The chancellor's decision to cut the top tax rate from 50p may well frame the election argument in 2015, says Patrick Wintour
"This was too good a deal for any self-respecting liberal to walk away from," was the assessment of one Liberal Democrat intimately involved in the protracted negotiations that led to Wednesday's politically charged budget.
"We have seen a shift from taxing income to wealth, we have got a big increase in our flagship policy on tax allowances, and we have a version of the tycoon tax in the cap on allowances. We even have a mini-mansion tax through the increase in stamp duty on properties worth more than £2m."
In return, the Liberal Democrats have given away the perilous cut in the top rate of income tax to 45p next year. That leaves them open to the charge that they have become a doormat for millionaires, even though the Treasury red book claims the 330,000 people earning more than £150,000 a year – the top 1% enjoying the income tax cut – will pay an additional contribution of £1,300 a year to the taxman.
The sum takes into account a climbdown on the use of tax shelters and the increase in stamp duty rates for £2m-plus properties. Danny Alexander, the Lib Dem Treasury chief secretary, argues that an ineffective tax on the rich has been dumped in favour of one that works. The Treasury admits its figure of £1,300 a year is an estimate from the HM Revenue & Customs.
Ed Balls, the shadow chancellor, dismissed the number as ridiculous and based on heroic assumptions that had not been fully put to the Office for Budget Responsibility. Balls says the HMRC figures show the cost of a cut in the top rate of tax to 45p is £3bn in 2013-14, six times more than will be raised from stamp duty and other measures.
This will be the big political battleground for the budget and will be contested for days. Are the rich really still in this together with the rest of Britain? The outcome of that argument will be crucial for the Tory brand and George Osborne's own political career. It may well frame the election argument three years hence.
Nick Clegg's Lib Dem aides admit they faced a problem at the outset of the negotiations. They were determined that this should not be a mid-term consolidator's budget, with no shift in the macro-economics and little change in tax structure. Before Christmas, Clegg decided in conversation with his chief aides to put his negotiating demand for the budget in public for all to see. Not only would he state in public that he wanted to accelerate the lifting of personal allowances towards the goal of eliminating tax for people earning £10,000 and less, he would also make a speech putting that case, as he duly did at the Resolution Foundation, warning if the government did not act, the angry hardworking classes might boil over.
He also told his aides to mount a campaign for the move, using election broadcasts, Twitter, internal party propaganda and even coaxing sympathetic editorials. If Osborne wanted to continue to play the role of a submarine emerging only at budget time to set out his thinking, Clegg, as leader of the minority coalition party, would play the role of a noisy Mississippi showboat, bobbing up and down and drawing attention to himself.
In the process, he sought to make absolutely sure that raising the personal allowance, taking two million out of tax altogether over the parliament, was a policy wholly owned by the Liberal Democrats. Clegg, though, is fully aware that David Cameron plans to brand this as an impeccable Tory measure at the election. Whoever gains the credit for raising the personal allowance to £9,205 stands to gain huge benefit. It was the single largest increase in personal allowances in cash or real terms for 30 years and puts the coalition in touching distance of its goal of a £10,000 personal allowance, with benefits for 24m people earning less than £100,000 a year.
But Clegg had not expected that Osborne would have an equally radical counter-demand of his own. This would not just be a budget for millions, but also for millionaires. There would be a cut in the top rate of tax either to 45p or 40p, part of a budget for business investment linked to the 1p extra cut in corporation tax.
There had been little forewarning that Osborne would be willing to take such a symbolic risk, one that Lib Dems recognised would totally dominate the coverage if sprung on an unsuspecting public in the budget speech itself. In the end, Osborne's thinking leaked, drawing some of the political poison but making for some messy briefing ahead of the budget.
In his speech, Osborne tried to set out his case with care: "The 50p tax rate is the highest in the G20. It is higher not just than the tax rate of America, but also of major European countries like France, Italy and Germany. It is widely acknowledged by business organisations and international observers as harming the British economy. A 50p tax rate with all the damage it does to Britain's competitiveness can only be justified if it raises significant sums of money."
He said the HMRC study he commissioned found that an astonishing £16bn of income was deliberately shifted into the previous tax year to avoid paying the tax and the increase from 40p to 50p had raised just a third of the £3bn "we were told it would raise". The direct cost of lowering income tax to 45p would be a net £100m a year, money that would raised five times over by capping other tax reliefs. His aides were careful to keep open a further tax cut.
Labour said it was ridiculous to suggest the 50p rate raised next to nothing and countered that it was premature to make a judgment on the basis of one tax year. HMRC had run up the white flag to the tax avoiders, it claimed. But Balls was careful not to promise to restore the tax back to 50p.
The leaking of the cut in the top rate left attention focused on the few measures left untrailed, especially the £3.5bn tax raid on pensioners over the next four years. Nearly 4.5m pensioners who pay income tax will lose an average of £83 from next April to the freeze on the personal allowance. These people religiously vote Tory and are quintessential middle Britain, earning £20,000-40,000. Osborne weakened his case by disguising the measure as a piece of helpful tax simplification.
Privately, government sources said pensioners had been doing fine by the government and, at some point, had to take their share of the hit. But it is not ideal to do this when 14,000 people earning £1m or more are getting a tax cut of more than £40,000 a year. So much for clamping down on the crony capitalists.
There was also a final sting in the tail and a reminder that this parliament is primarily about the deficit: Osborne warned he would have to find another £10.5bn cut in welfare cuts in 2016-17 to meet targets.
For the Lib Dems, the deal-making has to go on.