* UK government cuts tax-free allowance on dividends
* Budget also changes national insurance rates for self-employed
* Moves reflect changing economy (Adds detail, reaction)
By Alistair Smout and Kylie MacLellan
LONDON, March 8 (Reuters) - British finance minister Philip Hammond announced a hike in tax rates for the self-employed in his first budget on Wednesday, coming under fire for breaking a pre-election pledge as he sought to raise revenue from a rapidly growing sector.
A reduction in the tax-free allowance for dividends was also seen as a way of raising more revenue from those in self-employment, a growing part of the workforce that has helped drive Britain’s recovery from the financial crisis a decade ago.
As the incomes of the self-employed have been less taxed than those of employees, some praised the government for making the system more fair.
But Hammond’s decision to increase national insurance contributions for them was also criticised for breaking a 2015 election pledge by his Conservative party.
Domestic media focus on that issue threatened to overshadow his broader message of preparing the economy and public finances to weather any turbulence caused by Britain’s exit from the European Union, a formal start to which is expected this month.
“To have ripped up that promise ... they (voters) will see as a betrayal of the offer that was made, and the promise that was made, by the Conservatives,” opposition Labour lawmaker and former finance spokesman Chris Leslie told parliament.
Hammond said “class 4” national insurance contributions for the self-employed, paid by those with profits of 8,060 pounds or more a year, would increase by 1 percent to 10 percent from April 2018, followed by a further 1 percent rise in April 2019.
Paying national insurance contributions allows workers to qualify for certain benefits, including a state pension.
Repeating a previous announcement, he added that “class 2” contributions, for those with profits of 5,965 pounds or more a year, would be abolished from April 2018. As a result, all self-employed workers earning less than 16,250 pounds would see a reduction in their total national insurance bill, Hammond said.
A Treasury spokeswoman said the government had set out in legislation after the 2015 election that its pledge on national insurance rises only covered the broader “class 1” category, which is paid by employees and their employers.
“NO LONGER JUSTIFIED”
Hammond also said in his budget update that he would reduce the tax-free dividend allowance for directors and shareholders to 2,000 pounds from 5,000 pounds, from April 2018.
While the move will hit investors with share portfolios, Hammond said the cut was also to address a discrepancy that sees self-employed people gain from incorporation.
In all, the dividend change will bring in almost a billion pounds a year from 2019/20, about twice the effect of the changes to class 4 national insurance, and will affect 2.27 mln individuals, at an average cost of 315 pounds apiece.
According to the Office for National Statistics, about 40 percent of the more than 2 million new jobs generated since the beginning of 2008 are self-employed.
Hammond said a self-employed person currently paid significantly less national insurance than an employee on the same wage, a difference he said was “no longer justified”.
“Today’s announcement is a bold and welcome move to ensure the tax system catches up with the modern world of work,” Torsten Bell, director of the Resolution Foundation think tank, said in a statement.
The government said it was protecting the self-employed who earn lower profits. When combined with the increases in the income tax personal allowance, only someone with profits of more than 32,900 pounds in 2019-20 might have to pay more in tax.
But Roy Maugham, Tax Partner at national accountancy group UHY Hacker Young, criticised a “strangely timed attack on the entrepreneurs and the ‘strivers’ that politicians always claim to value.” (Additional reporting by David Milliken and William James; Editing by Catherine Evans)