Technical-ish tuppeny’worth on tax credits policy choices

Jo Maugham QC (@JolyonMaugham) has pointed out today in a widely taken-up post on his blog that cuts to tax credits are a policy choice. He’s right of course, and changes are brought about in the world as a result of a succession of such choices. One choice begets another, though, and successive choices form a hierarchy of increasing specialisation and difficulty in seeing the detail.

In this case, the choice of highest order is about the level of government spending and the choice made was to cut it rather than increase it or keep it the same. That is a choice that was clearly flagged up in the Conservative manifesto and so it’s hard to say that it wasn’t mandated by the general election result. Once the choice is made to cut, then second-order choices have to be made about just what to cut. In this case a choice has been made to cut tax credits. This choice is more contestable: as Jo points out, there is a sense in which such a cut is unnecessary because instead of reducing government spending it is instead paying for an increase in government spending elsewhere through tax giveaways, and to some extent at least taking from a poorer group to benefit others who are rather less poor. It is further contestable on the basis that David Cameron made commitments before the election that there would be no cuts to tax credits. Though this latter is itself contested, there seems no doubt that some numbers of people believed it to be so.

Now, after the general choice to cut, and the specific choice to cut tax credits, there are further choices to be made about how to cut them. Tax credits are paid to all sorts of different people, or ‘families’ as HMRC call them, encompassing single people and couples, people with children and without children, people who are working and people who are not working.

Different personal characteristics and circumstances entitle claimants to different monetary ‘elements’ which are added together to make up an ‘award’ to the claimant. The key elements comprising most of the tax credits bill are the Child element of Child Tax Credit (CTC) which is paid per child to people with children whether they are working or not, the Basic element of Working Tax Credit (WTC) that goes to low-paid workers even if they are single and have no children, the Couple/Lone Parent element of WTC that goes to families with someone working that aren’t comprised of just a single person with no children, and the 30 Hour element of WTC to reward more-or-less full time hours (though even a couple only have to get to 30 hours together). Here’s a table showing what these elements are worth in an award, before any income-based withdrawal or ‘tapering’ takes place.

data from HMRC Child and Working Tax Credits Statistics Appendix C

This shows that when tax credits in their present form were first introduced, the Child element of CTC and the Basic and Couple/Lone Parent elements of WTC were about the same amount. So for a low-earning couple with two children, about half of their award would derive from working and about half from simply having two children. If they stopped working they would still get the half that derived from having two children. Conversely of course, if no one in the family was working, they could nearly double their award by getting even the lowest-paid job as long as 16 hours a week were worked. That seems quite an incentive.

However, the chart shows that these incentives have changed over time. The elements derived from working have hardly changed, while the element derived from simply having children in the family has increased significantly. In fact in real terms the working elements have shrunk.

data from HMRC as above and from Office of National Statistics for Consumer Price Inflation (CPI)

So the relative incentive to work has diminished. In fact, so has the absolute incentive for some. For our couple with two children in 2003/4, the Child CTC, Basic WTC and Couple WTC elements together would have contributed to their tax credits award about £7,800 in today’s money. But if they have had a third child since, the increases in the Child element of CTC means that in 2014/15 this element alone contributes £8,256 to an award. So they would now get more in real terms for not working with three children than they would have got in 2003/4 working with tw0 children. Obviously there’s more to be had by working now too, but that would increase the award by less than half, compared with the previous possibility of doubling it. Even if the couple still only had two children, going to work would add barely two-thirds to their award rather than doubling it as before.

So much for the history lesson, but that’s where we are today and where the policymakers were when told about the choice to cut tax credits and told to think about the next choice down the line: how to cut them. Now the choices about that, and the projected savings from those choices can be seen in the table of Budget costings that Jo reproduced. I’ve added them up over the life of the Parliament. The figures in the rectangle are cuts entirely from tax credits awards to people in work. The figures in the oval are cuts from both working people and people not working. So at least 80% of the cuts are to awards to working families.

In the circumstances of a narrative that I hardly need to reiterate here as it is so well known — making sure work always pays, making sure that working more always pays more, aspirations to highest employment rate in G7, high wage/low welfare economy etc etc — it seems odd that the choices about cuts to tax credits put the burden so squarely on the rewards to working when there has been such a shift over time within the tax credits system towards rewards for not working. Yes of course relieving child poverty was the original policy intent of the present tax credits system, but on the basis that the best way out of poverty was work. One might think that different choices would be more rational and more in line with that narrative. When it is clear that a key driver of the increased cost of tax credits since 2007 (or whenever government is trying to roll the costs back to) is increases in the element that is paid regardless of whether the claimant is in work or not, one might be curious about a choice to leave this untouched while at the same time withdrawing so much from awards payable to people in work.

It seems that the one group none of whose members will receive a letter from HMRC telling them that their award will be cut is …. families with no one working.

It might not yet be widely known that this will be the case, but when those letters start arriving through the doors of working families and not through their out-of-work neighbours, it might prompt some puzzled thoughts ….