Reforming National Insurance: from misunderstandings to better governance and transparency  

Being taxed is often seen as ‘bad’. But many people find it hard to understand tax, especially income tax and how tax rates apply to income above a threshold.  

The first article in this series discussed how tax and NI differ, and recent NI benefit proposals. In this second article, Dr Marilyn Howard explains why the distinction between tax and NICs matters for future reforms to improve governance.  

Who pays NICs?  

National Insurance Contributions (NICs) are payable by employees  and employers (as a percentage of earnings), and by self-employed  people (as a percentage of profits) between weekly income thresholds (up to an upper earnings limit). 

NICs are paid into the National Insurance (NI) Fund, which works on a ‘pay as you go’ basis – with benefits paid to current claimants – rather than as an individual savings pot.

NICs differ from other forms of taxation, especially income tax, for two reasons:  

First, they are ‘hypothecated’ or earmarked for certain benefits, whereas income tax goes into a single pool which governments can spend on anything.  

Second, NICs establish an individual’s future contributory benefit entitlement.  

What are NICs for?  

NICs give entitlement to contributory benefits in several ways:  

• by actually paying in NICs (through earnings or self-employed profits) between the income thresholds; 

• having earnings within a ‘zero-rated’ band of low earnings;  

• being credited with NICs  for activities such as parenting, caring, and training, or for periods on certain benefits.  

Contributory benefits are payable when paid employment is interrupted (such as by unemployment) or ended (by retirement). The main contributory benefits are the State Pension, Jobseeker’s Allowance and Employment and Support Allowance. These benefits are based on individual rather than family or household entitlement.  

Recent proposals from government and think tanks have tended to focus on replacing current working age NI benefits with time-limited payments for unemployment insurance  and sickness/carer insurance. But, as discussed in the first article, ending benefit for people whose ability to work is limited by long-term health conditions or disability potentially leaves disabled women (who are more likely to experience domestic abuse) without an independent income. 

National insurance as future entitlement and as risk-pooling   

NICs are often seen by the public as just another tax.  As do many commentators and think tanks . So proposals such as to extend NICs to unearned income like rent or investments, treat NICs like tax. So changes to NICs may be made, or proposed, for policy or political reasons beyond the actual purpose of these contributions.  

But although NI is widely misunderstood, people tend to like the concepts of a right to claim something based on their contribution; and of having a stake in the system because they know help is available if they need it.  

But this system isn’t just about individual savings – it’s also about risk-pooling.  NI pools risks across a much wider population than private insurance can.  

We pay in – and/ or are credited as though we had actually paid NICs – giving us potential entitlements to current or future benefits. So society can shape the rules, both for who pays NICs (or not) today, and for contributors and recipients of tomorrow. In effect, NI is social insurance. 

Better governance of NI as ‘social insurance’  

That said, there is scope for modernisation of NI. It could be made more flexible to meet the needs of today’s labour market, as discussed in the first article. 

But we could do more.  

Because NI is widely misunderstood, we need more transparency about its functions.   

Better governance could support improved transparency and understanding of the different roles of NICs and taxation, as well as building in greater accountability and representation.  

Currently, responsibility for NICs and for contributory benefits is split between two government departments: the Treasury and the Department for Work and Pensions (DWP) respectively. The DWP fixes benefit rates whilst the Treasury decides contribution rates.   

Many European countries have tripartite arrangements for the governance of social insurance, including representatives of employers, trades unions and government. However, the UK has no mechanism for those outside government to influence or control NI policies or management of the NI Fund.  

NI could be managed as a separate financial institution, as proposed in a range of forms over the years.      

One proposal  was for a governing body to be comprised of representatives of contributors – individuals and employers – and beneficiaries. This body would be responsible for fixing benefit and contribution rates and proposing structural changes, subject to endorsement by the relevant government departments and by Parliament. (The roles of the DWP and Treasury (via HMRC) in the administration of benefits and the collection of contributions respectively would remain unchanged).  

In conclusion  

Despite the erosion of contributory benefits in recent years, NI remains a vehicle to support individuals, society and the economy.  

Although benefits have been cut back, NI has become more inclusive to reflect social changes – such as through crediting in of parents and carers, and by including low-paid workers within NI without having to pay NICs (through ‘zero-rating’).   

In contrast, means-tested benefits such as Universal Credit are exclusive, for example excluding many people with working partners, and/or savings above the limit.  

As suggested in the first article, NI can be made more flexible to meet the demands of the current labour market. Artificial Intelligence is likely to mean further change in the labour market  and therefore also in NI. 

NI can be used to bring people together to build and maintain a system that helps us all. A reformed NI Fund, with wider representation and greater accountability, offers a way for people to contribute to a common fund and to know that they can call on this fund when needed.   

As social policy expert Joan Brown  stated some years ago, NI:  

‘reflects the principles of social solidarity and mutual responsibility, principles worth promoting and supporting, and especially in the insecure labour market now operating’. 

(Further information on NICs can be found in a House of Commons Library Research Briefing ) 

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This article is the second of two exploring national insurance and how it could be reformed for today’s labour market and society.  

It draws on work that the author has undertaken with Fran Bennett and is indebted to her knowledge and expertise (see more here) 

Dr Marilyn Howard is a writer and researcher on social security and a policy advisor to the WBG. She is also a member of the Scottish Commission on Social Security. Here she is writing in a personal capacity.  

The views and opinions expressed in this article are those of the author’s and do not necessarily reflect the official policy position of the Women’s Budget Group.