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What the Government's National Insurance Contributions proposals actually mean

It has been widely reported that Labour's 1% rise in the employers' National Insurance Contribution (NIC) has been abolished, but this is not entirely true, according to the tax team at international law firm Pinsent Masons.

In the Queen's speech on Tuesday it was announced that a National Insurance Contributions Bill will be introduced in the current Parliament, which will confirm the measures outlined in the coalition agreement for increases to the rates of NIC from April 2011.

Catherine Robins, tax partner at Pinsent Masons, summarises the proposals: "The main rate of employees' NICs will increase by 1% to 12% (with the additional rate for earnings above the upper earnings limit also increasing by 1% to 2%) and the rate of employer's NICs will also be increased by 1% to 13.8%. These increases are unchanged from those that were announced by the previous Government. The threshold at which employers start paying NICs on earnings will be increased (probably by £21 per week, as proposed in the Conservative party's manifesto). The increased threshold will reduce (although not eliminate) the impact of Labour's 1% increase for employers. Basically from April 2011 employers will be paying more NICs in respect of anyone earning over about £20,000, but less NICs in respect of anyone earning less than this."

So while it is true that employers will pay less NICs in respect of low paid employees, she explained, there will still be an increase in NICs for employers of higher paid employees. The higher the salary, the greater the increase will be - for instance, for someone earning £150,000 a year, the employer's NICs bill will increase by nearly £1,300.

The Queen's speech confirmed that ‘under the full changes, most people would be better off relative to the previous Government's plan, and relative to no changes, all low and middle income employees would pay less tax and NICs overall'.  This is on the basis of the coalition's intention to raise the personal allowance for income tax purposes, which will be funded (at least in part) by the NICs increase. "However," says Robins, "the speech does not make clear that employers of higher paid employees will still pay more NICs in the next tax year, although about £150 less than under the original Labour proposals. High earners will also be worse off personally under the coalition proposals because they no longer get a personal allowance and so there is nothing to offset the increase in the employee's NICs rate."

So what this means in practice for an employer employing someone earning £50,000 a year, adds Robins, is that "the effect of the Labour 1% increase in NICs without the increase in threshold proposed by the Government would be an increase of £443 in the employer's NICs. The Government's threshold increase will mean that the hike in employer's NICs is reduced by about £150. However, this still means an increase in the employer's NIC bill of nearly £300.  By contrast an employer of an employee earning £15,000 will pay about £57 less NICs than at present, but under the Labour proposals would have paid £93 more."

The rise in NICs rates will also have an impact for many employees receiving benefits under share plans, Robins adds. "On exercise of an option, or vesting of an award, NICs will be due on the amount of the benefit received by the participant - except where the exercise is tax-exempt under an HMRC approved plan, or where private company shares are acquired for which there is no ready market. The increased employees' NIC rate will apply to add 1% to the overall tax/NIC liabilitywhich, for high earners, will be in addition to the increased income tax rates already in force.

"In addition, the employer's NIC costs can be transferred to a participant, and again the rate will increased by 1%.  Although there is income tax relief for the cost of meeting the employer's NICs, the overall tax/NIC burden will increase for many executives."