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What is Tax Freedom Day?

When you fill out your self-assessment tax form – or collect your weekly pay packet and see all the deductions for tax and national insurance – it might seem that you spend more time working for the government than for yourself. 

But just how much time do you spend working for the government? How long does it take to work off the burden of taxation?

In fact, the average taxpayer works for the government from New Year’s Day until sometime in late May – a date which the Adam Smith Institute calculates each year as TAX FREEDOM DAY.

How bad can it get?

Back in 1963, our tax freedom came at the end of April. But the burden of taxation was higher throughout the 1980s than it is today, following Mrs Thatcher’s early and sharp tax increases to pay for large-scale economic restructuring.

From its 1982 peak, Tax Freedom Day started to arrive ever earlier, making the UK an attractive low-tax economy for both foreign and domestic investors. This trend has not lasted, however: the tax burden rose again under Tory Chancellor Kenneth Clarke, and the present government has steadily – and stealthily – raised the tax burden. Moreover, the Budget 2007, like its predecessor Budget 2006, forecast a rising tax burden over coming years. The current recession has put a dent in the government’s plans – but only temporarily. From 2010-11 onwards, the government expects the tax take to rise again relative to the size of the economy.

Whether a higher tax ratio is a good thing or a bad thing is to some extent a matter of opinion. Someone who believes that the government (or “the State” or “Society”) is better at spending peoples’ money than they would be themselves, would presumably approve of a higher tax burden – ultimately reaching 100%. On the other hand, someone who believes that the government is always likely to do this worse than individuals, would presumably approve of a lower tax burden – ultimately perhaps no tax (and so no state) at all. It is unclear whether there is an ‘optimum’ tax burden. However, what does seem to be clear is that there is a relationship between higher taxes and lower economic growth; and also that a tax burden at around 40% of GDP is unstable in the sense that it always creeps up unless forcibly held down.

Why does it move so much?

The original Tax Freedom Day for 2008 was estimated at 2nd June. Yet a year later we find that the day was 22nd May – a difference of 11 days. Moreover, even this date is likely to prove wrong once we have final national accounts and tax data for last year. The problem is that both national accounts and tax data are large numbers with substantial uncertainty built into the forecasts. In addition, with 365 (or 366) days in a year, a shift of one quarter of one per cent in the denominator (net national income) or the numerator (taxes) is enough to cause one day’s shift in either direction. Since economic growth and tax revenues can frequently turn out to be several percentage points away from the original forecasts, we can get substantial changes in the forecast and estimated Tax Freedom Days.

An early Tax Freedom Day – a Good Thing or a Bad Thing?

On the face of it, this is a silly question. In the first place, it depends on one’s attitude towards the balance between public and private spending (see above). But there is actually a deeper meaning to the question. Tax Freedom Day measures the amount of taxes actually paid, relative to the size of the economy (Net National Income). However, governments rarely run a precisely balanced budget. More often they run deficits, more rarely surpluses. A government which raises very little money in taxes, yet spends much more than it raises, would on the face of it look good, with an early Tax Freedom Day. A government that runs a surplus in order to pay off debt accumulated by wastrel predecessors would by the same token look bad, with Tax Freedom Day falling later in the year. There is therefore a case for looking at Tax Freedom Day not only based on the taxes actually paid, but also by taking into account the government’s fiscal balance – the surplus or deficit – since ultimately, a deficit will have to be paid back out of future taxes. The difference can be surprisingly large. Over the whole period for which we have data (since 1963), the difference between Tax Freedom Day based on taxes paid in the relevant year and Tax Freedom Day taking the government fiscal balance into account has averaged 12 days. During the period since the current government came to power in 1997, the average has been 9 days. (In both cases because the government has spent more than it raises in taxes.) This is particularly relevant in the current financial and economic crisis.