National Insurance: The Story of the Tax Behind the Headline

National Insurance (NI) is a fundamental component of the UK's social security system, often misunderstood and frequently debated. This tax, which affects most workers and employers, has a rich history and plays a crucial role in funding various state benefits.

Whilst NI is far from a conventional insurance policy, like the kind you might take out with a broker to cover your car, in principle, it works in a similar way. Except that you share your policy with over 68 million people. Read on as we dive into the story behind National Insurance, as well as what's in store for it after Labour's 2024 Autumn Budget.

The historical context to National Insurance

The roots of National Insurance can be traced back to the National Insurance Act of 1911, which laid the groundwork for the system we know today. Initially, it was a scheme where employers would purchase stamps from the post office and affix them to contribution cards for their employees.

This manual process has since evolved into the sophisticated electronic system used in modern payroll departments. The introduction of the 'welfare state' in 1948 marked a significant shift, consolidating separate schemes for health, pension and unemployment benefits into one (slightly) simpler system.

By 1975, the flat-rate stamp system was replaced with earnings-based contributions collected alongside income tax through PAYE, meaning people and employers contribute a proportion of their incomings.

How it works

Unlike private insurance policies, National Insurance is a tax-based system. Employees, employers and the self-employed all pay National Insurance Contributions (NICs), which are then go towards state benefits and the National Health Service (NHS).

There are different classes of NICs, each serving a specific purpose:

• Class 1: Paid by employees and employers
• Class 2 and 4: Paid by self-employed individuals
• Class 3: Voluntary contributions to fill gaps in NI records

As previously stated, the amount a person pays depends on their earnings and employment status. For the 2024/25 tax year, employees are paying 12% on earnings between £242 and £967 per week, and 2% on earnings above £967 per week.

The National Insurance Fund

NICs are held in the National Insurance Fund (NIF), which operates on a pay-as-you-go basis. This fund is designed to handle fluctuations in contributions and deductions, ensuring there's enough capital to cover periods of high demand, such as during times of increased unemployment.

Debates and calls for reforms

Over the years, there have been quite a few debates about reforming the National Insurance. Former Chancellor Nigel Lawson and ex-Prime Minister Gordon Brown both implemented significant changes, primarily aimed at reducing the burden on lower-paid workers and their employers.

NI in the 2024 budget: the view from politicians and businesses

The complexity and impact of National Insurance have sparked various opinions from politicians, business leaders and insurance companies.

Rain Newton-Smith, CEO of the Confederation of British Industry (CBI), said that a rise in National Insurance would be seen by employers as a "challenging decision" that would "raise the expenses of hiring new staff".

Alex Veitch, Policy Director at the British Chambers of Commerce, cautioned that increasing employer National Insurance contributions would "stifle growth and reduce the funds available for businesses to invest in their workforce."

However, many believe that the taxes will be crucial for reinvigorating many of the UK's outdated and underfunded public services. In a statement issued alongside the new budget, the Government said the taxes "will go directly towards fixing the foundations and funding public services such as the NHS and education."

Labour Chancellor Rachel Reeves acknowledged the impact of the changes, stating on BBC Breakfast, "I mentioned that there will be consequences. Businesses will need to absorb some of this through their profits, which likely means that wage increases may be slightly less than they would have been otherwise"

"We are asking business to contribute more and I know that there will be impacts of this measure felt beyond businesses. But in the circumstances that I have inherited, it is the right choice to make," Reeves later told parliament, emphasising that those with the "broadest shoulders" should bear the heaviest burden.

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