Rachel Reeves should tax wealth properly. Here’s how…

There is another way, though. Reeves can increase taxes. Since she and the Labour government have ruled out increases in VAT, income tax and individual NI, while fuel duty increases are considered electoral suicide, she has left herself with little room for manoeuvre. Except for one area which independent experts have been saying for years is under-taxed, grossly unfair to ordinary taxpayers and ripe for reform. Taxing wealth.

There are three obvious ways of doing that. The first is generally considered implausible, an annual tax on wealth over a certain level, say 1% a year on holdings over £500,000 per person, including property wealth. But this would need a continual annual assessment of peoples’ wealth and the value of their assets, adding a whole new complicated branch to an already messy tax system.

The second choice is a one-off tax on wealth, of 1% above that £500,000 allowance, paid over five years. It would bring in £260 billion – the same amount of money as increasing VAT by 4p or basic income tax by 9p – and could be sold as a one-off hit to boost defence spending or save the NHS. Of course, it would create a huge level of protest from the right wing press and some voters would doubtless hate it, but it would be fair and because it is a one-off, easy to implement.

The third option is to reform the whole tax system. At the moment, tax is levied unfairly on those who earn and is far too lightly on those who live off their savings. Maddeningly, tax on wealth is unpopular even with poorer voters. Claims that taxing wealth is a double taxation seem to resonate with people; and even the worse-off think they may one day be rich. 

But what we are really talking about is taxing at the level of wealth that allows people to pass down so much money to their children that they enjoy huge advantages over everyone else. 

Independent research group the Institute for Fiscal Studies recently found that children who inherit from the wealthiest 20% of parents will see the money they receive rise from an average of 17% of their lifetime income for those born in the 1960’s to 30% for those born in the 1980s. This is a huge rise in unearned income, mainly caused by rocketing property values and mostly untaxed.

This is why Adam Smith, the founding father of capitalism was all in favour of inheritance tax, as it levelled the playing field and allowed talent to prosper. 

So, what would reforming the tax system to re-balance the tax take look like? First inheritance tax levels need to increase, and all loopholes closed. This would easily bring in £2 billion a year.

Secondly, the tax breaks for those with savings are huge and far too generous. Capital gains tax really ought to be at or near to the tax on income, but it is far lower at the moment at 20% for higher-rate taxpayers. This actually discourages risk-taking and entrepreneurship.

The idea of a low CGT rate is that it rewards people who invest in risky undertakings which then hopefully help overall economic growth – things like AI firms or green technology. Instead, what happens is that people can sit on boring, safe-as-houses investments in dull, low-growth sectors and still make a handsome living. There is no risk involved at all and no incentive to move the money around to try to find a higher return because by staying put you can avoid paying tax.

As a result, people sit on investments for a very long time and make a good living. They even have an incentive to never sell up as they avoid any CGT when they die. This makes it nothing but a tax dodge – your incentive is to invest in something with little or no risk and use it to avoid both CGT and a lot of inheritance tax too.

Reforming the system would tax these unearned incomes at a higher, fairer level similar to that on wages but would also target tax breaks at those investing in growing or developing businesses to incentivise risk-taking and economic growth. Only 350,000 individuals or 0.65% of the adult population, pay any CGT at all. Reforms could bring in £14 billion a year.

Third, the lower taxation of dividends and self-employment are an incentive to dodge income tax by paying yourself in dividends or setting up as a freelancer and should go. The lower NI rate for the self-employed alone costs £6 billion a year. 

Fourth, the tax breaks on pension savings are weighted towards the wealthy, who save 40% on their contributions as against 20% for basic rate taxpayers. This costs the Treasury £38billion a year. Creating a single rate of 30% for everyone would be fairer, encourage savings by the poorest and raise £10 billion a year.

Finally, while it is the principal creator of wealth for most people, your family home’s value is exempt from capital gains tax. Yet we know that anyone who inherits a property in the south east of England and other property hotspots is made for life. A decent rates system would help solve this issue and bring in substantial amounts of money. Taxing capital gains on property would bring in even more.

In theory, all these reforms would bring in billions and encourage more risk-taking, entrepreneurship and even fund cuts to taxes on earnings from work. 

But an opinion poll in Monday’s FT exposes the struggle the government faces. It seems that the general public still believes there is a “magic money tree” out there somewhere. They want higher military spending, but don’t think welfare cuts are necessary or desirable nor are they willing to see taxes increase, except on business, which has already happened. 

Cakeism was not a Boris Johnson invention; Margaret Thatcher convinced the country 45 years ago we could have low taxes and everything the heart desired and that taxing wealth was counterproductive.

The result is a totally unbalanced tax system where the poor pay a disproportionate amount and the wealthy have their assets protected from tax. Pity the chancellor who tries to change that.