Scrap National Insurance so people can see just how much tax they really pay

Someone asked me last week what my favourite Conservative poster was. I didn't hesitate. It was an advertisement that, without even asking people to vote Tory, simply said: "To everyone who had a go and started a business – thank you".

Like most Conservatives, I have a deep reverence for people who launch their own enterprises. A nation of shopkeepers? Great. What would you rather live in? A nation of generals? Of priests? Entrepreneurs have quietly done more for human happiness than any other group. They have borne every tax-rise, every regulation, every Marxist taunt about the "petit bourgeoisie", and carried on generating the world's wealth.

One of my heroes is Alderman Alf Roberts, the Grantham grocer who understood that you do not discharge your duty to your neighbours by muttering that Something Should Be Done. He was a lay preacher and local councillor who, during the Depression, sent out his daughters with supplies for the neediest townspeople, taking care to explain that he had baked too many loaves, so that no one's pride should be hurt. We have heard of Alderman Roberts because one of those daughters was Margaret Thatcher. Let him stand for the millions of small businesspeople whose names we don't know.

I say all this to help non-Conservatives understand why there will always be a sharp reaction to any proposal which looks like a tax-rise for the self-employed. Tories loathe tax-rises and love the self-employed.

That said, Philip Hammond didn't propose his National Insurance reforms on a whim. There is a loophole in the rules, a loophole which encourages some firms to reclassify their staff as self-employed, even if that means shortening their hours, in order to pay a lower rate. That loophole needs closing.

More than this, the Chancellor is aware of how employment patterns in Britain are shifting. The days of mass workforces, whether in an office or on a factory floor, are drawing to a close. Work is becoming more plural, more freelance, more temporary. I'm not sure my kids will ever have "a job" in the sense that we understood that word in the twentieth century. Rather, they will do several things over their lives, sometimes concurrently, constantly reskilling as technology accelerates.

There is a loophole which encourages some firms to reclassify their staff as self-employed, even if that means shortening their hours, in order to pay a lower rate. That loophole needs closing.

In general this is a welcome development, a function of rapidly advancing living standards. It does, though, present a problem for the taxman. People on payrolls are easy to tax. In effect, PAYE obliges employers to do most of the Treasury's work for it. Solitary workers are harder to pin down. They are also, as a rule, far more aware of how much they are handing over, since it is not deducted at source.

Which brings us to the real problem. National Insurance Contributions (NICs) are simply another form of income tax. Calling them that, and ending the pretence that we are somehow funding our pensions or other benefits, would make the system cheaper, more rational and more transparent. But no government wants to take that step, precisely because they don't want people to see how much they are paying, nor to be fully aware of how anomalous the system is.

Indeed, Hammond is seeking to tackle one of the more extreme anomalies. An NHS manager taking home £60,000 a year pays over £41,000 in income tax and NICs. A self-employed doctor, also getting £60,000, pays £28,000.

Those figures come from James Hannam, a tax accountant and talented amateur historian, who has just written a brilliant short book called "What Everyone Needs to Know about Tax". Dr Hannam – who, in the interests of full disclosure, is a friend – explains the tax system in a way that anyone can understand, and I particularly recommend his book to fellow politicians and journalists who are required to declaim authoritatively on this subject, despite often having a shaky grasp of it.

Dr Hannam shows that British taxation is based on three principles. First, lots of small taxes add up to a collectively huge tax bill. Second, no matter what a tax is called, it is always paid by human beings. Third, taxes are kept as invisible as possible.

NICs are a product of all three. First, they allow the fiction to be maintained that basic rate income tax is 20 pence in the pound – when 13.8% of our entire salary above £8,112 goes in these additional levies. Second, because part of it is labelled the employer's contribution, we get the idea that someone else is paying – when, in reality, it is still a tax on our wages. ("Businesses" don't pay "business taxes" any more than your TV set pays the licence fee. All taxes fall on people.) Third, the opaque nature of NICs means that we are less angry about them than we ought to be.

We ought to be very angry indeed. In theory, National Insurance pays for our state pensions. In practice, it does no such thing.

We ought to be very angry indeed. In theory, National Insurance pays for our state pensions. In practice, it does no such thing. Let's say you earn the average salary of £26,500 throughout your 35-year working life. Dr Hannam shows that, even with our unprecedentedly low annuities rate, the £430,000 you hand over in NICs would give you an index-linked pension of £14,750 a year. Instead, you get a state pension of £8,094. And if you pay more in NICs, or if you work (as most of us do) longer than 35 years, that figure doesn't get any higher. The directors of a private pension provider that offered such a return would find themselves in jail.

Philip Hammond, in short, is addressing a genuine problem. The challenge he faces is the one faced by any politician when change is proposed: the losers blame the government, the winners take their gain for granted. That challenge is exacerbated by the sheer weirdness of having National Insurance as a parallel income tax masquerading as something else.

The solution, surely, is to call NICs what they really are, and let people see quite how vast the actual tax rate is. It would make the system easier and cheaper to administer and, more to the point, it would create popular pressure for lower rates. Is that really such a terrible thing?

Daniel Hannan has been Conservative MEP for the South East of England since 1999, and is Secretary-General of the Alliance of European Conservatives and Reformists