Last night the Chancellor of the Exchequer George Osborne signalled a rethink over tax credit reductions after a defeat in the House of Lords. The changes, which could see over 3 million tax credit recipients lose up to £1,000 a year, are part of a range of measures that were proposed in the Chancellor's budget earlier this year.
Under the initial proposals the £6,420 income threshold for Working Tax Credits will be cut to £3,850 a year. In other words, as soon as someone earns £3,850, they will see their payments reduced. The income threshold for those only claiming Child Tax Credits will be cut from £16,105 to £12,125.
The rate at which those payments are cut, known as the taper rate will also increase. Currently, for every £1 claimants earn above the threshold, they lose 41p. In the proposals the taper rate will accelerate to 48p, so for every pound earned above the threshold, claimants will lose 48p. Alongside this, the national minimum wage is to be replaced by a 'National Living Wage' set at £7.20 in April 2016 and rising to at least £9 by 2020. Whilst many will benefit from the changes, as well as an increase in the income tax threshold, the Institute for Fiscal Studies cited that only 13% of tax credit recipients will be better off as a result of the overall changes.
What's changed?
Since the proposed reduction came to light in July there has been widespread opposition. Despite the Chancellor pledging not to budge on the policy, many have predicted, including some conservatives, that it was only a matter of time before George Osborne would need to rethink his plans.
This came to a head last with Peers voting to delay the changes as well as asking the government to carry out an independent review of their potential impact before they come into effect.
This is by no means the end of the story and we can expect to see the tax credit debate in the newspapers for many more weeks to come. On a practical level it seems likely that the Chancellor will propose changes that will make the reductions more palatable in a bid to convince them to reconsider. If this is the case we can expect to hear the Chancellor's revised proposals on 25 November when he delivers his Autumn Statement to Parliament.
What are his options?
The most controversial element of the proposals is that those on the lowest incomes will be hardest hit and so changes must target this specific group. Speaking after the defeat in the Lords the Chancellor told reporters, "We can achieve the same goal of reforming these tax credits, securing the money we need to ensure our economy is safe, and at the same time helping in the transition to these changes and I will set out how we achieve that at the Autumn Statement."
This would seem to indicate that whilst he is looking at softening the impact on the poorest he is still determined to push ahead with the broader policy. There are a number of options that would allow him to do this including phasing in the cut in tax credit thresholds to soften the blow, only applying the measures to new claimants or bringing in specific support for those on the lowest incomes. Many have suggested that changes to the National Insurance threshold could be on the cards but as the tax only applies to those earning over £8,000 a year it is unlikely to have the impact needed for those at the bottom of the income spectrum.
What next?
This morning Leader of the House of Commons Chris Grayling admitted that the Treasury would now be looking at "transitional arrangements" to mitigate the impact on up to three million people adding, "The detail will come in the Autumn Statement and we will be looking at a variety of options."
Even under the existing proposals, changes would not come into effect until April 2016 and with this latest development the full impact may now come in much later.
Simon Hopkins, Chief Executive of Turn2us commented, “We have voiced our concern for some time that these proposed changes will have a devastating impact on some of the poorest in society. It is better news for those concerned about the impact of the proposed cuts that the government has indicated that it may now water down these proposals. We will of course be paying close attention to the Chancellors Autumn Statement on 25 November. The bottom line for us is for meaningful and practical help to be available for those that are struggling.
“I would urge anyone unsure of what support they are currently eligible for to visit Turn2us.org.uk, as the first step in preparing for any changes is knowing where you stand now. Realistically, it is likely that many will still see a reduction in income as a result of the proposed changes but this latest development gives us some hope that the impact may not be quite as severe as initially proposed.”