What’s at stake in the debate over the ‘charity tax’?

The British government has come in for a lot of criticism over its proposal for a so-called ‘charity tax’. Despite the misleading label, the plan is not to introduce any new tax. Rather, all that has been suggested is that tax relief on charitable donors should be reduced, so that nobody can claim relief on donations greater than £50 000 or 25% of income, whichever is higher.

Now there’s been a lot of confusion about the motives behind this move, and it doesn’t help that the government keeps changing its story. As far as I can make out, there seem to be three types of argument in favour of limiting tax relief on donations:

1. That the tax relief is being abused by the rich as a way to avoid tax.

2. That the tax relief involves an unfair asymmetry between high and low earners.

3. That individuals ought not to be able to pick and choose the social causes they support.

I’m going to leave aside the first argument, which seems pretty dubious without evidence, and which the government appears to be abandoning anyway.

The second argument, as I read it, is that it is unfair that higher-rate taxpayers can financially benefit from donating to charity, while the average taxpayer cannot. Higher rate, unlike basic rate, taxpayers can have some their tax refunded. Now it is important to be clear that higher-rate taxpayers are not better off overall as a result of their charitable donations, since the tax relief will be less than the money they have given away. But the rich get bribes that the average taxpayer does not for giving to charity. To see this, consider an example (from the HMRC website):

• If a basic rate (20%) taxpayer donates £100, the charity receives an additional £25 from the Treasury through gift aid: all the tax is refunded to the charity.
• If a top rate (50%) taxpayer donates £100, the charity receives an additional £25 through gift aid as before, but the donor receives the rest of the tax refund – in this case they would receive £37.50.

Now in one sense, there is no asymmetry here: from the Treasury’s perspective, it has refunded all the tax it could charge on both donations. It respects Stephen Tall’s principle that “we shouldn’t tax income that is voluntarily foregone for public benefit”. Yet if it is just a matter of respecting this principle then it is not clear why higher-rate taxpayers, but nobody else, should get personal refunds. It would surely be fairer either to abolish gift aid, and allow all taxpayers to fully claim back the tax they would have paid on donations for themselves, or only to refund all tax to charities and not individuals. The current halfway house doesn’t make a lot of sense. As for the current proposals, they fail to address the root of the problem. Merely limiting tax relief for the rich isn’t good enough: it should be abolished or extended to all.

The third argument above is more radical, in that it seems to imply the rejection of Tall’s principle that all income foregone for the public benefit ought not to be taxed. In its strongest form, it raises the question of why it should be the case that the state should subsidise charitable activity at all.

Mark Steel is one of the few people to see that best defence of the government’s plans (though I strongly doubt he advances the argument out of any desire to defend the government) comes in the form of an assertive defence of the state. As he observes, there are certain ways in which private charity can never adequately substitute for the state (although certain anarchists and libertarians might object): “Instead of punishing this kindness [of philanthropists], we should extend it, so rather than funding the NHS through compulsory taxation, we get millionaires to wander round a ward and give a few pounds if they see a patient they think deserves curing”. Steel’s point is that forcing people to contribute to the state ensures that services are consistent, universal and not left to the whims of the generous rich. By contrast, allowing people to pick and choose which services are funded means that services will be less reliable and coordinated. If we took this argument to its logical conclusion it would imply that it is never justified to use tax refunds to promote charitable giving, since that money would always be used better and more equitably in the state sector.

Against this, we might object that private charity has advantages over state action. Its voluntariness is a major point in its favour – all else being equal, it is surely better for people to do good things because they want than because they have to. Moreover, it might be thought that cutting out the middle man of the state will create a more engaged, altruistic community. This view, that private charity should be encouraged because “Human kindness, generosity and imagination are steadily being squeezed out by the work of the state” seems integral to David Cameron’s vision of the ‘Big Society’. As a number of critics have pointed out, the ‘charity tax’ is entirely at odds with what was supposed to be the guiding vision of the government.

These two extreme positions are probably straw men, and I imagine most people believe neither that the state is always more efficient and fairer than charities, nor that charities could ever hope to replace the state. In that case, we might want to use tax to encourage charitable donations up to a point, but not so much that it involves significant losses to the Treasury. If this is our aim, then a sensible policy might be to set some sort of cap on how much tax the Treasury has to give up. Oh, wait…