VAT thresholds, revenues, and the role of counterfactuals
Debunking claims that raising the UK VAT threshold would increase tax revenues through growth effects.
The Telegraph reported today that UK Chancellor Rachel Reeves is considering raising the VAT registration threshold—the turnover above which businesses must register for VAT. The Telegraph’s source reported that the Office for Budget Responsibility (OBR) determined that raising the threshold would eventually increase tax revenues.
Readers might interpret this as evidence the VAT sits on the right side of the Laffer curve—where tax cuts generate enough growth to pay for themselves. Four major AI models—ChatGPT, Claude, Gemini, and Grok—reached this conclusion when I tested them, attributing long-run gains to reduced bunching and stronger business growth.
The actual explanation is simpler. The revenue increase in 2028-29 occurs because the policy threshold (£90,000) will be lower than the inflation-indexed baseline threshold by that point.
What the government projected
While the Telegraph did not link an OBR reference, the sources were likely referring to HMRC’s policy paper from March 2024, which analyzed raising the VAT threshold from £85,000 to £90,000. The OBR certified these costings. HMRC states directly below the revenue table: “This measure is not expected to have any significant macroeconomic impacts.”
The revenue increase in year five requires a different explanation.
The role of the counterfactual
In a footnote, HMRC refers to a policy costings document for more detail, but it doesn’t shed light on the question. Instead, we must rewind another year to the March 2023 analysis of VAT threshold freezing:
One of the many aspects of the tax system that is currently subject to a freeze (meaning a threshold is not being raised in line with inflation) is the VAT registration threshold… The threshold has been frozen at that level for eight years, until March 2026. Our forecast assumes that this freeze will raise £1.4 billion a year in VAT revenues by 2027-28, by bringing more businesses above the threshold than if the threshold had been indexed to inflation… compared with indexing the threshold to RPI inflation.
The baseline freezes the threshold at £85,000 until March 2026, then indexes it to the Retail Price Index (RPI).
Running the numbers
I couldn’t find the government’s baseline VAT threshold projections as of March 2024, so I reconstructed them using RPI inflation forecasts from Table A-1 of their March 2024 Economic and Fiscal Outlook (EFO):
- 2.0% from 2024 to 2025
- 2.5% from 2025 to 2026
- 3.0% from 2026 to 2027
By 2028-29, the baseline threshold reaches £92,000 through inflation indexing. The £90,000 policy threshold is now £2,000 below the baseline, generating the £65 million revenue gain—not through economic growth, but by setting a lower threshold than what would have existed under current law.
Conclusion
Raising the VAT threshold could boost UK growth by reducing tax distortions, cutting administrative burdens, and encouraging business expansion. But the government’s projections incorporate none of these effects.
The revenue increase in 2028-29 reflects inflation indexing. The £90,000 threshold generates additional revenue because it’s lower than the baseline would be by then—purely a mechanical artifact of how the counterfactual was constructed.