Blair and Brown in Budget talks

GORDON BROWN today moved to ease the pain of his tax-raising Budget this week. With only 48 hours to go, the Chancellor let it be known that drivers will be cushioned with a petrol duty freeze for the second year in a row. At the same time, it was made clear that most of the tax rises to pay for the NHS and other key services will be delayed by at least a year.

Both moves showed signs of pre-Budget nerves, and of continuing tensions between Brown and Prime Minister Tony Blair, said to have been in close touch over the weekend on the final details of Wednesday's package. In a sign that, with time running short, there are still serious issues to iron out, the Prime Minister and the Chancellor had a lengthy meeting at No 10 on Sunday, and another today.

The Tories are already moving to accuse Brown and Blair of a return to Old Labour 'tax and spend' - but face problems of their own over whether or not to oppose the expected tax increases.

Putting up petrol duty in line with inflation would have cost drivers 1.5p per litre and raised £560m. But there are unmistakable signals that last year's freeze will continue in an attempt to avoid a backlash from fuel protesters at a time when Middle East turmoil is set to trigger increases in prices at the pumps.

The move will help balance out some of Brown's overall package which, it is thought, will put up taxes by about £7bn, mainly to pay for improvements to the NHS.

The Chancellor's main target is National Insurance contributions, with a likely increase in the rate from 10% to 11% as well as a lifting of the ceiling after which employees stop paying it from £29,000 to about £34,000. This would mean £265 a year in extra tax for those earning £30,000 while people on £40,000 would pay £1,400 more in tax.

Rises in direct taxation for middle income groups are a big risk for Labour, but Brown and Blair have prepared the way by dropping hints for months. Downing Street and the Treasury believe they have 'won the argument' and that voters will accept there cannot be big improvements in the health service without a lot more money going in.

Brown is also likely to protect worse-off households from his tax increases with a package of help for the 'working poor' costing him about £2bn a year. The minimum wage is likely to be increased by between 50p and £1 an hour for childless single workers and couples.

Today's carefully-timed leak of a petrol duty freeze is designed to help cushion the overall impact of the Budget - as are other hints that the main tax increases will be deferred for a year. Rises in National Insurance are likely to be delayed, partly for technical reasons to allow employers to change their payment systems and partly to give middle-income earners time to get used to the idea that their wage packets are to be hit.

Other possible tax rises which may penalise the better-off include increases in stamp duty on buying homes. Lifting the rate on properties costing more than £500,000 from 4% to 5%, for example, would raise £500m for the Treasury while also attempting to cool the spiralling property market.

Brown will earmark the bulk of his tax increases for the NHS on the back of a major study of health funding by former NatWest Bank boss Derek Wanless, which will be published just before the Budget. Wanless is expected to claim that health has been underfunded by about £200bn over 30 years and has been lagging badly behind systems elsewhere in Europe.

What to watch out for on Wednesday

NATIONAL INSURANCE: Top favourite to provide the extra cash the Treasury wants. Options are to raise the contribution rate (currently 10%) or the earnings ceiling (currently £29,900) or both. Raising the contribution rate by 1% would bring in an extra £3bn. Raising the ceiling to £33,000, to match the starting point for upper rate income tax, would produce an extra £1bn. The result, for someone earning £30,000: an extra £265 a year on tax. For a £35,000 salary-earner: an extra £815 a year. Raising the ceiling to £40,000 would cost a £40,000 salary-earner an extra £1,400 a year in tax.

HEALTH SERVICE: Spending on the NHS is likely to rise by some 7% above inflation, or up to £18bn over the next three years, to invest in hospitals and GP surgeries. This would take Britain closer to the European average of 9% of GDP, compared with the current UK average of 6.8%. The Chancellor will rule out an alternative method of funding, arguing that an insurance system will penalise the poor and elderly. He will publish a separate health service report, looking at amounts needed for extra staff, drugs and new technology.

SAFE FOR NOW: Labour's manifesto at the last General Election promised no increase in the basic or higher rates of income tax. It also pledged to keep VAT at zero on food, children's clothing, books and newspapers. Treasury inspired leaks today say the duty on petrol will be pegged at the same level as last year and the year before.

OTHER PUBLIC SERVICES: Estelle Morris's education department hopes to come a 'good second' behind health in the race for extra billions largely to be handed out in the three-year spending review to be completed this summer. Education may get a down payment of £300m to tackle disruptive pupils, to be announced in the Budget, with the bulk of further investment starting in 2003-04. Other 'priority areas' - including crime, transport and defence - will be told that they will get no extra cash without detailed reform plans. The spending review will be announced this summer but the three-yearly cycle will begin in 2003-04, the same year as tax rises announced in Budget.

VAT: Another - much less likely - possibility for a tax raid if Brown does not tackle National Insurance. He could raise £9bn by putting VAT up to 20% from its current 17.5%. This would raise enought to pay for NHS increases without directly affecting pay packets. Retailers and restaurants are preparing for such a move - the first across-the-board increase since 1991. But those advising Brown are worried about the effect on inflation.

TAX CREDITS and minimum wage: Tax credits, Brown's pay-packet substitute for social security benefits, to be extended to help the lowest earners, so a single person working a 35-hour week on the minimum wage will gain by £20 a week. Students (most of them nurses) who have children will be able to claim State benefits for the first time. Children's tax credits also to be increased by more than inflation. The minimum wage will rise by 10p an hour to £4.20 from October, topped up by between 50p and £1 an hour for childless single workers and couples.