Universal Credit: jam tomorrow?

The Chancellor announced a change in the Universal Credit taper rate from 65% to 63% in this week’s Autumn Statement.  This will increase the amount of benefit received by many in-work Universal Credit claimants. But what does this mean in practice for families, and how much will it cost the Exchequer?

What is Universal Credit?

Universal Credit (UC) is a new benefit replacing means-tested social security benefits and tax credits for working-age individuals and families, providing both in- and out-of-work support.

UC was introduced with the aim of simplifying and streamlining the benefits system, improving work incentives, tackling poverty among low income families, and reducing the scope for error and fraud. UC was first made available to a small subset of new claimants in certain areas in 2013, and is gradually being rolled out. The benefit is not expected to be fully introduced until 2022.

How much can you claim?

Every UC claimant has a maximum award, which depends on their family’s circumstances.  For those in work, the amount they actually get depends on two further factors:

  • the work allowance: the amount they can earn before their maximum award starts to taper off.
  • the taper rate: the rate at which awards taper off once the claimant is earning in excess of their work allowance. Prior to this week’s announcement the taper rate was 65%.  That meant for every £1 of net earnings in excess of their work allowance, claimants lose 65p of their benefit.   As earnings increase, the UC award tapers off, eventually to zero.

For working claimants, reductions to the work allowance reduce the UC award, while reductions to the taper rate increase it.

What about the changes to the work allowance announced last year?

Summer Budget 2015 announced cuts to UC work allowances for most claimants from April 2016. The table below shows annual work allowances in 2015-16 and, following the reductions, 2016-17.

The change in the work allowance (indicated in red) isn’t the change in income experienced by each family type.  It is the change in the amount they can earn before their maximum UC award starts to taper off.  The actual impact on a family depends on its level of earnings, but a £1 reduction in their work allowance can reduce their UC award by up to 65p.

How much money will changes to UC work allowances save?

The Chancellor is expected to save £0.12 billion in 2016-17 from changes to Universal Credit work allowances specifically, rising to £2.85 billion in 2019-20 and £3.19 billion in 2020-21.  These savings come on top of those from other measures, including limiting the child element in UC and tax credits to two children for new claims and births after April 2017.

Commons Library briefing CBP-7446, Universal Credit changes from April 2016, gives further details.

So what was announced at Autumn Statement 2016?

The Chancellor announced a reduction of the Universal Credit taper rate – taking it from 65% to 63%.  It was, he said, “effectively a targeted tax cut that will be worth £700 million a year by 2021-22 for those in work on low incomes” that will “increase the incentive to work and encourage progression in work.”  It is expected to help 3 million households.

The announcement means that from April 2017, instead of losing 65p in Universal Credit for every £1 of net earnings above their work allowance, families will instead lose 63p.

Taken together, how much will these changes impact on Exchequer spending and savings?

Initially, not very much. Because relatively few working families are getting Universal Credit (only 161,000 UC claimants were in employment at October 2016) the reduction in the taper will cost only £35 million in 2017-18.  As the numbers on UC increase, the cost of the taper change increases, so by 2021-22 the extra expenditure is expected to be £700 million a year – see the figure below.

All the same, the figure shows extra spending is far outweighed by the expected savings from the work allowance cuts and limits on support for families announced in Summer Budget 2015 (we don’t yet know how much these measures will save in 2021-22 – hence the shaded-out bar in the figure – although we can assume savings will increase as the roll-out of UC continues).

By 2020-21, the work allowance cuts alone are expected to save £3.2 billion.  The further changes – the 2 child limit in UC and tax credits and abolition of the family/first child premium for new claims – save a further £2.2 billion in 2020-21, but as transitional protection for existing families is exhausted the savings from these measures will continue to grow (following Summer Budget 2015 the IFS estimated long-run savings from the 2 child limit and abolition of the family/first child premium of around £5 billion a year).

How will this affect individual families?

The table below shows the impact of changes to Universal Credit, the National Living Wage and tax-free Personal Allowance on the net income of two example families, under four scenarios.

In 2020-21 a dual earner couple, both on the NLW, with two children might earn around £21,800 a year (gross earnings). Under Universal Credit they lose around £1,200 as a result of cuts to work allowances. Changing the UC taper rate from 65% to 63% restores around £300 of their award. Taking these changes to UC together, this family experiences a net loss of £800.

A lone parent on the NLW with 1 child in 2020-21, in comparison, might earn around £16,000 a year (gross earnings). Under Universal Credit they lose around £2,800 as a result of cuts to work allowances. Changing the UC taper rate restores around £200 of their award. Taking these changes together, this family experiences a net loss of £2,600.

How will the reduced taper affect work incentives?

Cuts to Universal Credit work allowances and changes to the UC taper rate also impact upon a claimant’s incentive to work. The chart below – an interactive video – shows the net income of a lone parent on the NLW with one child working in 2019-20.

The x axis of this chart shows the number of hours a claimants works a week: by moving to the right across the chart, the claimant increases their hours. The y axis shows the claimant’s net income, – that is, income from earnings after tax and National Insurance contributions have been deducted and benefits awarded. By moving up the chart, the claimant increases their net income.

The difference between the yellow line and the red line shows this family’s loss as a result of cuts to UC work allowances, equal to around £53 a week if working 22 hours or more.

The difference between the red line and the blue line shows this family’s gain from changes to the UC taper rate, equal to around £2.80 a week if working 30 hours.

If working 30 hours a week on the NLW, therefore, this family remains around £50 worse off a week as a result of combined changes to UC.

So all in all, what do the changes mean for families?

The Prime Minister has spoken of the plight of families “just about managing.” The Government states that 3 million households will benefit from the reduced Universal Credit taper, but with most low income working families still getting tax credits the change will have no immediate impact.  And when families do eventually move onto UC, for many any gain from the reduced taper will be more than outweighed by losses as a result of the work allowance cuts and other changes announced at the 2015 Summer Budget (although some may benefit from transitional protection so that they do not lose out in cash terms at the point of transfer).

What are the alternatives?

In the run-up to the Autumn Statement, there were a number of calls on the Government to reconsider the UC work allowance cuts.  The Resolution Foundation argued that boosting the work allowances was “potentially the most targeted way to support low to middle income households that make up the government’s ‘just managing’ cohort”, particularly for single parents and second earners.  While acknowledging there was “significant merit” in lowering the taper rate to reduce disincentives to progress in work, it pointed out that it was much less effective at targeting support on the lowest earners and those with children, being more generous to families slightly higher up the income distribution.

The Centre for Social Justice – chaired by Iain Duncan Smith – was also calling on the Government to reverse the work allowance cuts to “return Universal Credit to its original design” and to target support on those who are “just about managing”, funded if necessary by adjusting or delaying planned increases to the income tax personal allowance.  The Centre is nevertheless “deeply encouraged” by the taper rate announcement which, it says, “sends a clear message that this Government is putting the ‘just about managing’ first” and is a “positive step in the right direction.”

The Institute for Fiscal Studies is however scathing about what its Director, Paul Johnson, calls the “growing absurdity of the policy making process around Universal Credit” where “detailed changes to its future design have been made in fiscal statement after fiscal statement apparently at chancellorial whim.”  While there was, he said, a “rational process” to go through when designing UC – including considering the appropriate trade-off between changing the work allowances and altering the taper rate – what had happened was not a rational process.