.

A cut to VAT would save the average household an estimated £1,300 in VAT over the next year. But like so many of the policies proposed, could cost Brits more in the years to come when government debts need to be repaid.

For the new chancellor, it’s an unenviable task as he tries to weigh up the short and longer-term needs of consumers, businesses and the wider economy.

Impact on the economy and the FTSE 100

The Government’s pro-growth agenda and fiscal expansion is likely to be broadly positive for the markets as policies could stimulate the wider economy and reduce the risk of a deep recession. But in the medium term it’s a more complex picture.

Expansional fiscal tax cuts could spur inflation and prompt further interest rate rises, increasing the cost of borrowing for businesses. We could see pressure on housebuilders and some appreciation in the pound if it’s clear that the chancellor’s policies will worsen the inflationary problem.

With many of the expected tax changes already priced in, it’s unexpected news that is likely to have the biggest impact on share prices. Watch this space as more information on the nature and size of likely tax cuts emerges over the next week.