DRAFT Tax Credits (Income Thresholds and Determination of Rates) (Amendment) Regulations 2016
(Limited Text - Ministerial Extracts only)
Read Full debateThe Committee divided: - Ayes: 10 / Noes: 8 - Question accordingly agreed to.
The Exchequer Secretary to the Treasury (Damian Hinds)
I beg to move,
That the Committee has considered the draft Tax Credits (Income Thresholds and Determination of Rates) (Amendment) Regulations 2016.
It is a pleasure to have the opportunity to serve under your chairmanship for what I believe is the first time, Sir Alan. I confirm that the regulations are compatible with the European convention on human rights.
I will set out the purpose of the regulations. As hon. Members will recall, tax credits were introduced in 2003, at which point the income rise disregard was set at £2,500. At that time, the tax credits system was unable to cope and in 2006 the then Government increased the disregard to £25,000. Two families with significantly different incomes could therefore receive the same tax credit award. I will shortly give some examples of how that works in practice. Following the 2010 election, the coalition Government reduced the disregard to £10,000 and then to £5,000. Improvements to stabilise the tax credits system and the increased use of real-time information mean that the system is now able to be more responsive to claimants’ changes of circumstances.
The regulations make a single change: they reduce the income rise disregard from £5,000 to £2,500, taking it back to the level it was set at when tax credits were introduced by Gordon Brown in 2003 and aligning it with the income fall disregard. That change was announced in the summer Budget on 8 July 2015.
The change brings forward some of the benefits of universal credit, which will replace tax credits. Universal credit does not have an income change disregard, so awards will more accurately reflect the claimant’s most recent earnings and overpayments will be reduced. Tax credit claimants will see a change in their award within a tax year only if their income increases in year by more than £2,500, and there will be no cash losers.
The disregard provides a buffer zone in which a family’s income can increase during a year without that affecting their tax credit entitlement. The disregard has been a feature of the tax credits system since its inception in 2003 and, as I said, was set originally at £2,500.
I will explain how the disregard works in practice. Following receipt of a claim, Her Majesty’s Revenue and Customs makes an initial tax credit award based on the claimant’s current circumstances and their income in the previous year. As the tax year progresses, claimants can notify HMRC of changes in their circumstances. Certain changes—for example, a partner moving in with a previously single claimant—must be reported within one month. Other changes, such as changes in income, do not need to be reported until the end of the year, but claimants are encouraged to keep HMRC up to date if their earnings change, otherwise they could end up with an overpayment, which they would need to pay back.
After the end of the tax year, HMRC sends the claimant renewal papers. The purpose of the renewal papers is to determine the claimant’s actual entitlement for the year that has just ended and, if appropriate, to initiate a claim for the year ahead; HMRC does that by asking the claimant to confirm their income and circumstances for the year that has just ended. Where the claimant’s income has stayed the same as the year before or has risen by less than the disregard, the tax credit award for that tax year is not affected, as any such increases in income are disregarded from the final calculation of the award. However, if claimants’ income has risen by more than the tax credit disregard, their award is decreased in year. Those individuals will, of course, still be taking home more money because of the increase in their income.
Either way, in the subsequent year, a claimant’s tax credit award will be calculated in the usual way, with their full annual income used to determine their tax credit entitlement. After the change in the tax year, the disregard is irrelevant; regardless of whether the recipient’s pay rise was above or below the disregard level, their tax credit award for the following year will be adjusted downwards to what it would have been had no disregard existed.
In practice, under the system that we inherited in 2010, where the then Government had set the income disregard at £25,000, somebody on tax credits could get a pay rise of £2,000 a month—which I am sure hon. Members will agree is a significant sum of money—and still be technically entitled to the same tax credit award until the end of the tax year, whereupon they would then see a big drop in their award and in their total income. We changed that, but even under the current, far more equitable system, a household can see its income rise by £400 a month and still be entitled to the same award as they were previously, until the end of the tax year. Claimants would subsequently see their tax credit entitlement reduced in the following year, having become accustomed to that quite large change in income.
Let us assume that that pay rise of £400 a month now means that the household is taking home as much money as their next-door neighbours, whose circumstances are exactly the same in other respects. The next-door neighbours are not entitled to the same level of tax credits, even though they have exactly the same income and circumstances. That is hardly fair; nor is it right. Under the system set out in the regulations, the household with an increased income of £4,800 a year would see its tax credit award adjusted sooner, to reflect its increased earnings. The household’s total income would rise more than the decrease in the tax credit award, which would provide the buffer zone that the income rise disregard is designed for, as well as more closely aligning the award with the next tax year’s entitlement, and making it the same as that of the next-door neighbours.
That example shows how reducing the income rise disregard reduces the unfairness in tax credit awards for families in similar circumstances. This is the right thing to do, to ensure fairness to all tax credit claimants. The principle is already live in universal credit, where a claimant’s award changes each month based on their earnings; this change brings forward some of those benefits. HMRC will communicate the change by providing information in tax credit renewals packs, which will highlight the change to the disregard, what it means when claimants have a rise in income and what they should report to HMRC.
With the introduction of real-time information, employers are now able to submit employee payroll information in real time. As 99% of employers are covered by the scheme, HMRC is now in a much better position to proactively check that it has the correct income details when claimants come to renew their awards at the end of the tax year; it also provides an opportunity to check awards within a tax year. From September 2016, HMRC will use the RTI to conduct automated checks of an individual claimant’s monthly income. Therefore, HMRC will be better able to assess a claimant’s tax credit entitlement in relation to their increased income. Should RTI find that a claimant’s entitlement should be reduced by £500 or more, HMRC will send a letter, text message or automated voice message to the claimant, prompting them to make contact with HMRC within 14 days. If they do not make contact, their income on the system will be automatically amended.
Let me be clear. HMRC will not only tell all claimants up front when they must report changes in their income, but in the majority of cases prompt claimants to report significant increases in income that HMRC picks up through the RTI feed. If claimants do not respond to the prompt, the system will automatically make the change and reduce the claimant’s tax credit award. That reduces the risk of overpayments, while making clear to the claimant their responsibilities.
The disregard reduction will affect only those claimants whose income increases in year by more than £2,500. There will be no cash losers. The change will make tax credits more responsive to income changes, reduce the over-inflated rise and subsequent fall that follows an income rise and reduce the inequality of very different awards to families in similar circumstances, with similar employment incomes. It returns the disregard to its original design and purpose. Now is the right time to do so, because the tax credits system is much more able to deal with income changes. I commend the regulations to the Committee.
Damian Hinds
I thank everyone who has taken part in the debate, which was constructive and useful. I particularly thank the hon. Member for Salford and Eccles, who speaks for the Opposition, for a measured and constructive speech in which she put some reasonable points and questions.
Alongside the broader steps that the Government are taking on long-term reform to welfare, the creation of jobs, and making work pay, the regulations will reduce the unfairness in the tax credits system. The reduction to the income rise disregard will decrease the instances where one family receives a higher tax credit award than another family with precisely the same income and the same circumstances. That is a clear point of fairness, and I hope that hon. Members can agree that on principle it is the right thing to do.
As I have already set out, the provision returns the income rise disregard to the original level; but there is a key difference, compared with 2003. This time the Government are making sure that the system is able to cope with fluctuations in family incomes. The answer to one of the parliamentary questions tabled by the hon. Member for Salford and Eccles would be that we estimate that the income of about 800,000 claimants will increase by more than £2,500 in year, and that therefore they will have an adjustment to their tax credit payments. Those people are doing the right thing, as a number of Opposition Members have said. They are working hard to increase their income. No one will have a cash loss, because their pay rise will always exceed any change to their tax credit award in year; so there will still be a clear incentive for working claimants to increase their earnings, as they will take home more money.
Dawn Butler
As there is no impact assessment, does the Minister agree that the measure will probably affect women and children more than any other group?
Damian Hinds
The 800,000 recipients are households, and the majority of them will be couples. The majority of those couples will be male and female couples. However, let us be clear, come the end of the tax year, whatever the income rise disregard and with or without today’s statutory instrument, their tax credit award will be adjusted downwards to take account of their higher income—by which time they may, of course, have become accustomed to what was to be a temporarily higher award.
The measure ensures fairness to the taxpayer, because a system of large income disregards unnecessarily increases costs. The Exchequer—hon. Members’ constituents— bears the cost of paying tax credit recipients a much higher award than they would get if their increased income were taken into account. Rather than continuing with that, the Government are taking action to make tax credits more responsive to income changes, which ensures that more claimants receive the entitlement that more closely reflects their actual income.
Real-time information will ensure that the changes to income can be identified earlier. From September 2016, the majority of claimants will be prompted to report increases of income to HMRC through a text message, voice message or letter, with the default action, in the event of non-response, that the award will be adjusted to reflect the income change. That will mitigate the likelihood of overpayments, and will make clear to claimants, in a fair way, their responsibility to report an increase in their income.
HMRC will provide information to those affected by the change, in tax credits renewals packs and updated guidance and notes to claimants, as well as in briefing lines for the tax credit helpline, to ensure that claimants are aware of the change and what it means for their tax credit award. The Government are committed to seeing the change implemented correctly, and are taking a considered approach to both the operational IT delivery and engagement with claimants, to ensure there will be a reduction in tax credit overpayments and the number of claimants falling into debt.
I will now answer some of the points raised by the Opposition during the debate. The hon. Member for Salford and Eccles asked about the rationale for the precise number, and we have had a similar discussion in previous debates. There is never one single magic number that can be applied to such a threshold.
As the hon. Lady said, the figure of £2,500 brings the design of the income rise disregard back to Gordon Brown’s original figure. It is a balance between on the one hand making sure that the system adjusts as quickly and smoothly as possible to someone’s rise in income—to reduce the fall they would otherwise experience at the end of the tax year—and on the other not having to make an administrative change, and change the tax credit award, when there is a very small increase, such as from an annual pay award or a small increase in hours. The big change compared with 2003 is real-time information. To answer the hon. Member for City of Chester, real-time information is already operational and has been since 2013. A lot of the debates he mentioned have happened, but it is an important part of the continuing development of our taxation system.
The hon. Members for Salford and Eccles and for Banff and Buchan mentioned people on zero-hours contracts. I think it is always worth repeating this point because sometimes one could get the impression from listening to the Opposition that people on zero-hours contracts are the overwhelming majority when they are not; something like 2.5% rely on a zero-hours contract. Some of those are coming back into the workplace, and some of them are students. On average, zero-hours contracts deliver 25 hours of work a week.
The important point, which also applies to later in the debate, is that tax credits are still based on an annualised estimate of income. It is not necessarily the case that every single time there is a change in someone’s hours in a particular month they will have to say that this year’s permanence level of annualised income has changed. Through the RTI system there is an opportunity for those on PAYE to be prompted to do so, and others still can do so. The point is what they expect their total annual income to be. That is what the tax credit architecture of the system is based on today. It has always been based on an annual view of income.
The hon. Member for Salford and Eccles also asked how we define no cash losers. It is very simple. People’s pay is going up, which is a good thing. Because the tax credits award cannot go down by more than the pay has gone up, therefore these people will be better off.
Chris Stephens (Glasgow South West) (SNP)
I have listened attentively to what everyone has said. We know that a large number of the Government’s employees are on tax credits. For example, the Department for Work and Pensions has 40% of its employees on tax credits. I ask the Minister whether any assessment has been done on what this proposed change would mean for the Government’s workforce.
Damian Hinds
I do not want to repeat myself as though I have nothing new to say. Those are people whose income is going up. This is good news for those people. The change is responding more quickly than would have happened anyway. That is a really important point. It is responding further and more quickly to that change in income, but their income has gone up.
There were quite rightly questions about the equalities impact. In response to the hon. Member for Brent Central, I have already talked about the proportion who are women. We have provided information to the Secondary Legislation Scrutiny Committee. As with all secondary legislation, the Government take into account the equalities impact, as we are legally obliged to do.
I think I have dealt with the questions around fluctuating incomes in relation to zero-hours contracts and the introduction of real-time information. I also want to respond to the point about HMRC and operational efficiency. The hon. Member for Bristol South is right to raise those important points. HMRC’s performance has improved significantly this year, answering more than 90% of calls with wait times averaging under six minutes. Of course, we still want those numbers to improve; do not misunderstand me. It brought in additional staff to cover some of the busiest times, recruited some 3,000 more staff and put on additional training.
In conclusion, this change to reduce the income disregard to £2,500 is fair to claimants, reducing inequalities in the tax credit system, and it is fair to the taxpayer, reducing unnecessary cost. There are no cash losers because these are people whose pay is going up quite substantially. It will reduce the incidence of temporarily inflated awards because the system will respond sooner and further to people’s change in income. I commend the regulations to the Committee.
Question put.