Tax credits time bomb threatens to explode

Reading the Sunday Times today I was reminded of the view I have long held and shared that the Tax Credits system is not fit for purpose. It never has been. It never can be.

The system was introduced by Gordon Brown in 2003 to replace what were then known as 'Social Security Benefits'. Responsibility for the payments moved from the Department for Social Security (DSS) to the Inland Revenue (now HMRC). There was logic in trying to bring some consistency to the tax and benefits system. Sadly the rules for computing and reporting income still differ as between the two systems.

The time bomb to which the Sunday Times refers has been ticking since the system was introduced. Just two years ago the fuse was extended (see below) but this is another of those predictable problems waiting to explode.

Today's news story concerns overpayments that are evidently caused by officials' errors and by computer errors. This contrasts with the recent NAO report about HMRC's 2007/08 accounts. This criticised HMRC for the levels of estimated fraud and error in tax credit claims and prompted the Low Incomes Tax Reform Group (LITRG)to note that:

We still do not know enough about how much [of the estimated fraud and error in tax credit claims] is down to claimant error rather than claimant fraud, and we suspect that HMRC error is more prevalent than they claim.

The stories in the paper today refer to such HMRC errors and are quite shocking, but they, and LITRG, omit reference to the underlying problem.

The Tax Credit system, of necessity, REQUIRES claimants to ESTIMATE their income for the year ahead and then to update HMRC whenever those estimates change. The system seems to pre-suppose that all claimants have a low wage and do not change jobs during the year. What about those who have a succession of short-term and part-time jobs?

What about those who are self-employed and cannot forecast with any accuracy what their accounting profit for the current tax year will be? In such cases it's simply NOT possible to accurately estimate your income for the year.

In effect these endemic overpayments are attributed to 'claimant error'. That may be the case in some cases. In many others the 'error' is inevitable as few people can accurately estimate their future income over a complete tax year.

Let's explore this a little further. If someone can't accurately predict their income for the year ahead and they're entitled to tax credits, they could probably do with a few extra quid. Most people in such a situation would make pessimistic estimates of their future income. Such estimates will inevitably generate slightly more rather than slightly less tax credits. These estimates will generally only be revealed maybe 2 or more years later.

I would also note that almost no one in the country (expert or claimant) can check that the 'right' amount of tax credits have been awarded. The computation process is so just so damned complex.

And why do we now have a £25,000 'income disregard' as part of the system? As BBC News reported in 2006:

The decision to boost the income disregard from £2,500 to £25,000 was taken to restore faith in the tax credit system and save the Chancellor from more embarrassing headlines.

In effect claimants are entitled to the same Tax Credits award next year as this year even if their income is anything upto £25,000 higher than it was this year. Where is the logic and the equity in this? There is none. The rationale for the change in 2006 was simply to reduce the number of Tax Credit overpayments that otherwise had to be pursued and repaid.

Given my views on the systemic problems here I will end by repeating a list of the reasons that the Low Incomes Tax Reform Group give as reasons for so much claimant error:

• The system is extremely complex
• The workings of the system are not intuitive
• The claim form is difficult
• The claimant guidance is inadequate
• An inflexible computer system rules the process
• The award notices are unintelligible to someone with normal levels of functional literacy
• The demands upon claimants to notify changes to HMRC are many and complex
• Telephone support is not sufficiently accessible or accurate
• Face to face support is almost non-existent

As I said in my opening comments above:

The Tax Credits system is not fit for purpose. It never has been. It never can be.

The Sunday Times includes reference to a self help group (Tax Credit Casualties) for people who are being pursued to repay alleged overpayments of Tax Credits. Assistance is also available from the charity, Tax Aid.