Financial Impacts of Welfare Reform - Illustrative Working Age Case Studies

1 Introduction

1.1 This paper outlines some of the changes from the UK government's welfare reforms, and sets out their financial impacts through case studies of hypothetical working age households. It seeks to inform Scottish Government work on welfare reform mitigation by illustrating the kinds of specific impacts the various reforms are having, and identifying potential 'winners and losers' of the reforms.

1.2 The remainder of section 1 provides a brief overview of the welfare changes and the economic context in which they have been implemented. Section 2 presents a detailed discussion and case studies for selected benefit changes. Section 3 discusses Universal Credit and provides case studies identifying winners and losers of the new system.

1.3 The UK is currently undergoing the most profound and far reaching changes to welfare benefits in the post WW2 period, involving changes to entitlements, their value and how they are to be paid. Most of these reforms have been initiated through the Welfare Reform Act 2012 by the current UK government, partly in response to the global post-2008 financial crisis. This follows changes to illness and disability benefits introduced by the previous UK Labour government, which have only recently come into force.

1.4 The current UK government's rationale for its welfare reform agenda is that the changes will: create stronger financial incentives for individuals to move from benefits to employment, or to increase the number of hours they work, thereby compensating for any loss of income experienced; simplify the system; and control public expenditure.

Key welfare changes

1.5 There have been a large number of changes to welfare, affecting almost all parts of the benefit system. Overall, eligibility criteria have been tightened and additional conditions for claiming have been introduced.

1.6 In relation to welfare support for households with children, the following changes have been made:

• Working Tax Credit (WTC) This is a benefit paid to working people on low incomes. The number of hours parents in a couple are required to work to be eligible has been increased. Eligibility criteria for lone parents remain unchanged.
• Childcare element of WTC This provides support with childcare costs for working parents on low incomes. The proportion of childcare costs has been reduced from 80% to 70% of actual childcare costs and the maximum amount claimable has also been reduced.
• Child Tax Credit (CTC) This is available to all parents on low incomes, both in and out of work. Households now lose their entitlement to this benefit at lower income levels.
• Child Benefit Rates have been frozen and support begins to be withdrawn for households where one or more adults in the household earns over £50,000.

1.7 In the area of housing, there have been five key changes:

• Changes to Housing Benefit in the social rented sector relating to under-occupancy (the so-called 'Bedroom Tax') The rate of Housing Benefit paid to tenants in the social rented sector who are under pension credit age is reduced for households living in properties that are deemed larger than required for their household/family size.
• Local Housing Allowance (LHA) Low income tenants in the private rented sector are eligible for Housing Benefit for their rent up to a certain rate as determined by LHA rates, which take into account the local rental market and property size deemed to be required. Rates are now set at a lower level relative to average local rents, and are subject to an absolute cap. Rates for large properties have been removed, so support is available only up to the cap for four bedroom properties.
• Shared Accommodation Rate (SAR) Most younger single people without dependants in the private rented sector are only eligible to claim Housing Benefit based on the cost of living in shared accommodation, rather than for their own property. SAR has been extended from applying to those aged under 25 to those aged under 35.
• Council Tax Reduction This replaces Council Tax Benefit. Budgets have been cut by 10% and devolved to Local Authorities in England and devolved administrations in Scotland and Wales. The Scottish Government has chosen not to pass this cut on to LAs and claimants.
• Non-dependant deductions This is a set amount deducted from Housing Benefit, Council Tax Reduction and other income-based benefits to reflect the contribution that non-dependant household members are expected to make towards the household's housing. The amount deducted has been increased.

1.8 There have also been changes to benefits paid to claimants with a disability or serious illness:

• Employment and Support Allowance (ESA) This benefit replaces Incapacity Benefit (IB). Claimants are now required to undergo regular medical assessments and eligibility is removed for those deemed to be able to work. Claimants are placed either in the Support Group, where they are not expected to work, or in the Work Related Activity Group (WRAG), where they receive support to help prepare them for work and are expected to engage in 'work related activity'.
• Personal Independence Payment This non-means tested payment is for covering additional costs arising from a disability, specifically support with daily living and mobility. It replaces Disability Living Allowance for adults aged 16 to 65, but aims for a 20% reduction of current DLA expenditure. Eligibility has been tightened to exclude those with lower needs, and most claimants are required to undergo regular medical assessments.

1.9 In addition to the changes to specific benefits, there have also been a number of reforms that affect all or most benefits:

• Benefit Cap The overall amount of benefits a household can claim is capped at the level of average household earnings across the population. Until the introduction of Universal Credit (see below), the cap will be administered via a reduction in Housing Benefit.
• Uprating of Benefits All benefits are now permanently uprated by the Consumer Price Index (CPI), a measure of inflation that is historically less generous than the previously used Retail Price Index (RPI). In addition to this permanent change, the uprating of most working age benefits has been fixed at 1% for two to three years from April 2013. This translates as a real terms cut as inflation has been consistently higher.
• Sanctions to encourage employment Alongside the introduction of additional conditions for claiming out of work benefits, such as attending adviser interviews and applying for a certain number of jobs, the reforms have introduced more stringent sanctions for individuals failing to meet these conditions. Sanctions involve the suspension of benefits payments. There are three levels of sanctions and the period of sanction increases for repeated failures.

1.10 In addition to the welfare reforms already implemented, the Welfare Reform Act 2012 also provides for the introduction of Universal Credit (UC). This is a new benefit scheduled to replace almost all existing means-tested benefits paid to working age people in and out of work by the end of 2017. It is intended to be simpler and more cost effective than the current benefits system. It is best understood as a repackaging of existing benefits, with the rules for eligibility broadly carried over from the existing benefits it replaces, and is not expected to result in a net reduction in benefit entitlement.

1.11 There are a number of features of UC that involve a departure from previous rules:

• UC intends to increase incentives to move from benefits to work and to increase hours worked by reducing the current benefit withdrawal rate and adjusting the marginal tax rates faced by people moving from benefits to work, which increases the real gains of work.
• The housing costs element of UC, which replaces Housing Benefit, is now paid to tenants in the social rented sector rather than directly to landlords, with some exceptions. This is intended to give claimants experience of budgeting in the same way that non-claimants do, thereby building financial skills and easing the transition from benefits to work.
• Payments are made monthly rather than fortnightly as is currently the case with most existing benefits. Again, this is intended to encourage longer-term budgeting skills.
• UC extends the principle of conditionality currently in place for Jobseekers Allowance to all claimants, including those in work who are expected to increase their hours worked.
• Some additional payments and supplements that are attached to other benefits and tax credits (such as the Severe Disability Premium which is linked to Disability Living Allowance) will be abolished. The eligibility criteria for other passported benefits linked to benefits being superseded by UC are also being revised.
• Applications are expected to be made online as part of the 'digital by default' agenda, with limited telephone and minimal face-to-face support.

Case study approach

1.12 The remainder of the paper presents case studies of the financial impacts of selected key welfare reforms. Case studies are for hypothetical, illustrative households, and are not based on actual cases. This complements externally commissioned longitudinal research into the impacts of welfare reforms on real households (see section 4.10 for details).

1.13 The case studies have been developed with the Tax and Benefits of Scottish Households (TABOSH) model, which calculates the income of a household after taxes, benefits and tax credits based on the household's characteristics. Technical details of the TABOSH model are provided in Annex A. The model does not currently include disability related benefits and these are therefore not covered in this paper. Work is currently ongoing to incorporate the main disability benefits into the model, and it is expected that case studies illustrating reform related to disability will be published in summer 2014 (see section 4.2 for details).

1.14 The case studies in section 2 compare the situation in the year prior to the introduction of the relevant reform(s) to the year after full introduction. Those in section 3 compare the current (2013/14) situation for those not Universal Credit with that of people on Universal Credit, and therefore include all current reforms in the pre-Universal Credit scenarios. Details of which years are used are given in Annex B.

1.15 Case studies give hourly wages, as well as gross weekly and annual earnings. For reference, the current National Minimum Wage for those aged 21 or over is £6.31 and while the Living Wage calculated on the basis of what households need in order to have a minimum acceptable standard of living is £7.65. Housing costs given in case studies are set at slightly below the maximum claimable under LHA rates for the relevant rental area and property size.

1.16 Figures for weekly earnings and benefit payments in case studies are rounded to the nearest pound at the point when they are reported. Any difference between total benefit income and the sum of individual elements is due to rounding. Income thresholds are rounded to the nearest £100.