There is considerable confusion over the changes to tax credits, but as the government is committed to introduce these alterations we thought we would try to clarify the situation.
Currently, if annual household income is below £6,420 then the maximum level of tax credits is awarded. From April 2016 the household income will go down to £3,850. When household income goes over £3,850, tax credits start to be withdrawn for every extra pound earned.
Tax credit entitlement for those with an income of above £3,850 will be taken away quicker as their income rises. In technical terms, the taper rate will change from 41% to 48%.
In addition, claimants whose household income increases by up to £5,000 during the tax year currently have that rise ignored when entitlement is calculated for that year. From April, this will be reduced so that any increase in income of more than £2,500 will be taken into account.
More changes are planned in a year. For example, if a family has a third or subsequent child born after April 2017 they will not qualify for more child tax credit.
Many people will find a “black hole in their budget” in April, according to Lee Healey, managing director of benefits adviser IncomeMAX. “People have six months, so now is the time to prepare,” he says.
Mr. Healey suggests that people bear in mind that the calculation of their tax credits is likely to change, so they need to alter the calculations in their household budget. With some recipients potentially receiving hundreds of pounds less than now, they should also start exploring ways to save such as reviewing and switching energy and telecoms providers, he says.
Another good way to prepare is by ensuring the annual tax credit renewal pack – which checks all income and personal details are correct – is returned as quickly as possible.
Will People be Worse Off?
This is the question currently being debated. Anyone who received tax credits with a household income above £3,850 will receive less in tax credits from next April.
Chancellor of the Exchequer George Osborne says that nine out of 10 families will be better off when all the changes made in his Budget are considered. He says that to isolate tax credits in this debate would be misleading. The government wants to reduce tax credit spending and says that measures – most notably increasing the level of earnings that are free of income tax – will help to compensate.
Mr. Osborne says that the rising minimum wage, tax changes, the introduction of the National Living Wage and entitlement to free childcare will actually mean the vast majority of families will be better off.
That is not a view shared by Frank Field, the Labour chairman of the Commons Work and Pensions Committee. He says: “Even if his [Mr Osborne’s] calculations are correct, he is still launching a dive-bomb attack on Britain’s strivers from April until 2020.”
He claims that the typical family, with someone working full-time on the minimum wage, would be more than £2,000 a year better off, by taking all these policies into account.
The source of that claim, made at the start of the recent tory Party Conference, were figures published by the Treasury at the time of the summer Budget.
The rise of £2,480, for the type of family mentioned, would see their net income go up from £26,040 in 2015-16 to £28,510 in 2020-21.
Not Everyone Agrees
Groups, such as the Resolution Foundation think tank and the independent Institute for Fiscal Studies (IFS), basically make two key points to counter the chancellor’s argument.
Firstly, all the Budget changes do not come into effect at the same time. For example, the most significant cuts in tax credits take effect in April, but the point at which the National Living Wage hits £9 an hour will not come until 2020.
Secondly, Mr Osborne’s “typical family” fails to make it clear who are the winners and who are the losers. For example the Resolution Foundation points out that the National Living Wage compensates only 13% of the lost income faced by the poorest 50% of households following the Budget.
“We estimate that ‘a standard’ tax credit family – a single earner couple with children – must be at least £985 a year worse in 2016,” the think tank says.
Research by the IFS says that 8.4 million working age households, with someone in paid work and receiving benefits or tax credits, will lose £750 a year, and only gain £200 a year from the National Living Wage.
How Will People be Notified?
Letters are being sent out to claimants in a few weeks’ time to explain the changes to their entitlement. That, according to benefit advisers, will be the moment of reality for many people – especially those who are not following the news particularly closely.
In the meantime, there is a tax credit calculator available for claimants, run by HM Revenue and Customs, which administers tax credits.
Speak to Vincent & Co
This is confusing subject so please don’t assume too much. Come and speak to us about your personal situation for good advice.