Tax Credits (Income Thresholds and Determination of Rates) (Amendment) Regulations 2016
(Limited Text - Ministerial Extracts only)
Read Full debate17:07 - Division on Baroness Manzoor’s Motion - Ayes: 104 / Noes: 206 - Baroness Manzoor’s Motion disagreed.
Lord O'Neill of Gatley
That the draft Regulations laid before the House on 14 January be approved.
Relevant document: 23rd Report from the Secondary Legislation Scrutiny Committee
The Commercial Secretary to the Treasury (Lord O'Neill of Gatley) (Con)
My Lords, I confirm that the provisions contained in the regulations before your Lordships today are compatible with the European Convention on Human Rights.
I will start by setting out the purpose of the regulations that are put before the House today. These regulations make a single change: reducing the income rise disregard from £5,000 to £2,500, taking it back to the original level it was set at when tax credits were introduced and aligning it with the income fall disregard. This change was announced in the summer Budget of 8 July 2015. This means that awards will more accurately reflect the claimant’s recent earnings, meaning fewer overpayments and that fewer people will go into debt as a result.
Tax credits were introduced in 2003, at which point the income rise disregard was set at £2,500. At the time, the tax credits IT system was unable to cope with the unpredictability of family incomes, and in 2006 the amount by which a family’s income could increase before their tax credit award would adjust within the year—the income rise disregard—was increased to £25,000. This meant that two families with significantly different incomes could receive the same tax credits award.
Following the 2010 election, the coalition Government reduced the rate of 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—RTI—mean that the system is now able to be more responsive to claimants’ changes of circumstances. I reassure noble Lords that when considering bringing forward this change, the Government considered the impacts on claimants in accordance with their legal obligations, and that there will be no cash losers from this measure in the tax year.
The purpose of a disregard is to provide a buffer zone in which a family’s income can increase during the course of a year without affecting their tax credit entitlement. It has been a feature of the tax credits system since its inception in 2003 and was originally set, as I said, at £2,500. Let me explain how the disregard works in practice. Following receipt of a claim, HMRC makes an initial tax credit award based on the claimant’s current circumstances and income from the previous tax year. As the current tax year progresses, claimants can notify HMRC of changes in their circumstances. Some changes must be reported within one month: for example, a partner moving in with a previously single claimant. However, other changes, such as a change in income, do not need to be reported until the year’s end, although claimants are encouraged to keep HMRC informed of changes in earnings.
After the end of the tax year, HMRC sends claimants renewal papers. The purpose of these is to determine the claimant’s actual entitlements for the year just ended and, if appropriate, to initiate a claim for the year ahead. HMRC does this 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, or if the income in that year has risen by less than the disregard amount compared to the year before, the increase in income does not affect the tax credit award in that tax year. It is disregarded from the final calculation of a tax credit award. If, on the other hand, their income has risen by more than the tax credit disregard, their tax credit award is decreased in the year. However, it is important to emphasise again that individuals will still be taking home more money, owing to the increase in their income.
Either way, in the subsequent year a claimant’s tax credits award will be calculated in the usual way, using their full annual income from the previous tax year to determine their tax credit entitlement. After the change in the tax year, 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.
I turn to fairness. In practice, this means that when the income rise disregard was set at £25,000, someone on tax credits could get a pay rise of £2,000 per month and still be technically entitled to the same tax credits award until the tax year end. Even under the current system, a household’s income can rise by £400 a month and they will still be entitled to the same tax credits award until the end of the tax year. Claimants would see their tax credits entitlement reduced in the following year, having become accustomed to the significant income change.
Let us assume that this pay rise of £400 a month means that this household is now taking home as much money as their next-door neighbours, whose circumstances are exactly the same. But the next-door neighbours are not entitled to the same level of tax credits even though they have exactly the same income and circumstances. Under the system set out in the regulations, with an income rise disregard of £2,500, the household with an increased income of £4,800 a year would have their tax credits award adjusted to reflect their increased earnings sooner. Their total income would rise more than the decrease in the tax credits award, providing the buffer zone that the income rise disregard is designed for, and they would also see their award aligned more closely with next year’s tax entitlement—the same as the next-door neighbours.
This example shows how reducing the income rise disregard reduces the unfairness in tax credits awards for families in similar circumstances. This is the right thing to do to ensure fairness to all tax credits claimants. This principle is already live in universal credit, where a claimant’s award changes each month based on their earnings, and this change brings forward some of these benefits.
HMRC will communicate this change by providing information in tax credits renewals packs, which will highlight the annual income threshold that would need to be exceeded to trigger a change in their tax credit awards, and when they should report changes in income to HMRC.
With the introduction of RTI—as I said, real-time information—employers can now submit employee payroll information in real time. Ninety-nine per cent of employers are covered by the scheme, which means that HMRC is now in a better position proactively to check that it has the correct income details when claimants renew their award at the end of the tax year. It also provides an opportunity to check awards within the year.
From September 2016, HMRC will use this real-time information to conduct automated checks of an individual claimant’s monthly income. This means that HMRC is better able to assess claimants’ 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, their income will be automatically amended on the system.
Let me be clear: HMRC will not only tell all claimants up front when they must report changes in their income, it will also, in the majority of cases, prompt claimants to report significant increases in income that HMRC has picked 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 credits award. This reduces the risk of overpayments while making clear to the claimant their responsibilities.
Finally, the Government are committed to seeing this change implemented correctly, and are taking this considered approach in both the operational IT delivery and in engagement with claimants. This will ensure that we see a reduction in the risk of tax credit overpayments and, therefore, a reduction in claimants falling into debt.
In conclusion, the disregard reduction will affect only those claimants whose income increases in-year by more than £2,500. Let me repeat that there will be no cash losers. This change will make tax credits more responsive to income changes; will reduce the overinflated rise and subsequent fall that follows an income rise; and will reduce the inequality of very different awards to families in similar circumstances and with similar incomes. It returns the disregard to its original design and purpose, and now is the right time to do this because the tax credits system is now much more able to deal with income changes. I beg to move.
Lord O'Neill of Gatley
My Lords, I thank those who have taken part so far in this debate. Each time that I have had the pleasure of standing here, I have always learned some interesting thoughts on whatever the topic is. I will try to respond to the things that I have heard as part of my closing statement. First, I will reiterate the broad framework.
This measure needs to be considered alongside the broader steps that the Government are taking, with their ambition for a higher-wage, lower-tax and lower-welfare society, which they were successfully elected to deliver in 2015. Under this proposal is the belief that work will always pay. In that regard, these regulations will reduce the degree of unfairness still persistent in the tax credit system. The reduction to the income rise disregard will reduce the instances where one family receives a higher tax credit award than another family with precisely the same income and the same circumstances. As I have already set out, it is also not unimportant to recall that this policy returns the income rise disregard to its original level.
With the introduction of real-time information, which each of the three speakers mentioned, the tax credits IT system is now more responsive and able to adjust to the fluctuations in family incomes in-year. I will return to that but, as the noble Lord, Lord Kirkwood, in particular mentioned, it is of course important that we try our best to monitor how that progresses. In the event that things do not turn out the way we expect, one would hope that a rational response would be to react accordingly. Before I come back to the specifics, it is also important to point out, as the noble Baroness, Lady Manzoor, herself said and other noble Lords touched on, that this is against the background where we are in any case migrating to universal credit. As part of that, a monthly system will be in operation and it is important to bear in mind that we are already in a position of travel. These new regulations reflect—
Lord Tunnicliffe
Will the Minister admit that the only possible rational response if the circumstances turn out as he has just described—and he promised a rational response—would be to return the disregard to the £5,000 level?
Lord O'Neill of Gatley
I am not sure that that would be the only rational response, but it would certainly be one of a number of ideas that one should consider in the event of any evidence that would subsequently accumulate as a result of the implementation of this regulation. Other policies could be thought of as well.
Baroness Manzoor
On that, of course there will not be sufficient time to return and up-level the income disregard from £2,500 to £5,000 because obviously universal credit will come into play. We will have all this upheaval. Bearing in mind what my noble friend Lord Kirkwood has already indicated, we are talking about this being implemented from 6 April. By the time the Government assess their evidence, many people may well find that they are in debt.
While I have the Floor, I must pick up on what the Minister has said twice. This is not a special award for people. People have to pay this money back the following year. Whether it is set at £5,000 or £25,000 is just a matter of accountancy. I do not want noble Lords who may not be familiar with this issue to think that people are getting £5,000 or £25,000 in their pockets without any comeback. It is simply a buffer zone. But it is the impact of those overpayments that causes real problems because they can push quite a number of people into debt. That is the issue here.
Lord O’Neill of Gatley
Let me respond to the two specific points made by the noble Baroness, Lady Manzoor. The first is linked to the question put by the noble Lord, Lord Tunnicliffe. As I said, there are a number of ways one could think of to make a rational response, and one of the reasons I hesitated to go down the path that the question sought to take me is that it is important that this be seen in the context of what is happening with universal credit. Rather than prejudging what is implicit in both questions, which is that the real-time information system will not succeed in the way we believe it will, I think we should give it a chance.
In response to the second point made by the noble Baroness, I suspect that a number of noble Lords will not be aware of something that is technically quite complicated; there may not be sufficient awareness of what we are trying to deal with here. The reason why the disregard is being put back to its original level is because there are people who receive a significant increase in their income where there is no consequence without it coming back down. That is why all members of the coalition were perfectly happy to reduce it so significantly at the start of the last Government.
Lord Kirkwood of Kirkhope
I appreciate that the Minister is trying to make progress, but I wonder if I could ask him a brief follow-up question to RTI. Is he confident that the new system which is to take effect in a few days’ time will be sufficiently sophisticated to disaggregate the data flows in the new system from the old system? Otherwise the overpayments that are overhanging the data at the moment will make it impossible for any statistical changes to be determined in the new system as opposed to the old, in terms of how successful or otherwise it might be.
Lord O’Neill of Gatley
My Lords, I have not personally studied the RTI system in enormous detail, but I am confident in our officials’ advice and guidance that the system has been sufficiently upgraded to enable us happily to undertake this policy initiative.
Baroness Manzoor
My Lords, that may be the case, but we still have £1.9 billion of overpayments being made now—not before, but now—with more than £5 billion in overpayments and £89 million from 2003-04. Those are the latest figures. There is a real issue around the real-time information processed at the moment, and that is my concern. I do not feel that the Minister is reflecting his confidence that the systems are working as they should. I am married to an IT expert who works around the world on these major systems and he expressed concern when I told him about the scale of the problem that the DWP is trying to deal with. Some reassurance from the Minister would be really helpful because the system is not working now, and I am talking about now.
Lord O’Neill of Gatley
My Lords, I want to answer in part by referring to something that I have touched on already and I shall elaborate further on its purpose. I could bore noble Lords with the detailed estimates of overpayments going back to when tax credits were first introduced. The underlying purpose of this should be looked at in a broader manner. As I said a few moments ago, this is being done within the context of trying to encourage a higher employment, high wage-earning and more gratified society. Trying to undertake this initiative, despite what happened as a result of the remaining part of the original tax credits proposals, is a sign of the belief that this, to some degree, is a technical decision based on the fact that we have been persuaded that the quality of the IT system can improve this dilemma. By definition, narrowing the income increase to a lower level reduces the conceptual scope for the size of aggregates over payments. It is only appropriate, particularly in the circumstances where we are migrating to universal credit, that this proposal be given a chance.
That takes me directly to some of the more specific comments that I have not answered. In particular, the noble Lord, Lord Kirkwood, very thoroughly outlined the other attraction, against the background of what I have just said, as to why this is being pursued in terms of the aggregate savings over the lifetime of the Parliament. Again, I bring it back to the bigger purpose. The noble Lord correctly identified the £935 million in the last Budget proposals against the background where this is positioned. This is about the same amount of money being agreed with a number of cities around the country in devolution deals over 30 years. To answer all the questions implicit from what the noble Lord said, if more places have the ability to use that money and choose initiatives locally to support greater skills and greater training to help even more work, it is a relatively straightforward policy choice, which should not be seen as too similar to some of the issues debated on tax credits. In that sense it seems relatively straightforward.
The noble Baroness, Lady Manzoor, raised an interesting point, suggesting that the Labour Benches were not as supportive as she hoped they might be. She pointed out the irony, given that this was a policy originally brought in by a Labour Government. That might well be among the reasons why that is the case, because it is in the circumstances where we are migrating to universal credit, where assessments will, in any case, be adjusted on a monthly basis. As I said, if it allows some savings so that the Government can then feel more confident allocating to broader and more substantive initiatives to help real pockets of disadvantage to change their supply response to labour market conditions—which both the initiatives I mentioned, one of which was not tabled here, should be seen as—it seems an extremely logical thing to do and not as contentious as the noble Baroness implied.
I turn to the questions, which I am not surprised have come, about the impact assessment. It is fair to say that, as a result of that remarkable debate and subsequent vote in this House some time ago, the Treasury has provided a lot of information to the various appropriate committees, the exact names and acronyms of which I shall not attempt to repeat, because I am sure I will get them wrong. A lot of information has been provided as part of that process. That is where the figure of approximately 800,000 people comes from. After considerable discussion, it is not clear to me that any further special impact assessment on this technical measure will necessarily help to provide anything of substance beyond what has already been provided.
Lord O’Neill of Gatley
My Lords, I can be very clear: this is being done specifically to achieve deficit reduction. However, the goal and policy on deficit and debt reduction also contain a number of economic policy priorities, which include a very strong commitment to devolution in many parts of the country. I was merely trying to illustrate that the amount we estimate will be saved from this proposal is very similar in size to the sorts of figures that we are successfully negotiating in a number of parts of the UK. We hope to do more of that going forward.
This change aims to reduce the disregard to £2,500 because that is fair to claimants, reduces inequalities in the tax credits system and is fair to the taxpayer, reducing unnecessary costs. As I have said a number of times, there are no cash losers because these are people whose pay will go up by £2,500 or more. This change will reduce the incidence of temporarily inflated awards, because the system will respond sooner and further to people’s changes in income in-year. I commend the regulations to this House.
Baroness Manzoor
My Lords, I thank the Minister for summing up. I also thank my noble friend Lord Kirkwood and the noble Lord, Lord Tunnicliffe, for their support today, although I am very disappointed. I agreed with everything the noble Lord said, up to a point, but when he said that he would not be supporting the Motion to Regret my heart fell.
I have listened very carefully to what the Minister has said. He has said a number of times that there are no cash losers. We have to disagree on that, because it depends on how you classify cash losers. It is really important to say that this is not a pay rise by any means. This £2,500 is actually recouped back from the tax claimant. It is not a pay rise but can cause great difficulties because of the fluctuations for people who are working on low incomes.
I will not go over the debate again. The House has been very patient and I thank noble Lords for listening. I feel very strongly about this issue and wish to test the opinion of the House.