The issue
The impact of inflation on personal income tax revenue is a recurring topic of debate. Interest in this issue has increased in the wake of the pandemic due to steep consumer price inflation (CPI), which between 2021 and 2024 amounted to 3.1%, 8.4%, 3.5% and 2.8%. In sum, a cumulative increase in consumer prices of 17.8% which has fuelled growth in income tax receipts via three interconnected routes. Firstly, via application to taxpayers’ income in monetary terms rather than real terms. This happens even when all of their income falls into the same income tax rate bracket. Secondly, by pushing some taxpayers to pay personal income tax at higher marginal rates on a portion of their earnings (bracket creep). Thirdly, by eroding the nominal value of tax exemptions or minimum thresholds expressed in euros. The fiscal drag problem is not only relevant during periods of sharp inflation such as the recent episode. During periods of low inflation, it is also an issue on account of its cumulative effect. For example, annual inflation averaged just 1.1% between 2009 and 2019 but the cumulative impact was 12%.

In recent years, the government has ruled out indexing personal income tax arguing that it would also benefit higher earners. It has focused its strategy on increasing income tax relief for earners with pre-tax annual salaries of between 15,000 and 21,000 euros. It also increased the threshold for becoming liable to pay personal income tax from 14,000 to 15,000 euros (Romero-Jordán, 2022). In contrast, most of the regional governments, including the Basque and Navarre governments which have their own taxation systems, made different discretionary adjustments between 2022 and 2024 (General Council of Economists, 2022, 2023 and 2024).

By how much should personal income tax have been indexed?
Inflation does not affect all taxpayers equally. The consumer price index estimated by Spain’s statistics office, the INE, is an aggregate index that provides information about the average level of inflation in the economy. However, households face different levels of inflation depending on the composition of their spending and the trend in the market prices of the products they buy. In other words, each household has its own CPI, which for simplicity we term the HCPI. Using the methodology devised by Romero-Jordán (2023a), Table 1 provides the inflation borne by households between 2021 and 2024 for different levels of expenditure. The calculations use the microdata provided in the Household Budget Survey (HBS) published by the INE.

As shown in Table 1, the average cumulative growth in inflation for all households was 17.8%. However, that growth is not even but rather decreases as spending levels increase. Lower income households, which spend less than 12,000 euros per annum, bore cumulative inflation of 18.6%. At the other end of the spectrum, inflation was 15.8% for households spending more than 120,000 euros per annum. The reason for these differences lies with the fact that the lower income households spend relatively more on food and energy products, the most inflationary categories in 2021 and 2022. Energy prices also rebounded in 2024 when the various tax breaks were removed. As a result, the timing and rate of indexation affect who stands to benefit more or less from the adjustments. For example, in relative terms, the first two income brackets would lose out if the adjustment were made in 2024 on the basis of the CPI accumulated until that year (17.8%). In both of those income bands, HCPI is higher than CPI. [3]

What the results tell us
This section provides a comparative static simulation of the impact on tax revenue of not indexing the main personal income tax allowances: minimum individual and household thresholds and the joint return deduction. To do that, we use the personal income tax taxpayer statistics for 2022 published by the tax authority, which are the most recent figures available (AEAT, 2023). The results by year and income bracket are presented in Table 2. In cumulative terms, the impact on tax revenue sums to 9.75 billion for the four years analysed (around 10.3 billion euros compounded to 2024). This figure is in line with that estimated by Balladares and García-Miralles (2024) for 2019-2023. AIReF (2024) has estimated the increase in total revenue attributable to inflation in 2024 at 3.4 billion euros. As shown in Table 2, that figure is compatible with the 1.61 billion euros estimated for 2024 in our simulation.

Middle-income taxpayers account for 59.7% of the returns presented and 57.8% of the income tax collected. And they bore 61.3% of the increase in tax revenue attributable to inflation. It is fair to say, therefore, that the middle class were the big losers in this scenario of non-indexation. The scale of the problem increases when we layer in the impact of VAT. Based on the calculations of Romero-Jordán (2025), the cumulative increase in the VAT tax bill plus the impact of non-indexation of personal income tax for middle-income households was approximately 1,100 euros during the period analysed.