‘Fundamental’ changes to tax credit system could lift incomes of 350,000 families in Working for Families review

Social Development Minister Carmel Sepuloni has recommendations from a wide-ranging review of Working for Families to consider. Photo / Michael Craig

More families could receive a $72.50 a week tax credit, as part of a massive and “fundamental” change to the system, after a review of the $3 billion Working for Families tax credit system that ended last year.

A review of the scheme, which currently supports just under 350,000 families with children, is before Social Development Minister Carmel Sepuloni, and has found “serious design issues” in the way some of the tax credits are applied.

The review also found that one of the tax credits was so flawed that half of the families that received it were accidentally overpaid, creating a tax debt they might need to pay back, while most of the other half of families receiving the payment were underpaid during the year, and only got paid the credit as a “lump sum”.

It also warned that despite the tax credit system, “in-work poverty” was becoming an “increasing issue” for families.

“Sole earners, both sole parents and couples with only one parent working, have higher rates of income poverty and material hardship compared to households with two parents in paid work.

“Rates of poverty have also been increasing for this group, indicating a single income is becoming a less viable option for providing economic security and meeting basic needs,” it said.

The review, parts of which were released to the Herald under the Official Information Act, noted there was “significant complexity in the system, not just in the number of payments and the design of their policy settings, but also in the delivery of some payments across two different agencies”.

It listed several options to “simplify” the system - although these details were redacted and not released.

It warned that changing Working for Families soon represented the “best opportunity in the coming years to achieve substantial reductions in measured child poverty and to make significant ‘headway’ towards achieving the 10-year targets”.

Sepuloni told the Herald that “no decisions have been taken” and “we continue to consider the advice that we’ve been given”.

“Any decisions would have to be part of a Budget process if there were going to be any changes to Working for Families but I can’t preempt … whether or not it’s part of this Budget,” she said.

The Cabinet Paper launching the review said the Government was “committed to making fundamental changes to WFF [Working for Families] in the coming years. The review will consider changes to the structure and design of WFF payments, with a focus on support for additional in-work costs, particularly childcare costs, and administrative, operational and client experience improvements”.

Working for Families was introduced by the Helen Clark Government in 2004. It is a complicated network of tax credits that lifts incomes for families. It was particularly targeted to people in work, lifting their incomes. About 58 per cent of families with children receive the tax credits.

The review, launched in 2021, found the system was “largely fit-for-purpose”. It said the scheme was not an outlier internationally. Other countries also tried to use tax credits to encourage people to keep working, but to make sure that families did not drop into poverty.

The papers received by the Herald showed sector groups recommended broadening the number of families who receive the in-work tax credit, a payment of $72.50 a week for families with one to three children (and $15 a week for every fourth and following child).

Officials reported back to ministers that anti-poverty groups said this tax credit “should be paid to all families and not just those who are off a benefit and in paid work”.

“These stakeholders argued that the payment was discriminatory or unfair, particularly given children were unable to choose whether their parents were working. They also emphasised the need to value other contributions people make, such as caring for children or voluntary work,” the review said.

Green Party social development spokesman Ricardo Menendez March agreed with this.

“If the Government was to acknowledge that caregiving was work and should be supported as such, then it makes absolute sense to expand the in-work tax credit,” he said.

University of Auckland associate professor Susan St John said this credit needed to be fixed.

“The most important thing to fix is the in-work tax credit because it’s just a terrible blot on the whole structure of Working for Families that we ever introduced something so discriminatory and unfair in the first place and so ineffective as a work incentive,” she said.

Working for Families was created in the Helen Clark Government and introduced in Michael Cullen's 2004 Budget. Photo / Tim Hales, NZPA

St John said though it was called an incentive to work, it did not work like one.

But Act’s David Seymour was not a fan.

“Only Labour would give the in-work tax credit to people who aren’t working. There’s already a massive problem with 300,000-odd people on a main benefit,” Seymour said.

Another problem identified in the review was the fact the current system was plunging families into debt. Working for Families entitlements are calculated on a family’s annual level of income. However, if this fluctuates throughout the year - for example, someone taking on extra hours at work, or going down to reduced hours - that person might be under or overpaid their entitlement.

This is fairly common. The review found that almost half of the 3500 families receiving the minimum family tax credit were overpaid their tax credits during the year, after they took on extra work. The review also found most of the other half of people who received that credit underestimated their entitlement, meaning they were paid less support during the year but received a lump sum at the end of the year.

Neither situation is ideal. This tax credit is a form of support designed to support families who receive income of less than $632 a week after tax. Over-payments trigger a debt with the Inland Revenue Department (IRD), which means families already struggling to get by are plunged into debt. Underpayments mean the family have less during the year when they need it.

The review found 57,000 families now owe debts worth $250 million to the Government thanks to Working for Families - a figure that includes $71m of penalties and interest.

The review found the “current structure” and “administration” were “driving the creation of debt for families”, and submitted several options for ministers to look at - all of which were redacted from the paper. The review also suggested two ways of reducing the debt burden for people, although both of these were redacted too.

March supported simplifying the scheme to make it easier to know what people were entitled to.

“The fact that so many people are receiving the wrong entitlements just shows how complicated the welfare system has been made,” he said.

Another change the review ponders is changing the way this tax credit is withdrawn as people work more.

Working for Families is designed so that families are incentivised to work - although critics dispute whether it actually achieves this goal.

Once people earn over a certain threshold, the amount they receive in tax credits is withdrawn. Each additional dollar of earnings means a smaller payment from the Government.

The minimum family tax credit is different. Once the income threshold is reached, the credit completely disappears.

The review was fairly scathing of the fact this leaves people who work no better off.

“[A] sole parent in receipt of the MFTC [minimum family tax credit] and earning the minimum wage is financially no better off working 35 hours a week compared to 20 hours. While the MFTC was designed to strongly incentivise part-time work, evidence from MSD shows that most sole parents who exit benefit into employment go into full-time work,” it said.

“This suggests the incentives provided via the MFTC do not align with the lived experiences of sole parents moving off benefit, or the availability of suitable part-time work, nor does it affect their work decisions,” it said.

Susan St John said the in-work tax credit's entitlement should be broadened. Photo / Supplied

St John said this credit should be abolished and the Government should instead “make it easier for people to stay on a part benefit”.

She said this credit in particular was part of an “ideology” that the “child tax credit must be related to work effort of the parents that they can’t seem to let that go”.

Although not mentioned in the review, another change ministers have pondered is lifting the family tax credit abatement threshold from $42,500 to $48,000, meaning families would not lose any of the credit until they earned $48,000.

Separate Official Information Act responses show this was submitted as a Budget 2020 bid, and submitted again as a Covid-19 economic stimulus measure, but rejected both times.

It’s estimated to cost $220m and would benefit about 183,000 families to the tune of $23 a week on average.

Overall, the review found that rising income levels had meant that fewer families are receiving Working for Families. Just under 350,000 families receive it now, compared with more than 400,000 in the early 2010s.

While this means the scheme is now more targeted at people on lower incomes, the review found that rising living costs mean families who no longer claim the credits might still need them.

Because the abatement thresholds are not adjusted for inflation, the system had “reached the point where payments are beginning to abate for those on very low incomes - even for some families supported by benefits”.

The review warned the Government would struggle to hit one of its child poverty indicators without change. Graphic / Budget 2022

“Abatement now overlaps with other income support payments, creating pockets of very high marginal tax rates,” the review warned.

At the 2022 Budget, the Government’s Child Poverty Report warned one of the Government’s child poverty indicators would “not be met” unless further changes were made. The Budget document cited the Working for Families review as one change that could lift these incomes.

The paper said the review “is likely to present the best opportunity in the coming years to achieve substantial reductions in measured child poverty and to make significant ‘headway’ towards achieving the 10-year targets, which are due to be achieved in 2027/28″.