Liberal Democrats promise a tax cut you can believe in

The Liberal Democrats have set out their proposal for the most radical change in taxation for generations. The fairer tax policy will be at the heart of the party's manifesto for the General Election. Under the Liberal Democrats the income tax threshold would be raised to £10,000, meaning most taxpayers would see their income tax bills cut by £700.

The move is paid for by clamping down on tax avoidance, closing tax loopholes for the wealthy, a 'mansion tax' on homes worth more than £2 million and making sure that airlines pay for the pollution they cause.

Liberal Democrat Leader Nick Clegg said:

"Under Labour the tax system is complex, unwieldy and most of all unfair. This has to change. Liberal Democrats will rebalance our tax system to make it fair once and for all.

"We are proposing the biggest tax switch in generations. A radical overhaul to make sure those at the top pay their fair share in order to put money back in the pockets of people who need it.

"Unlike the Conservative party, we are setting out in full, in detail, where every last pound of the money will come from. That's why this is a tax cut you can believe in."

Underlying all Liberal Democrat tax policy is a strong framework of principles to which all Liberal Democrat tax policies will conform. These are:

• Fairness - tax policies should be equitable and ensure that the payment of taxes is linked proportionately to people's ability to pay.
• Simplicity - tax policies should be clear to taxpayers and new policy should aim to eliminate complexity in existing legislation.
• Certainty - tax policies should not be retrospective and should provide the taxpayer with certainty over the correct treatment.
• Efficiency - tax policies should provide revenue to the government on an efficient basis and minimise tax leakage.
• Transparency - the reasons behind the introduction of new tax policy and the intention of spending of revenue raised should be clearly stated to the taxpayer.

The Liberal Democrats propose to raise the threshold at which people start paying income tax to £10,000, cutting the average working age person's income tax bill by £700 and cutting pensioners' income tax bills by £100. These plans will mean that 3.6 million people on low incomes will no longer have to pay any income tax at all.

To pay for this tax cut the Liberal Democrats will close tax loopholes and allowances which benefit the wealthiest, increase environmental taxes and tackle tax avoidance and evasion.

Details of tax changes

Increasing the personal allowance to £10,000 per person

The personal allowance for people under 65 is currently £6,475. It is £9,490 for people between 65 and 74 and £9,640 for people aged 75+. Raising all personal allowances to £10,000 in 2011-12 will cost £16.8bn and amount to a £700 income tax cut for the average person. It means that 3.6 million people would no longer have to pay income tax.

Closing tax loopholes and cutting reliefs that benefit the wealthiest

Restricting pension tax relief to the basic rate

Those on high incomes benefit disproportionately from pensions tax relief because they pay a higher marginal tax rate than people on lower incomes. For example in 2008-09, the richest 1.5% of people saving for a pension received a quarter of all pensions tax relief on their contributions. We propose to restrict the income tax relief on contributions made by all individuals to the basic rate of 20%.

Reform Capital Gains Tax

CGT rates are significantly lower than income tax rates. This anomaly gives people, particularly the wealthiest an incentive to present their income as capital so that they can pay a lower rate of taxation. We propose to tax capital as income in order to remove this anomaly. This is a return to the CGT system created by Nigel Lawson during the Thatcher Government.

Under current rules, the first £10,100 of capital gains made by an individual are exempt from CGT. The purpose of this exemption was to prevent small capital gains falling into the tax system. However, as the exemption is so large it has become a significant part of tax planning. We propose to keep a small annual exemption of £1,000 that will prevent the smallest transactions from being liable for CGT, but which will catch many more transactions made by wealthy individuals that would otherwise not be caught. It is important to remember that under Liberal Democrat plans those on very low incomes who make capital gains will still not have to pay tax due to our proposed £10,000 personal allowance.

A 1% levy on the value of properties over £2m

Our progressive property levy would only affect residential properties worth more than £2m. Current council tax bands mean a property worth £750k is taxed the same as one worth £10m. We propose to tackle this distortion. The levy would be at 1% on the value of a property over £2m. This means a home worth home worth £2.1m would pay 1% x (£2.1m-£2m) = £1000 per annum. Based on land registry data this levy would affect between 70,000 and 80,000 of the most expensive properties in the UK. This is around 1 in 400 properties.

Green taxation

Switching from Air Passenger Duty to a Per Plane Duty

Air Passenger Duty (APD) is charged on passengers flying from a United Kingdom airport. By replacing the APD with an 'Aviation Duty' which would be levied on planes as opposed to passengers, we would provide an incentive for airlines to fill seats and to discourage them from running empty flights. It would also ensure that cargo flights are brought within the scope of the duty since they currently are not covered by the existing regulations.

The amount each plane pays would be based on a combination of maximum take-off weight, Nitrous Oxide emissions on take off and distance. The current distance bands would be abolished in favour of airport to airport distances.

A higher per mile duty charge for non-lifeline domestic flights

The Liberal Democrats want to discourage domestic flights where there are easy alternative forms of transport. To this end the per mile cost of flying would be set at a higher level for flights within the UK under 300 miles, unless they are designated as lifeline flights or are between Northern Ireland and Great Britain.

Anti avoidance measures

Avoidance measures - Income tax, CGT, NICs

We will combat NIC leakage by changing the taxation of benefits in kind. Currently the amount of NICs payable on benefits in kind such as private health insurance is lower than if a person was paid the same amount in cash. Removing this anomaly will lead to a fairer basis of pay as well as preventing tax leakage. In addition to this we will also focus greater levels of HMRC staff time and resource to cracking down on income tax and NIC evasion. This additional staff time will come from the lower number of people being administered in the income tax system under Lib Dem proposals and revenue brought in from a new commercial arm of HMRC .

Avoidance measures - Corporation tax

We will introduce a new general anti-avoidance provision for corporation tax. The purpose of this provision will be to stop companies and high net worth individuals structuring their business and transactions in a particular way when their main objective is to reduce their tax bill. A common argument against such a proposal is that the cost for HMRC to administer such a provision with pre-clearance would be extremely high. In order to address this, we propose that companies requiring pre-clearance and certainty over the tax treatment of a transaction will pay for the services of a specialist HMRC team at commercial rates (similar to professional services e.g. lawyers and accountants); this will be a revolutionary change to the HMRC services, drawing it closer to commercial practices.

Avoidance measures - Stamp Duty Land Tax

Stamp Duty Land Tax (SDLT) can currently be avoided, if a company or an individual sets up an offshore business structure so that the property does not appear to be sold by a UK taxable person. In addition Stamp Duty can be reduced from the standard rate to just 0.5% if the property is held by a UK company and the company is sold. To stop this we would bring forward legislation which looks through any structured transaction so that where there is any beneficial UK ownership, the property would fall liable to SDLT and the duty cannot be avoided.