The History of Income Tax and HMRC

Before HMRC, there was the Inland Revenue, and before even that there was the Board of Taxes, which first received responsibility for Income tax in 1799, when the new tax was brought in temporarily to help pay for the Napoleonic Wars.  In fact, although this tax has been in force every year since 1842, even now it retains its ‘temporary’ nature and has to be renewed annually by Parliament.

Income Tax was introduced by William Pitt.  He became the Chancellor of the Exchequer at the age of 23, and Prime Minister at 24.  When he died at the age of 46, he had served His Majesty King George III as Prime Minister for 19 years.

The income tax he introduced was applied:

  • At a rate of ten per cent on the total income of the taxpayer from all sources above £60, with reductions on income up to £200
  • In Great Britain but not Ireland
  • For residents in Great Britain on earnings at home and abroad
  • For residents abroad, on earnings in Great Britain
  • For married woman, as part of their husbands’ incomes

It was to be paid in six equal installments from June 1799, with an expected return of £10 million in its first year.  It actually realised less than £6 million.

Pitt resigned in 1802 over Irish emancipation.  To remove the corrupt Dublin Parliament and to pass the 1800 Act of Union, he had agreed to allow Irish Catholics to hold public office.  George III felt this was contrary to his oath of defending the Protestant faith, and so Pitt felt bound to step down. He was replaced by Henry Addington - later Viscount Sidmouth.

A temporary peace treaty with Napoleon at Amiens allowed Addington to repeal Income Tax.  But renewed fighting led to Addington’s 1803 Act which set the pattern for income tax today. Addington’s Act for a ‘contribution of the profits arising from property, professions, trades and offices’ introduced two significant changes.

  • Taxation at source - a company deducting taxes on dividends on the shareholder’s behalf, for example
  • The division of taxes into five ‘Schedules’ - A (income from land and buildings), B (farming profits), C (public annuities), D (self-employment and other items not covered by A, B, C or E) and E (salaries, annuities and pensions).

Although Addington’s rate of tax was half that of Pitt’s - 1s (5p) in the pound compared to 2s (10p) - the changes ensured that the revenue to the Exchequer rose by 50% and the numbers of taxpayers doubled.

Although Pitt in opposition had argued about Addington’s innovations, he adopted them almost unchanged on his return in 1805.  They changed little under various Chancellors, contributing to the war effort up to the Battle of Waterloo in 1815.

Nicholas Vansittart was Chancellor when Napoleon was defeated.  His inclination was to maintain some tax on income, albeit at a reduced rate but public sentiment and the opposition were against him.  A year after Waterloo, income tax was repealed and Parliament decided that all documents connected with it should be collected, cut into pieces and pulped.  It is reported that Lord Brougham - arch-enemy of the tax - helped to stoke a bonfire of the records at Westminster.

The mid 1800's saw the beginnings of significant social and economic change.  With the Whigs (forerunners of the Liberals) in power from 1830, child labour was limited, slavery in the Empire ended, and parliamentary reform gave representation to cities including Manchester and Liverpool and to more of the middle classes.  Railways transformed communications within England and linked Scotland, Wales and - via Holyhead - Ireland.  The potato famine in Ireland began in the mid 1840’s.

The general election of 1841 was won by the Conservatives with Sir Robert Peel as Prime Minister.  Although he had opposed income tax, an empty Exchequer and a growing deficit gave rise to a surprise announcement in the 1842 Budget speech that income tax would be brought back. 

Peel’s income tax was initially proposed for only three years, with the possibility of a two-year extension.  A funding crisis in the railways and increasing national expenditure however ensured that it was maintained.  For Peel, the debate was academic.  In 1846 he repealed the Corn Laws - which supported farmers by increasing the price of imported grain - and lost the support of most of his party.  The Whigs resumed power the same year to be joined by some notable ‘Peelites’.

The title ‘Board of Inland Revenue’ came about in 1849 after a merger with the Board of Excise.  Work on excise duties moved across to Customs and Excise in 1909.

Originally the Inland Revenue’s work was mainly supervisory.  The assessment and collection of income tax was carried out by local unpaid bodies of General Commissioners.  Inspectors of Taxes were appointed by the Board to see that proper assessments were made.  Over time they gradually took over the work of assessing.  The appointment of Collectors remained with the General Commissioners until 1931, when they were transferred to the Inland Revenue.

The second half of the 19th century was dominated by two politicians - Benjamin Disraeli and William Ewart Gladstone. A conservative, Disraeli opposed the repeal of the Corn Laws.  Generally the two agreed about little, although both promised to repeal income tax at the 1874 General Election.  Disraeli won - Northcote was his Chancellor and the tax stayed.

Even before the First World War, there was a massive social change in Britain.  By 1901, 80% of the population lived in towns - a rise from 50% in 1851 and a far higher proportion than in any other country.  Real wages in the 50 years to 1914 doubled, allowing almost everyone in work the opportunity for recreation.  Football clubs were established in virtually every industrial town in the last quarter of the 19th century, and drew huge crowds.  Emmeline and Christabel Pankhurst led the suffragettes and Millicent Garett Fawcett the suffragists in campaigning for votes for women though public demonstration, and members of the Women’s Tax Resistance League withheld their taxes in protest.

Although the Unionists - a coalition of Conservatives and Liberals opposed to plans for home rule for Ireland - were in power at the turn of the century, the 1905 election saw a Liberal/Labour pact return the Liberals with a huge majority - supported by 29 ‘Labour’ MPs (although the Labour Party was not formally established until 1906).  With the new Government came a change in the way taxation was viewed - from a means of (largely) paying for wars to a way of supporting the welfare of the people.

In 1907 Chancellor Herbert Asquith introduced the long- debated concept of ‘differentiation’ - taxing less on earnings than on investments.  With Asquith’s elevation to Prime Minister in 1908, Lloyd George as Chancellor introduced non-contributory old-age pensions, and - in the ‘People’s Budget’ of 1909 - plans for a super-tax for the rich.  The rejection of this Budget by the House of Lords led to the 1911 Parliament Act which removed the Lords’ power of veto.  In 1914 a husband and wife could claim separate assessment - although the total payable was not to be affected until changes in 1990.

Lloyd George’s coalition Government won the 1918 general election overwhelmingly.  The government set about building a land fit for heroes, with health and education extended, pensions raised and 200,000 houses built in the period 1919 to 1922.

But it could not be sustained.  The national debt in 1914 was £706 million; six years later it had grown £7,875 million.  Labour unrest grew in a depressed economy, and tough measures were used against strikers including miners, railwaymen and the police. Lloyd George’s coalition crumbled in the face of attacks by Stanley Baldwin and the Conservatives, and Ramsey MacDonald and Labour.  Baldwin won the elections in 1923 and 1924 and - although labour relations had eased since the strikes of 1919 to 1921 - his Government’s decision effectively to reduce miners’ wages led to the general strike of 1926.

Initially, Income Tax had no interest or relevance to the great majority of the population because there were fewer than half a million taxpayers. Only the richest people paid Income Tax.  It was not until the early years of the twentieth century before the number of taxpayers even exceeded a million. 

That all changed when it was decided that Second World War expenditure should be financed from taxes.  Tax rates were increased and the level at which people started paying tax was lowered, while wages were rising rapidly.  This soon brought the number of taxpayers to over 12 million, so that the majority of working people had to pay Income Tax. The only practical method of enforcing tax liabilities was by deductions from wages before they were received, and so in 1944 PAYE (Pay As You Earn) was born. The British scheme had been piloted by Churchill’s Chancellor Sir Kingsley Wood from 1940/41.  On the day it was to be announced, Wood collapsed and died.  But by the end of January 1944, fifteen million people - anyone earning over £100 a year or more - had received notices telling them their code number.

The seventy plus years since World War II have seen greater social and economic changes than any other comparable period.  The National Health Service was introduced in 1948, and the phrases ‘Welfare State’ and ‘cradle to grave’ began to be used to reflect a wide range of social provisions including broader national insurance provisions, the introduction of child allowances, the raising of the school leaving age and increased old age pensions.  Many of these provisions were based on the Beveridge Report of 1942. Reflecting society, income tax provisions have changed too.

Since 1990, married women have been taxed independently on their own incomes and been entitled to their own personal allowances.  The fight for equality, begun by the Married Women’s property Act of 1870, has been won at last.

In 1992, Her Majesty the Queen elected to pay tax on her income, a move to bring the monarchy closer to the people.

To avoid double taxation arising in one country to residents of another, special arrangements have been in place within the British Empire since 1916.  The first agreement with a non-Empire country was with the United States in 1945.  Britain now has more agreements with other countries than any other nation.

There have been many changes in wider taxation since the War.

  • Corporation Tax on company profits and Capital Gains Tax on long-term gains were introduced by Chancellor James Callaghan in 1965.  Callaghan had previously been an Inland Revenue employee, and spent three years as Assistant Secretary to the trade union representing Inland Revenue staff.
  • Value Added Tax - replacing purchase tax - was introduced in 1973.  Collected by Customs and Excise, William Pitt and Adam Smith would have favoured it over income tax because the individual can regulate how much is paid.  He or she can simply not buy that item or so many of them - and many essential items like food, children’s clothing and books and newspapers are zero rated.
  • Surtax - introduced as super-tax by Lloyd George in 1909 and attacked in Beatle George Harrison’s ‘Taxman’ song (Let me tell you how it will be, it’s one for you nineteen for me. ‘Cause I’m the taxman) - was removed in 1973, but replaced by higher rates of income tax for those with high incomes.  The top rate in 1973 was 90% - a rate of 75% plus a surcharge of 15% on investment income over £2,000 - it is now 45%.

HMRC’s approach to dealing with taxpayers has also changed significantly. Fifty years ago when the Taxes Management Act 1970 first consolidated the then Inland Revenue’s powers of collection and administration, the landscape was very different to today:

  • A greater proportion of taxpayers had to complete tax returns - but the Inland Revenue calculated their liabilities;
  • If a taxpayer needed to understand any tax issue, they could telephone, write to or simply drop into their local tax office and (regardless of which route they had adopted) get help from the same officer who had responsibility for their tax affairs;
  • Questions were raised about proportionately far more tax returns and business accounts - but most were resolved in correspondence with relatively little formality;
  • Estimated assessments meant that far more appeals were made, but the vast majority of these were settled by agreement upon submission of the outstanding returns, accounts and information;
  • Back-duty enquiries involved face-to-face meetings in the local tax office with an inspector who was likely to be familiar with the geography and socio-economics of the district;
  • In the relatively rare event of a substantive (as distinct from a delay) appeal, it was heard by unpaid General Commissioners in a local solicitor’s office in the High Street whose lack of understanding of the finer points of tax law was usually more than compensated by good sense and the occasional nudge from their legally qualified clerk;
  • Over all of this, the District Inspector had substantial direct responsibility and significant discretion (young recruits to the inspectorate were promised in adverts that they could be “in command at 30”);

Onto to that relatively stable landscape, we have over the subsequent 50 years seen major structural changes imposed including:

  • The replacement of Purchase Tax with VAT in 1973 – applying to services as well as a much wider range of goods than Purchase Tax had done and involving far greater interaction between retail businesses and the tax authority;
  • From the mid-1970s, more risk-based approach to enquiries regarding accounts and returns – enquiries becoming more selective and more in-depth;
  • The independent taxation of married women from April 1990 – significantly increasing the number of taxpayers with whom the tax authority needed to interact;
  • Self-assessment of income tax with effect from 1995 – radically shifting the responsibility for tax calculations to taxpayers and paving the way for the automated issue of some penalties;
  • The merger of HM Custom & Excise and the Inland Revenue in April 2005 to form HMRC – involving the unification of two quite disparate traditions;
  • The replacement of the unpaid and locally based General Commissioners by the First-tier Tribunal from April 2009 with its more regionally based hearing centres and more codified procedures;
  • The phased conversion of the local district structure to a regional structure – with the vast majority of active interactions between taxpayers and the tax authority being through call centres;
  • The closure from 2014 of over 280 HMRC Enquiry Offices where taxpayers could obtain face to face help in understanding their tax position. 
  • The growth of high volume tax repayment agents to make expense claims on behalf of multiple individuals.
  • The introduction of MTD for VAT in April 2019

Within the near future, we will also see:

  • The expansion of MTD for VAT and the introduction of MTD for income tax and corporation tax – requiring significantly more frequent (and wholly digital) interaction between taxpayers and the tax authority;
  • Increasing numbers of taxpayers relying on technology to make decisions over how any given transaction is accounted for. This is already happening and will grow with MTD. Automation of accounting processing includes downloading bank transactions directly into software, automatic coding via algorithms, machine learning and optical character recognition to ‘capture’ invoices and post them directly into accounting/tax software without human interaction;
  • Increased use of data analytics to identify problems and concerns which may need further investigation by HMRC;
  • Increasing use of pre-population and provision of third-party data directly to HMRC and, for information going the other way, increased provision of APIs to provide information that HMRC holds to agents/taxpayers to use.

HMRC has now grown to be the third largest Government Department, responsible for:-

  • Income Tax, Corporation Tax, Capital Gains Tax, Inheritance Tax, Insurance Premium Tax, Stamp, Land and Petroleum Revenue Taxes

    environmental taxes

  • Climate change and aggregates levy and landfill tax

  • Value Added Tax (VAT), including import VAT

  • Customs duty

  • Excise duties

  • Trade statistics

  • National Insurance

  • Tax credits

  • Child Benefit

  • Enforcement of the National Minimum Wage

  • Recovery of Student Loan repayments

  • Anti-money laundering supervision

Throughout its history - and for the future - the rate and administration of income tax has been for Government to determine.  But Government is answerable to the people.  So don’t think of Pitt’s income tax, or the Government’s income tax.  It is people’s income tax to be paid and spent as the people of Britain think best.