Paying Doctors’ Tax Bills Doesn’t Actually Work

The interaction of pensions and tax rules means that some doctors – and other well paid professionals on a similar defined benefit pension path – face tax rates of over 100% on marginal earnings. Therefore, obviously enough, doctors in that situation tend not to do the extra work. This is causing chaos in the NHS.

It’s also an interesting example of the point that the Laffer Curve is obviously true. Or, to be precise and accurate, that there’s a rate of tax at which the substitution effect overcomes the income one and people really do withdraw their labour and we have a smaller economy.

Well, OK, the obvious answer here is to change those pensions rules. But that’s not something that is going to be done in the short term. Instead, they’re going to try a solution that doesn’t in fact work:

Doctors will have their tax bills paid by the NHS in a bid to avert a winter crisis caused by understaffing.

Thousands of medics will be offered an emergency deal, amid growing concern about the number of consultants refusing to work overtime because they are hit by a pensions “tax trap”.

The rules mean doctors can be hit with tax rates of more than 90 per cent on their earnings – including their pension contributions – if they earn more than £110,000 a year.

It means consultants are substantially cutting back on any overtime or weekend work as they can be taxed thousands for earning a penny over the threshold.

Well, why doesn’t this work? Because that marginal tax rate is over 100%. And, because someone paying the tax on your earnings for you is an addition to your earnings. Sure, it doesn’t quite work out like this in practice because the over 100% marginal rate applies only to a band of earnings. But if it didn’t then we’d have to make doctors’ earnings infinite because every extra bit of tax paid by the employer would add to their income, generating an additional tax bill of more than the amount just paid as extra tax for them.

Just so we know where to apportion the blame this is George Osborne. He was regarded as a political wunderkind, using his powers as Chancellor to do things that gained votes. Hmm. But the actual point is that a political Chancellor never does quite seem to do things that make sense.

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PJH
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PJH

“the obvious answer here is to change those pensions rules”

Or stop paying so many doctors over £150,000 per annum.

Mr Yan
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Mr Yan

Yeah, jacking up doctors pay for no additional work (like non-working hours opening or weekend work) was Labour so it’s not all Osbourne’s fault.

RichardT
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RichardT

It could work if the money to pay their tax is non-pensionable. The original problem is a combination of two taxes: – doctor works more hours, gets more pay, which is taxed; – extra pay increases their income, and therefore increases their expected future pension (because their pension is calculated as a percentage of their their salary), which increases the notional value of their notional pension fund (the extra capital value of the fund is assumed to be 20 times the extra pension), which takes them over the threshold where they get hit with Osborne’s fat-cat pension tax charge. So… Read more »

PJH
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PJH

“However that begs the question – why don’t the doctors just forgo the pension on their extra salary in the first place, if that’s causing the problem? I think the problem is that they actually can’t, due to the unique way the whole arrangement is structured. For example: “As part of the new workforce strategy it was announced a new 50:50 pension scheme would be considered so that high earning GPs and other clinicians can cut their pension contributions by half and receive half the amount of their pension in return – meaning they avoid the tax penalties.” Ah, but… Read more »

Michael van der Riet
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Michael van der Riet

Without an illustrative calculation, this post is meaningless.

Jim
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Jim

“Just so we know where to apportion the blame this is George Osborne. He was regarded as a political wunderkind, using his powers as Chancellor to do things that gained votes. Hmm. But the actual point is that a political Chancellor never does quite seem to do things that make sense.”

As this policy is managing to get ‘public servants’ who have their noses firmly in the trough to voluntarily publicise this fact to the voters, I’d say its not doing too badly actually.