Proposals for an “NHS tax” would be unfair to the younger generation

David Kingman argues that an “NHS tax” must be fair to all generations, in the increasingly likely scenario that one is implemented following the next general electionYoung Man Empty Pockets

According to a recent article in The Independent, it is now an “open secret” within political circles that the NHS is heading for a dramatic funding crisis at some point soon after the next general election, which is scheduled for May 2015.

As a result of this, the idea of safeguarding the future of the NHS by introducing some kind of dedicated tax is gaining considerable traction. Yet the proposals which are apparently being considered would be unfair to the younger generation, without whose support the system would be unlikely to hold together in the long term, potentially creating bigger challenges further down the road.

Reaching a crisis point?

Of course, claims that the NHS is reaching a “crisis point” have lost some of their impact these days, as it sometimes feels as though doom-laden projections about the sustainability of the NHS have been appearing for years without the health service falling apart.

However, several respected bodies have recently warned that the NHS is facing unprecedented challenges in the short term. The highly-respected think tank the King’s Fund has added its voice to the rising tide of concern by publishing a new report which shows that a quarter of all NHS Trusts are already running deficits, while the scope to save money using conventional cost-cutting techniques has almost been exhausted. Add in the long-term pressures caused by Britain’s demography, and the warnings about the future viability of the NHS seems very worrying.

Is National Insurance the answer?

A solution to the NHS funding problem which looks increasingly appealing to many politicians is the idea of introducing a dedicated tax which could be ring-fenced to fund the service.

At the moment, most of the NHS budget comes from general taxation (with a small component paid directly out of National Insurance contributions). Funding a specific service out of a dedicated tax is known as “hypothecation”, and there are relatively few examples of it in the British tax system. Many economists dislike this approach for the practical reason that there is a danger the amount of revenue raised by the tax and the amount of money needed to pay for the service will move in opposite directions over time, creating a shortfall; the Barker Commission on the Future of Health and Social Care in England rejected a hypothecated tax for this reason in their interim report.

However, the idea of a hypothecated “NHS tax” is appealing to politicians because it would enable them to claim that they had fixed the service’s funding problems, while also to a large extent taking out of their hands the responsibility for deciding whether to cut the budgets for other services to devote more resources to the NHS.

The idea which has been circulated most widely, especially by the Labour Party, is that National Insurance could be increased to pay for a ring-fenced NHS fund. This solution would have its own appeal: part of an individual’s National Insurance contributions is already hypothecated towards funding the NHS (although this provides a small amount of the total NHS budget). Gordon Brown successfully increased National Insurance rates while he was Chancellor in order to fund an increase in the NHS budget, and – best of all as far as the politicians are concerned – there seems to be some evidence that voters are less resistant to paying higher National Insurance than they are to other forms of tax increases.

However, while it may have a certain appeal, there are also significant drawbacks to this solution which need to be discussed. Most importantly, it would be inequitable because National Insurance is drawn from a relatively narrow section of the population.

From an intergenerational point of view, the fact that people stop paying National Insurance contributions when they reach state pension age means that younger workers would be bearing a disproportionate burden in order to fund a service which primarily benefits older people. It would also be socially regressive because National Insurance is levied entirely on earned income, so it hits workers who rely on wages rather than those with unearned income such as pensions or asset wealth; and it harms lower earners disproportionately because the level of salary on which workers have to pay National Insurance is capped by the Upper Earnings Limit (UEL), so very high earners do not pay contributions on their full salaries.

Taken together, this means that using National Insurance to pay for a hypothecated NHS fund would result in younger workers and those on low incomes disproportionately funding a service which primarily benefits older people – and wealthier older people at that, as they tend to live longer than average and would have more to lose if the NHS didn’t provide universal coverage regardless of wealth.

To their credit, some politicians have acknowledged these limitations. Labour’s Andy Burnham has revived the idea of taxing peoples’ estates after they’ve died to recover health and social care costs, but – whatever their practical merits – such proposals have always run into the public hostility to the idea of taxes on inheritance. If the NHS is in danger of a serious funding crisis then clearly we will need to come up with radical new ways of paying for it – but using National Insurance has too many negative features to be an attractive option in practice.