The Chancellor Jeremy Hunt announced a further 2p cut to National Insurance contributions in his Spring Budget, with the reduction taking effect from 6 April.
National Insurance contributions will reduce from 10% to 8%, with self-employed workers receiving a cut from 8% to 6% in the rate they pay. This follows the decision to cut NI rates by two percentage points (or 2p in every pound) in last year’s Autumn Statement.
National Insurance contributions are paid each year by those in employment, so that they can qualify for certain benefits, most notably the State Pension. Normally, these contributions automatically come out of your pay if you are employed by someone else, or you must submit them yourself if you are self-employed.
Although the announced cuts to National Insurance contribution rates certainly sound good at first glance, as lower rates mean less money coming out of your pay, the freezing of other tax thresholds means you won’t necessarily end up better off overall.
In this article, we’ll take a detailed look at how National Insurance is changing and how these changes might benefit you.
How do National Insurance contributions work?
If you’re over 16 and you earn a certain amount from your job, then you pay mandatory National Insurance contributions (NICs). First, we’ll outline the current rules, then in the next section we’ll look at what’s changing this year.
If you are an employee and you earn more than £242 a week (£1,048 a month) from your job, you pay Class 1 contributions. These are automatically deducted from your pay by your employer on any portion of your pay between £242 to £967 a week or £1,048 to £4,189 a month – previously this was at a rate of 12%, but this was lowered to 10% on January 6. You also pay 2% on any portion over the upper limit. These payments continue until you reach the State Pension age, which is currently 66 for both men and women.
If you’re self-employed and make a profit of more than £12,570 a year, you currently pay Class 2 and Class 4 contributions. Since you have no employer, you have to make these payments yourself, usually via your Self Assessment tax return. Currently, Class 2 contributions are £3.45 a week, while Class 4 contributions are 9% of any profits between £12,570 and £50,270 and 2% of your profits over £50,270.
By making these contributions each year, you build up ‘qualifying years’ on your National Insurance record – you need 35 qualifying years to be entitled to the full new State Pension when you retire.
If you don’t earn enough to meet the lower threshold for paying National Insurance, you will still be treated as having qualifying years if you earn over £123 a week (employed) or £6,725 a year (self-employed). You can also get National Insurance credits to fill gaps in your record if you are not working due to illness, having to care for someone, or raising a child. Read more in our article When can I claim National Insurance credits?
If there are gaps in your National Insurance record, you can buy qualifying years by making Class 3 contributions. You can buy up to 10 years’ contributions at a rate of £17.45 per missing week of NI contributions (£907.40 per year). This will boost your pension by just over a fiver a week, or around £302 a year. Bear in mind that you can only usually make up gaps from the previous six years.
What are the changes to National Insurance?
The announcements in the Chancellor’s Spring Budget included further cuts to National Insurance, meaning that less money will come out of people’s pay each year in order to fulfil their qualifying years.
The Chancellor announced another 2% cut to Class 1 contributions from April 6, bringing the rate down from 10% to 8%. The 2% rate on earnings over £967 a week will remain unchanged. Laura Suter, director of personal finance at AJ Bell, said: “Someone on £35,000 a year is saving around £370 a year as a result of those changes, while someone on £50,000 a year is saving almost £970 a year from April.”
“But the lowest earners would have been better off under a tax system where the income tax thresholds had increased with inflation. Someone on £15,000 a year would pay no income tax from April if the Personal Allowance had kept pace with inflation – as it would sit at £15,225 from April. That change would make them better off to the tune of almost £390 a year, even with the higher National Insurance bill.”
Self-employed contributions are also set to be cut. Class 2 National Insurance is being abolished entirely, and the Class 4 rate will be reduced from 8% to 6% from April.
Are the changes to National Insurance rates a good thing?
On the face, these changes sound like good news for UK workers’ wallets – but some experts warn that the benefits may not be as great as they sound.
This is mainly because income tax rates and thresholds, as well as the thresholds for National Insurance Contributions, have been frozen since 2021, and will remain frozen this year. What this means in practice is that, as wages naturally increase over time, people get disproportionately pulled into higher tax brackets and the government collects more money in tax. This effect is known as fiscal drag, because people are essentially “dragged” into paying tax, or paying at a higher rate.
Toby Tallon, tax partner at professional services and wealth management group Evelyn Partners, said: “A further NIC reduction is evidently cheaper than a similar cut to income tax and as it prioritises earned income over unearned income it can be billed as a growth strategy that encourages work.
“It’s a reasonably significant tax cut in isolation, but it is swimming against a rising tide of taxation due to frozen or falling allowances and thresholds, not just for income tax but also capital gains, dividend and inheritance taxes.
“The drop in NICs will provide temporary respite against that rising tax burden, but will just push down the road the point at which the overall tax situation for most people starts to feel more onerous again. According to independent analysis, this Budget won’t prevent the overall tax burden rising to its highest levels since the second world war by 2028.”
Suter said: “To gauge the real scale of the cut you’d need to compare a system where income tax bands were never frozen, and instead kept pace with inflation since 2021, and National Insurance remained at 12%, with the system we will have from April. And there are winners and losers whichever way you spin it.”
Some commentators have also noted that cutting only National Insurance and not income tax will deliver no benefit to most retirees, as pensioners do not make National Insurance contributions in the first place. However, pensioners will still benefit from a considerable hike in the State Pension, thanks to the government’s decision to uphold the triple lock.
Suter said: “Those above State Pension age and earning less than the NI threshold of £12,570 will see no difference from the cut. The reason that a cut to National Insurance is cheaper than the same cut to income tax is because it benefits fewer people. Those over State Pension age don’t pay National Insurance, whereas they do pay income tax. Having reportedly committed to the State Pension triple-lock, Hunt has clearly decided he can afford to annoy a few pensioners by cutting them out of the tax savings.”
Experts have expressed concern that the National Insurance cuts could fuel inflation as well, despite the government’s goal to reduce inflation to its 2% target by 2025. There are fears that the Bank of England will consequently be forced to hold the base rate at 5.25% into summer instead of cutting it in the spring as hoped.
This would be bad news for borrowers, as it would mean that interest rates on personal loans and mortgages will likely stay relatively high. Many homeowners will have spent months waiting for interest rates to stabilise and mortgage deals to become more attractive, and further delays mean that they have to either settle for a deal now or stay on their lender’s Standard Variable Rate.
Sarah Coles, head of personal finance at Hargreaves Lansdown, said: “While people who are struggling to make ends meet are crying out for some relief from tax, it could do more harm than good if it keeps interest rates higher for longer – so that what we gain from tax cuts we lose in higher mortgage payments.”
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