Chapter 3 Principles and options for reform
Summary
We have set out seven principles for reform which could guide the detailed design of the system.
This chapter outlines illustrative examples of how structural reform might look, including options presented by external organisations.
While they do it in different ways, these models all ensure that clearer gains are available as individuals move into and progress in work, and attempt to ensure that dependency is reduced in the longer term in order to improve the affordability of the system.
More work will also be needed to ensure that the specific design issues outlined are addressed, and that the relative costs and benefits of different reform options are assessed.
Principles for reform
1. We would propose to use a set of principles to guide reform. They could be to:
- ensure that people can see that the clear rewards from taking all types of work outweigh the risks;
- further incentivise and encourage households and families to move into work and to increase the amount of work they do, by improving the rewards from work at low earnings, and helping them keep more of their earnings as they work harder;
- increase fairness between different groups of benefit recipients and between recipients and the taxpayer;
- continue to support those most in need and reduce the numbers of workless households and children in poverty and ensure that interactions with other systems of support for basic needs are considered;
- promote responsibility and positive behaviour, doing more to reward saving, strengthening the family and, in tandem with improving incentives, reinforcing conditionality;
- automate processes and maximise self service, to reduce the scope for fraud, error and overpayments. This could include a responsive and immediate service that saves the taxpayer significant amounts of money and ensures compliance costs for employers, at worst, no worse than under the current system; and
- ensure that the benefits and Tax Credits system is affordable in the short and longer term.
Question 5
Has the Government identified the right set of principles to use to guide reform? (Leave a formal response to this question)
A simpler system with improved work incentives
2. In order to put our principles into practice it is essential to improve work incentives. Different approaches could be designed to give greater emphasis to either increasing the incentive to take up work, or to increasing the incentive to increase earnings once in work. Striking a balance between these elements will be important.
3. With this in mind, there are two key areas where structural reform of the system could focus: firstly, the number and types of benefits and Tax Credits available should be considered; and secondly the way in which entitlements are withdrawn as individuals move into and progress in work could be adjusted.
4. The models outlined below consider these areas, and demonstrate the range of choices that structural reform would need to consider. Chapter 5 considers how reform of welfare delivery could also deliver improvements to the system.
A Universal Credit
5. A Universal Credit would be a new approach to supporting working-age households. It represents a move towards a system that brings together existing income-related out-of-work benefits and Tax Credits into a simpler, integrated system that supports people in and out of work. This builds on recommendations from a number of organisations from across the social policy field. [34] It would:
- combine elements of the current income-related benefits and Tax Credits systems;
- bring out-of-work and in-work support together in a single system; and
- supplement household earnings through credit payments, reflecting circumstances (including children, housing and disability).
6. Such a structure would remove much of the complexity that burdens the system today. Crucially it would also create the platform for tackling the current problems of high Marginal Deduction Rates and low gains to work through reform of earnings disregards and tapers.
Box 3: How might a Universal Credit work?
What would I get if I was out of work? The family’s gross entitlement would depend on their circumstances. Entitlements would be based on current benefit and Tax Credit rules, with amounts for individuals, couples, children, housing, disability or caring. The total would then be reduced for earnings and other income to produce the net amount payable. The credit would be payable to the household member making the application.
How would Universal Credit support me to move into and progress in work?Household members would be incentivised to enter work by a consistent, reasonable, rate of withdrawal of the Universal Credit as earnings increase. The incentive would be reinforced through a system of disregards, which would leave Universal Credit payments unaffected by the first few hours of earnings.
What would happen to Tax Credits? A Universal Credit would subsume Tax Credits as the form of income top-up for families on low earnings, including support for childcare.
How would this be delivered? Universal Credit would be delivered through a new system which would use up-to-date earnings information from employers to calculate Universal Credit on a household basis
– see chapter 5.
What would happen to the Work Capability Assessment? This would still be needed to assess applications from customers unable to work through sickness or disability.
Universal Credit – outline structure
7. Figure 2 below shows a possible outline structure for a Universal Credit system. For someone who is not working it would integrate a range of existing benefits and Tax Credits into a single payment. The amount received would depend on needs and circumstances. The Universal Credit could include the following elements of support, as appropriate:
- basic income replacement for single people and couples similar to the rates of Jobseeker’s Allowance, Income Support and Employment and Support Allowance;
- help with mortgage interest and other housing costs currently available through those benefits;
- help with rent and council tax currently provided through Housing Benefit and Council Tax Benefit; and
- extra help for families in place of Child Tax Credit.
8. As we develop thinking on detailed rules, there might be scope to simplify and improve the focus of some of these elements of support relative to their current design. We would in any case separately consider the role of additional income-related payments for disability as we develop ideas on disability benefit reform. It would not, however, be our intention to use Universal Credit reform to reduce the levels of support for people in the most vulnerable circumstances. At the appropriate stage, we will assess the impact of our proposals on vulnerable groups.
9. The Universal Credit would gradually be reduced as post-tax household incomes rose. Entitlement to support would be available to people out of work and those with low earnings. There would continue to be some non-means-tested support, including contributory entitlements for people who have paid National Insurance contributions, but generally the amount of benefit payable would depend on the level of household income and savings. The impact of earnings on entitlement would be worked out using a system of disregards and a single Universal Credit withdrawal rate.
10. Alongside development of online services this could mean that people claiming Universal Credit would have access to a clear statement showing their earnings and entitlement to the Universal Credit in one place. This would be a huge improvement on the current system in which people have no access to a single statement of their entitlements.
Disregards and tapers
11. Chapter 2 highlighted the problem of poor financial work incentives and uncertainty, making people feel that it is not worth their while to take a job or to increase their hours.
12. To improve incentives to work (especially for low earners), people entering paid work would ideally see no reduction in their Universal Credit until they earn over a certain level (the earnings disregard). The level of this earnings disregard might depend on household circumstances. We would need to consider further, in the light of fiscal circumstances, how best to design the disregards. However, it may make sense to provide larger disregards for some groups, such as families bringing up children.
13. In order further to improve the incentive to earn more, the system might involve applying a single taper to reduce the Universal Credit where earnings (net of tax and National Insurance) exceed the level of the earnings disregard. This taper could apply to all earnings, regardless of the number of hours worked. It could also provide a single withdrawal rate in place of the current different withdrawal rates across out-of-work benefits, Tax Credits, Housing Benefit and Council Tax Benefit. Currently, these interact in complicated ways and produce very high overall Marginal Deduction Rates for many people.
14. A single withdrawal rate would make it clearer and simpler to calculate the financial gains from work and for people to be confident of being better off by taking a job and progressing to more hours and higher pay once in work.
15. In the current fiscal climate we need to strike a balance between incentives and affordability. This trade-off would, in particular, affect the rate of withdrawal that is feasible if a Universal Credit is introduced.
16. However, by way of illustration, for people paying Income Tax at 20p in the pound and National Insurance contributions at 12p in the pound, a withdrawal rate of 55 per cent would lead to an overall Marginal Deduction Rate of 69.4 per cent; a withdrawal rate of 70 per cent would lead to an overall Marginal Deduction Rate of 79.6 per cent. This compares with a current Marginal Deduction Rate of 73 per cent for people getting Working Tax Credit or Child Tax Credit only, 90.55 per cent for people getting Housing Benefit in addition to Tax Credits and 95.95 per cent for people getting Tax Credits, Housing Benefit and Council Tax Benefit.
A Single Unified Taper
17. A Single Unified Taper would retain a set of benefits reflecting that different families need support for different reasons. This means that both the major out-of-work benefits and the system of Tax Credits would be retained. However, we could also consider reform of certain benefits within or alongside a new structure. It would not be our intention to use reform to reduce the levels of support for people in the most vulnerable circumstances. Overall the total number of benefits available could be reduced and the system simplified.
18. It is hoped the model could then be delivered according to the principles of a reformed delivery system outlined in chapter 5. Once eligibility has been calculated, the system could work without earnings disregards and withdraw benefit entitlement in such a way that a person’s Marginal Deduction Rate is constant until benefit receipt is exhausted.
19. As an individual increased their income, withdrawal would be through a taper that would be applied to their overall benefit eligibility, rather than the individual benefits as is currently the case. This would remove the complex interactions that currently cause high Marginal Deduction Rates. As an example, if the Single Unified Taper were set at 75 per cent:
- an out-of-work individual, or an individual with earnings below the threshold where they began to pay tax and National Insurance contributions, would face a taper rate of 75 per cent. This would be applied to their overall benefit receipt, not individual benefits, meaning that this would also be their Marginal Deduction Rate: they would increase their net income by £2.50 for every £10 they earned; and
- an individual with earnings above the threshold for paying tax and National Insurance contributions would face a taper rate on their overall benefit receipt of 43 per cent as they increased their earnings. Combined with the tax they paid (32 per cent income tax and National Insurance) this would lead them to the same Marginal Deduction Rate of 75 per cent: they would increase their net income by £2.50 for every extra £10 they earned.
20. This would mean that individuals on benefits or Tax Credits keep the same amount of every pound they earn as they move into and progress in work. Thus, for every decision about entering or progressing in work, the claimant could know the exact amount they will keep after benefits and Tax Credits have been withdrawn.
21. As well as making current incentives more clear, such a system could also improve the incentive to enter work and to progress to higher incomes by reducing Marginal Deduction Rates and Participation Tax Rates. This is particularly true for those on low incomes and those on out-of-work benefits who currently have benefit withdrawn pound for pound with earnings. By retaining separate out-of-work benefits and Tax Credits, this approach also provides targeted incentives for people to increase their hours of work. Figure 3 shows how this could work. A balance between incentives and affordability would need to be struck when considering the rate at which the Single Unified Taper was set.
Box 4 How might a Single Unified Taper work?
What would I get if I was out of work?The family’s gross entitlement would depend on their circumstances and would be broadly similar to today’s system as the majority of the current benefits and Tax Credits would be retained. The total would then be reduced for earnings and other income to produce the net amount payable. The credit would be payable to the household member making the application.
How would Single Unified Taper support me to move into and progress in work? Household members would be incentivised to enter work by a consistent, reasonable, rate of withdrawal of benefits as earnings increase. This would be lower than the current 100 per cent withdrawal of benefits as claimants move into work.
What would happen to Tax Credits? Tax Credits would be maintained to provide targeted support for families to enter and progress in work.
How would this be delivered? The Single Unified Taper would be delivered through a new system which would use up-to-date earnings information from employers to calculate the Single Unified Taper on a household basis– see Chapter 5.
What would happen to the Work Capability Assessment? This would still be needed to assess applications from customers unable to work through sickness or disability.
Single Working Age Benefit
22. The Institute for Public Policy Research have proposed a model for a Single Working Age Benefit. [35]This concept of a single benefit is a simple flat rate benefit that would give all working age claimants the same level of replacement income, regardless of whether they were jobseekers, lone parents, sick or disabled.
23. The other key features of this model would be:
- no contributory entitlement (the paper argues that the contributory principle in working age benefits is misunderstood and of little real value);
- a universal non-means-tested entitlement for the first 12 weeks out of work;
- all benefit beyond 12 weeks to be means-tested; and
- the option of individualised entitlement for couples.
24. The Institute for Public Policy Research envisage that the Single Working Age Benefit would replace existing out-of-work benefits. It assumes that there would continue to be separate provision for extra costs and that Tax Credits would remain as now.
Mirrlees model
25. The Mirrlees model, proposed by the Institute for Fiscal Studies[36], uses optimal tax theory to design an efficient system of household tax and transfer programmes. This model would replace Child Tax Credit, Working Tax Credit, Income Support/Jobseeker’s Allowance, Housing Benefit, Council Tax Benefit and Child Benefit with an integrated ‘family allowance’ paid directly into bank accounts and withdrawn using the withholding system for Income Tax.
26. The allowance would be far less generous than current Income Support levels (£50 for a single person), but earnings up to £90 would have no impact on the allowance, and earnings above this subject to a 30 per cent withdrawal rate (with an additional 15 per cent on the housing element). Tax allowances would be adjusted so that tax and NI would be payable once the earnings disregard had been exhausted.
27. The model would replace all family benefits, housing support and Tax Credits and assumes that the family allowance would be tapered through the tax system. Support for families out of work would be substantially less than current benefits. The Mirrlees model represents a more complete integration of Income Tax and benefits than some other models.
Single benefit/negative income tax model
28. The TaxPayers’ Alliance [37] recently published a report that recommends a reform that brings together a large number of the existing benefits. However, unlike other approaches that introduce a single benefit, it suggests the introduction of a negative income tax. This would replace current income-replacement benefits and tax credits. Alongside this, they suggest the maintenance of a number of the current benefits aimed at supporting those with a limited ability to work or who need extra support.
29. A household’s eligibility for the negative income tax would be based on their characteristics, and set equal to a given proportion of (equivalised) median income. As household income increased from individuals moving into work or progressing in work, the level of the negative income tax would be reduced in such a way that the Marginal Deduction Rate (inclusive of Income Tax, NI contributions and the withdrawal of the negative income tax) was constant until all support was exhausted. This implies that the system does not have a system of earnings disregards.
Question 6
Would an approach along the lines of the models set out in chapter 3 improve work incentives and hence help the Government to reduce costs and tackle welfare dependency and poverty? Which elements would be most successful? What other approaches should the Government consider?
Conclusion
30. There are a number of different approaches to simplifying benefits and Tax Credits that could improve work incentives and make the available support easier to understand. This chapter has explored some of the different options available. We will also look at targeted measures for increasing work incentives and reducing the extent and costs of welfare dependency alongside consideration of structural reform.
This consultation is now closed.
Unified Tax & Benefit System with Fixed Marginal Rates
by NigelRHolder on July 11, 2010 at 04:11PM
Improving the tax and benefit systems to eliminate the poverty trap would provide both increased tax revenues and reduced benefit payment burdens. The poverty trap is caused by excessive marginal rates of taxation that flow from benefit reductions as income increases, compounding the problem that going to work costs more than staying at home, in terms of both transport and childcare costs. The maximum acceptable marginal rate of taxation, at any level of income is 50% and the Laffer curve demonstrates net reductions in tax revenue when rates exceed 50%.
Simplification of the system requires that all benefits and all taxes on any individual should be calculated and disbursed / collected simultaneously. This should be done by local authorities for the unemployed, the primary employer for those in work, and the self-employed should self assess. All calculations should be performed monthly on the basis of monthly benefit entitlement and monthly income.
Tax credits would be abolished. earned income, unearned income, pension income, and one twelfth of annualised capital gains would be aggregated into individual monthly income. Unemployment benefit would be abolished and replaced by a universal benefit set by government at a monthly individual subsistence level, payable universally to all adults. Child benefit would be paid either all to the father or all to the mother of split 50/50 between parents. Housing benefit would be paid at a rate of 75% of current rent to all tenants independent of their income. Disability benefits would be added where awarded.
All benefits and income would be aggregated and paid in full to all individuals where the aggregate amounted to less than twice the substance level. Every pound in the aggregate amount above the subsistence level would be taxed at the preset marginal rate of taxation. The preset marginal rate of taxation would comprise a national marginal rate and a local rate (which replaced Council Tax).
The variables that would be set by government would be
1. The subsistence level. 2. The multiple to be applied to the subsistence level to determine the benefit and income aggregate level for the start of taxation 3. The marginal rate of tax to apply (local govt sets its own extra impost).
In the event that a single marginal rate proves too expensive then government could increase the marginal rate in a…[truncated by the system]
Employers paying minimum wage should be means tested, it should be starting pay and not constant.
The system is not so importand, The only important criteria is the amount.
The rest is just philosophicsl theory.
Who cares if he gets benefit/ negative income tax or something else.
If i could choose the only importand criteria for me would be “How much do I get?”
The system is all important because that is what decides how much you get.
For example, why is child benefit to remain universal while DLA will apparently be means tested? This is a political decision and does not help to support the vulnerable adult disabled whose families already bear the brunt of their care costs and actually already save the welfare state huge amounts in unused residential care costs.
I have read comments that people say they are not prepared to go to work for less than £20,000 or £30,000. It makes me cross to think that people can sit at home earning that kind of money when my husband works fulltime for £16000.
Because my son is an adult we are apparently above the threshold for tax credits and he gets no allowances for housing costs because he lives at home. Therefore, we rely on his benefits to pay the extra costs of basic needs such as heating and water costs as well as his special diet.
If DLA is means tested and he remains on a contributory based benefit which I believe is inherently unfair for someone who is congenitally severely disabled
I worry about how we will be able to manage.
If the state is supporting families regardless of income who have children why does it not want to support my family – I have a son who requires the same care as when he was 2, he just happens to be twenty years older now.
I dont feel the current system is fair and in my experience despite the apparent surfeit of benefit advice agencies it remains very difficult to obtain clear advice about benefit entitlement, advisors within the system themselves sometimes uncertain of the impact of one benefit entitlement on another. So simplificatiom and clarity – yes
However, I am concerned that much of the rhetoric about benefit change seems to concentrate on the unemployed and the ’sick’ who apparently can be helped into employment. Whilst I support much of this, my fear about reform is that while the macro system may undergo significant change, some of the micro disparities across benefit entitlements will remain.
For example, my adult son has multiple disabilities and complex needs and lives at home. He receives Incapacity (in youth) Benefit which because it is classed as a contribution based benefit (rather than a means tested benefit) prevents his claiming help with a range of other support services such as Watersure and health costs. We are on a water meter and our water bills are high because he is doubly incontinent and has a skin condition which requires frequent bathing. We have similar issues with electricity costs. However under the benefit system he is deemed to have no housing costs because he lives at home, leaving us to both provide and finance his care. I am concerned to see that employment and support allowance has a similar provision so that young people like my son who have severe and multiple disabilities can be placed within this ‘contribution’ based framework and in the long term be excluded from other benefit entitlements. There is quite a lot being reported about how the government will continue to help families with disabled children but I fear that the needs of families who continue to care for their severely disabled children into adulthood are in danger of continuing to be neglected.
Reading the background it seems that there is a process whereby guidelines exist from the Department of Communities and Local government which calculates what is an appropriate rental banding for a particular area. Which is then used via lots of paper pushing to check that each claim for benefit is correct. This seems terribly complicated. A straight amount should be paid to a claimant (based on their council), they should then be able to choose either private rental, council housing or a private home (i.e. mortgage).
You are right, the Valuation office is responsible for obtaining voluntary information from agents and so on of agreed rentals. These are collated using a rolling 12 months set of data to provide an ‘average’ for each type of house. New tenants then choose what they can afford, and know that any benefit received is guaranteed, providing their incomes remain unchanged. To now lop £10pw to £500 pw off this is insanity. There are many other areas where billions of pounds could be more fairly obtained..ie tax dodgers, particularly corporations and ex-pats…ie the clever wealthy of this country who put us in the position in the first place ?
It doesn’t matter how you dress it up, these are cuts in benefits..so no matter if you are genuine, or one of the minority who cheat, you will face cuts.
There are not enough jobs for those seeking work anyway.
So what is the point, apart from cutting benefits ?
As far as council tax is concerned, the easiest and quickest way of reforming this, so that families in Band A are not paying proportionately so much more band H, is for the Government to adjust the 9ths rule. This is what LA’s use to apportion the charges, band D being 9/9th, band A 6/9th aand Band H 18/9ths. SO why not just change Band A to 1/9th, and Reschedule other bands so that Band H pays (say) 25/9ths ? This could be an interim measure until a fairer way can be introduced based on income levels, eg a local income tax.
As far as Housing benefit is concerned, and the cut, already announced to 30th percentile…The shortfall in available housing has forced people into private renting market. This has grown, with the benefit of significant interest free loans, into a large investment market for speculators, property management companies and landlords. They will, of course, maximise their returns by pushing up rents, collectively. A complaint by many, whether on benefit or not, is that rents continue to rise despite the economic status of the rest of us.
For the Coalition to now say they can not afford to pay this increasing cost is ironic, tenants have being saying this also. The tenant unfortunately can not just tell the landlord/Agent that he/she is going to lop 10% or so off the bill. For the Coalition to inflict this onto tenants, already struggling with higher rents, is complete insanity. Again, there is an obvious and easy to implement way of dealing with this more fairly. That is to regulate the private rents market, even if only for a period of years, to set rents at affordable levels, acknowledging the subsidies landlords have generously been given to develop their property portfolios. This would allow the Coalition to achieve its aim of savings billions in housing benefits, it would ensure those that can afford most will pay most (ie the landlords and not the tenants) and will also go some way to redressing the issues private tenants who do not receive benefits have, that they are subsidising HB tenants. They would also be better off.
Q,5
Now is the time to change the way domestic council tax is collected and make it a much fairer system.It should be collected through the V A T system This would take out council tax benefits from the system and every one pays there share.
The rise in V A T for people in work would be compensated for by not having to pay the yearly council tax bill.
As every adult will pay V A T instead of one paying the tax bill the rise in
V A T for each person should be a minimal amount.
Why V A T. Because its up and running the benefits and safeguards are all ready built-in.
And people not in work but on benefits would be puting something back into the system.
I don’t disagree that VAT is a fairer tax, insofar that those who can afford to spend most, pay most. But who will distribute the money raised back to the Councils ? The idea of local taxes (ie council tax) is to appear that the LA is in some way accountable for its spending budgets.I know CT is only 25% of councils budgets, but it gives local people some say in what goes on in their area. A central office of distribution would be needed to assess the councils claims for funds, which may not be a bad idea, but would need an army of staff to administer it…
The report talks about ‘reinsentivisation’ to work. At the moment I am signed off sick, as I have arthritis. I’ve been refused ESA, even though I have a pension from the County Council. Any new benefit system should take into account reports from doctors and specialists before makeing decisions. I agree a single benefit would be easier, but entire system needs to look at why a person is off work instead of classing most people as Welfare Cheats.
It is an unfortunate ‘fact of life’ that there will be people attempting to defraud the system. There should be a single robust fraud investigation team, independent of the various benefit funding streams. Anecdotally, local authorities are ‘laying off’ fraud investigation staff as a cost saving – this can’t be right. Those that fund the welfare state (i.e. we tax payers) must be able to clearly see that fraud simply doesn’t pay. More publicity of successful prosecutions, publicity of ‘free’ fraud lines, and possibly a ‘name and shame’ campaign.
I am currently unemployed, but couldn’t agree with you more. There is clearly a significant minority of people who have no intention of working, and others who are clearly faking disability to attract higher benefits. It is a false economy to cut back staff and funding for fraud departments.
Simplicity is the key to understanding and working any system. The current multi-benefit, gaining with one and losing with another is costly to administer and counter productive in its help to the end recipients. The specific trigger points are also important given the part time nature of many jobs now.
Consider giving full child benefit to the first child; a reduced benefit for a second child and then a large reduction or no benefit for subsequent children. There is nothing more unhappy than an unwanted child. And the tendency to produce children for the sake of the extra state cash they bring, rather than working, is not good for parents or children.
Could not agree with you more as a parent of four children who has always worked and supported them. I agree if you choose to have children you need to be able to support and care for them and be prepared for the full investment which includes supporting them financially
The principles proposed are very sound. However, it’s important that those in vulnerable groups be fully supported to engage with the system; and that employment is not imposed where it is clearly inappropriate and would be detrimental to a household/individual e.g where a member of a houshold has long term caring responsibilities for a disabled adult/child and would clearly be unable to undertake employment without it conflicting with their caring role.
All of the above systems have potential benefits over current arrangements. However, I think from the perspective of making the welfare system easy to understand and transparently fair, the Universal Credit is by far the best option as it reduces the number of benefits. As long as the single taper rate and disregards are set at a sensible level, it would obviously give people more of an incentive to seek work.
perhaps not then.