Taxes on different forms of personal income provide the biggest source of revenue for government. In our latest forecast, we expect National Insurance Contributions (NICs) to raise £131.0 billion in 2017-18. That would represent 17.6 per cent of all receipts and is equivalent to £4,700 per household and 6.4 per cent of national income.
The main reason that NICs is the second biggest source of revenue (after income tax) is that personal income makes up the majority of total national income. NICs is only levied on the labour income (the wages and salaries of employees and earnings of the self-employed) element of personal income. Different types of NICs are paid by employees, employers and the self-employed. In all cases, earnings are no longer subject to NICs when a person reaches the State Pension age.
NICs revenue is collected in a variety of different ways:
- For the majority of employees, it is paid via the pay-as-you-earn (PAYE) system and is known as ‘Class 1’ NICs (including the Class 1A/1B element paid by employers). The amount of NICs to be paid is calculated by the employer and transferred directly to the tax authorities (HMRC). This is also known as being deducted at source. It means the individual does not need to deal directly with HMRC and that the tax is paid promptly. We expect 93.4 per cent of NICs in 2016-17 to be raised through the PAYE system.
- For the self-employed, it is paid via the self-assessment (SA) system. This is mostly Class 4 NICs, but a small amount is Class 2 NICs for those with smaller amounts of self-employment income (Class 2 is set to be abolished in 2018-19). The amount of tax to be paid is calculated by the individual and declared on a tax return sent to HMRC. Tax returns and associated payments are completed after the tax-year has ended – in most cases in the following January (so January 2018 for the 2016-17 tax year). We expect 2.2 per cent of NICs in 2016-17 to be raised via the SA system.
- Other smaller sources of NICs include Class 3 (voluntary payments for those wishing to add to their NICs record), statutory payment deductions (related to statutory maternity pay), personal pension rebates, state scheme premiums, investigation settlements and repayments. Taken together, we expect 4.4 per cent of NICs in 2016-17 to be raised from these sources.
For most employees income tax is also deducted at source while the self-employed pay income tax via SA.