Tax credits renewals, awards and overpayments by Liz Lathwood In last month s Tax Adviser, Peter Gravestock gave an outline of the renewal process (see Tax Credits The Next Challenge, page 9). The purpose of this article is to look in a little more detail at some of the issues surrounding the renewals and finalisation processes, and the Inland Revenue treatment of tax credit overpayments. This article covers: The three-month deadline. Provisional payments. Recovery of overpayments and top-up payments. Missing the 30 September or 31 January deadlines. Position of those on protective awards. The two envelopes problem. Where to find further information on the amending income regulations. Individuals making new claims to tax credits in the first three months of 2004/05. Examples to show the numbers. The three-month deadline Although more time has been given for renewing tax credit claims for 2004/05 the three-month deadline has not gone away. If a claimant starts working 30 hours, has a new baby, starts using childcare etc. anytime before 30 June 2004, the Revenue still have to be notified of this fact to ensure that the extra element of tax credit is paid from the correct date. A late notification of a change in circumstance that increases an element of an award the arrival of a new baby, for instance will still mean that the increased element of the award, whether for 2003/04 or 2004/05, will only be paid from three months prior to the date the Revenue are told about the birth. Provisional payments The Revenue have said that to ensure that no-one loses out whilst the renewals process is completed, provisional payments of tax credits will be paid from 6 April 2004 to existing claimants based on their last known circumstances. The computer has already been set up to make these payments, but we have been told that the system is not totally customer specific. So if, for instance, a family is getting the baby element of family element at 5 April 2004 because a child was born on say 11 July 2003, this element of the tax credit will continue until the claimants renew their award although the baby element should really stop on 10 July 2004. Claimants and agents need to be aware of this because overpayments of provisional payments will need to be recovered in just the same way as all other tax credit overpayments. When an award is renewed, the provisional payments will be changed to actual payments under an initial 2004/05 award. At this point in time they will become fully customer specific and based on 2004/05 tax credit rates. For family element only cases this will happen when the auto-renewal papers (see Peter Gravestock s article) are issued. For nearly all employees entitled to working tax credit (WTC) (98% according to the Revenue) the provisional WTC payments will be the same as the latest entitlement at the end of 2003/04 and the employer will continue to pay payment via the employer (PVE) at the same rate. Once an initial award for 2004/05 is made, the employer will receive a PVE notice giving details of the new award. Employers will have the normal 42 days notice before they have to take on that change. For a very small minority of employees, any extra payment due through provisional payments (see computations below as to how provisional payments may be greater at 6 April 2004 because of the start of a new tax year) will be paid by the Revenue rather than by the employer. Things have been set up in this way to prevent employers receiving a lot of start or amendment notices on 6 April 2004. Recovery of overpayments Once the 2003/04 income is returned, the 2003/04 award can be finalised and, as explained above, the provisional payments revised to actual payments of an initial 2004/05 award. The 2003/04 finalisation process may have given rise to a 2003/04 overpayment which will be recovered using the Revenue s Code of Practice, COP26 What happens if we have paid you too much credit? COP26 gives different rates of recovery of overpayments from future awards (10%, 25% or 100%) depending on the amount of continuing entitlement (see p. 4 of the leaflet). The provisional payments themselves may have given rise to a 2004/05 overpayment, because they were not sufficiently customer specific, or because they were necessarily based on 2001/02 income. This overpayment will also need to be recovered, probably by adjusting the remainder of the 2004/05 award. Timing becomes a big issue here, and the extent of the overpayment will depend on whether the changes are to income or to circumstances. The examples below illustrate the problems. The recovery of overpayments in-year is discretionary and permitted under Tax Credits Act 2002 (TCA 2002), s. 28(5). For existing tax credit claims the Revenue s computer currently recovers all of an overpayment in-year, if it can, but there are some lower income tax credit claimants who are finding that such in-year 11
recovery is causing hardship. Following a statement by the Paymaster General last year, the Revenue are now paying what they call top-up payments. These treat the in-year overpayment in the same way as year-end overpayments so that the rate of recovery from the in-year award can be at 10% or 25%, instead of 100%. An example of how a top-up payment might work is given below. Missing the 30 September or 31 January deadline At the time of writing, the regulations for these new deadlines have not been laid so there is no published detail of how the deadlines operate. But the CIOT s understanding of the position is that those who do not return their forms by 30 September 2004 will have their provisional payments stopped. If claimants manage to get their completed forms in by 31 January 2005, however, their entitlement for 2004/05 will be backdated to 6 April and the provisional payments will not have to be recovered (or only recovered to the extent they did not reflect the correct initial award entitlement). If renewal forms are sent in after 31 January 2005, claimants will have dropped out of the renewals process. They will therefore have to make a new claim and any arrears will only be backdated by three months. All the provisional payments, from 6 April 2004 to 30 September 2004, will be recoverable. Position of those on protective awards Those on protective awards will get auto-renewal packs and will therefore have the opportunity either to: get some tax credits for the whole of 2003/04 if their income for 2003/04 has brought them within the income limits. They will also get an initial award for 2004/05 based on this same income figure, or renew their protective award (by doing nothing) or withdraw from the system. The two envelopes problem The CIOT has been told that because the computer system that processes the renewal papers has to deal with changes in circumstances separately from changes in income, if claimants report both changes together they will get two finalised award notices for 2003/04 with the one that reflects income details for 2003/04 being the final notice. And because these computer systems are automated the two notices will arrive in two separate envelopes. We have not seen the format of finalised award notices but we are told that it will be made clear which is the very final award. This award will show all the changes, to income as well as circumstances. If the claimant does not agree the figures there is the opportunity to appeal. More technical detail on the amending income regulations On 22 December 2003 we published some guidance on the meaning of the amending income regulations The Tax Credits (Miscellaneous Amendments No.2) Regulations 2003 (SI 2003/2815), particularly to do with the treatment of trading losses. Go to http://www.tax.org.uk/showarticle.pl?id=2150&n=200 for more detail. Subsequent to that publication we have received some more information from the Revenue and this is now published at: http://www.tax.org.uk/showarticle.pl?id=2218&n= Individuals making new claims to tax credits in the first three months of 2004/05 The Revenue have confirmed that if a claimant becomes newly entitled to tax credits, say on 10 March 2004, and they make a claim any time, say up to 10 June 2004, they will be treated as making a claim for two tax years. But from these claimants the Revenue only want one claim, on a 2004/05 claim form, and showing 2003/04 income. The Revenue will process this 2004/05 claim form and if it includes, for example, details of a child born on 10 March, the computer system will make a 2003/04 and a 2004/05 award, both based on the 2003/04 income (which may be estimated if the claimant is unable to provide actual income at this stage). The Revenue will then ask for 2001/02 income (if less), on the s. 17 renewals notice for 2003/04, and will finalise after the first specified date if they do not hear from the claimant in the mean time. The Revenue will be asking anyone holding stocks of old claim forms to destroy them. Claimants should not use 2003/04 claim forms after 5 April 2004 or their awards may be calculated incorrectly. Some examples Three hypothetical examples follow. These have been chosen to show: how relevant periods affect the calculation of an award; how in-year recovery of overpayments work; how top-up payments work; how provisional payments work and how they are different from payments under the 2004/05 initial award; how year-end overpayments might arise and how they can be recovered from future awards; and how provisional payments might be recovered. To make the computations shorter and easier to follow all calculations are done to the nearest week and pound and are done using an annual tax credits figure rather than a daily rate. The figures, therefore, show only an approximation of the real entitlements. The examples themselves might also be regarded as somewhat simplified, but the writer notes they are still complex enough! 12
Example 1 Michael and Shirley have two children aged six and eight. Michael is self-employed and in 2001/02 had taxable profits of 14,000. His wife works and in 2001/02 had a taxable salary of 9,000. They made a claim to tax credits in March 2003 and claimed childcare costs of 50 per week. On 21 September 2003 their childcare costs reduced to nil because Shirley managed to re-negotiate her working hours. They told the Revenue about this change to their childcare on 15 December 2003 and their award was revised a week later. In April 2004 they received their renewal pack, but did not return the forms until August 2004 when Michael had established his 2003/04 profits figure. This was 18,000. Shirley s employment income for 2003/04 was 9,500. Their initial tax credits award for 2003/04 is calculated as follows: WTC childcare, 50x52x70% 1,820 CTC child element x 2 2,890 8,355 2001/02 Income (14,000+9,000) 23,000 17,940 @37% 6,638 1,717 CTC family element 545 Total credits due ( 174 per 4 weeks) 2,262 If Shirley is designated as the main carer, she will be receiving 174per four-week period until the change in childcare is processed (this happens after nine four-week periods, 9 x 174 = 1,566). On processing the change, the credits and income need to be split to the two relevant periods (a relevant period begins when there is a change in the maximum rate of tax credits). In this case the second relevant period starts four weeks after the change in childcare costs, because Working Tax Credit (Entitlement and Maximum Rate) Regulations 2002 (SI 2002/2005), reg. 16(5)(b) applies the change four weeks after the fall in costs. Working to nearest weeks the recalculation of the 2003/04 initial award will be: Elements other than childcare remain unchanged (8,355 1,820)x28/52 3,519 (8,355 1,820x24/52 3,016 Childcare 50x28x70% 980 Total credits before taper 4,499 3,016 2001/02 income 23,000 17,940 x 37%x28/52 3,574 x 37%x24/52 3,064 925 CTC family element, 545 x28/52 293 x24/52 252 Total credits due 1,470 1,218 252 Shirley has already received all the tax credits due to the family for 2003/04 so her payments for 2003/04 will now cease. The overpayment, of 96 ( 1,566 less 1,470), cannot be recovered inyear because there are no continuing payments. Shirley would not be eligible for a top-up payment because her continuing entitlement is only the family element, and under COP26, 100% recovery from family element cases is allowed. On 6 April 2004 a new tax year begins and Shirley and Michael will start to receive provisional payments. These are based on the last available information, which is that Shirley and Michael have two children, no childcare and an income of 23,000. This will entitle them to the family element only so a payment of 42 per four-week period should begin (252/6). When they return their renewal details in August 2004 their provisional payments will change to actual payments under an initial 2004/05 award, but the amount will be exactly the same because the 2003/04 family element rate is the same as the 2004/05 family element rate. However, their income of 27,500 for 2003/04 is more than 2,500 greater than their income for 2001/02. This means that their finalised 2003/04 tax credits award will be as follows: Total credits before taper as before 4,499 3,016 2003/04 income 27,500 Increase disregard 2,500 25,000 19,940x37%x28/52 3,973 x37%x24/52 3,405 526 CTC family element, 545x28/52 293 x24/52 252 Total credits due 1,071 819 252 The overpayment for 2003/04 is now 495 ( 1,566 less 1,071) and will be recovered from the 2004/05 award. If this computation is done by the Revenue in early September 2004, Shirley will already have received approximately 210 ( 42 x 5) of the family element due for that year. The balance of family element due ( 545 less 210) will all be used to recover 335 of the overpayment (100% recovery permitted under COP26 for family element only cases). The rest of the overpayment, 160 ( 495 less 335), will be recovered from Shirley and Michael's 2005/06 award, or, if they are no longer receiving an award at that date, in a lump sum, or by spreading the payment over 12 months. The Revenue have explained that wherever possible they will seek to recover from a continuing award rather than asking for direct payment. At present, COP26 does not make it clear that recovery is possible from a year beyond the current year (in this case 2004/05 is the current year). We understand that the COP will be amended in due course. In this example delaying the notification of the change in childcare (but still notifying within the required three months), and delaying the 13
return of the renewal details, has led to the overpayment situation. Example 2 Brian and Sunlee have two children aged six and eleven. Brian is self-employed and in 2001/02 had taxable profits of 12,000. Sunlee works and in 2001/02 had taxable salary of 11,000. They made a claim to tax credits in March 2003 and claimed childcare costs of 50 per week. On 21 September 2003 their childcare costs reduced to 25 because the older child had started full-time secondary school. They told the Revenue about this change to their childcare on 15 December 2003. In April 2004 they received their renewal pack, but did not return the forms until August 2004 when Brian had established his 2003/04 profits figure. This was 13,000. Sunlee s employment income for 2003/04 was still 11,000. Sunlee (assumed main carer) will have received 1,566 of tax credits by the time the change in childcare is processed. The couple s circumstances are the same as Example 1. The childcare change will work differently though, giving them the following tax credits following the change: Elements other than childcare remain unchanged (8,355 1,820)x28/52 3,519 (8,355 1,820x24/52 3,016 Childcare 50x28x70% 980 Childcare 25x24x70% 420 Total credits before taper 4,499 3,436 2001/02 income 23,000 17,940 x 37%x28/52 3,574 x 37%x24/52 3,064 925 372 CTC family element, 545 x 28/52 293 x 24/52 252 Total credits due 1,842 1,218 624 Sunlee has already received 1,566 of the tax credits due to the family for 2003/04 so the Revenue computer will automatically seek to pay her the balance of 276 ( 1,842 less 1,566) over the remainder of the year. This will be 69 per four-week period (there are four, four-week periods left). Sunlee and Brian s in-year overpayment is 140 ( 1,566 less (1,218 + [624 x 8/24) which is all being recovered from the balance of their award due for 2003/04 (624 x 16/24 = 416 less 140 equals 276). Sunlee could apply for a top-up payment because her continuing entitlement is more than the family element. Her rate of entitlement under the new childcare cost is 104 per four-week period (624/6). The Revenue will pay this for the reminder of 2003/04 minus 25% the rate of recovery allowed under COP26. This would mean that she gets 78 per month for the rest of 2003/04 ( 104 @ 75%) and she will have a balance of overpayment at the end of the year of 36 (in-year overpayment was 140, recovered by deduction from continuing award 26 ( 104 less 78) x 4 months = 104). It is debatable, of course, whether applying for top-up payments in these particular circumstances is worthwhile. But where the income figures are lower, and where the claimants continuing entitlement is nearer to the maximum amounts of tax credits, the difference may be more material. (Also, under COP26, those entitled to maximum credits suffer only a 10% recovery rate.) Any overpayment remaining at the year-end, after top-up payments have been made, will be recovered from the 2004/05 initial award, or from the 2004/05 provisional payments if these are amended after 6 April 2004 because of a change in circumstance. (A change of circumstances, notified before renewal papers are returned, will result in a recalculation of the 2004/05 provisional payments, using 2004/05 rates and taking into account any known overpayment at that time.) On 6 April 2004 a new tax year begins and Sunlee will start to receive provisional payments. These are based on the last available information, which is that Sunlee and Brian have two children, childcare of 25 per week and an income of 23,000. This will entitle them to 104 per four-week period as above. When they return their renewal details in August 2004 their provisional payments will change to actual payments under an initial 2004/05 award. The amounts due will change because the 2004/05 rates of tax credit will be used and, at the same time, 2003/04 income will be used to calculate the taper. For Brian and Sunlee this means that the payments will increase to 112 per fourweek period. The computation would be as follows (PBR figures for elements of tax credits are used): WTC basic element 1,570 WTC couple 1,545 WTC 30 hour 640 WTC childcare, 25x52x70% 910 CTC child element x2 3,250 7,915 2003/04 Income ( 13,000 + 11,000) 24,000 18,940 @37% 7,008 907 Total credits due ( 112 per four-week period) 1,452 For a typical family working full time the increase in rate of tax credits for 2004/05 will be 470 (sum of 180 x 2, 45, 45, 20, the increases in the individual elements of tax credits from 2003/04 to 2004/05). In this case Brian and Sunlee see an increase in their tax credits, when moving to their 2004/05 initial award, because their income increase of 1,000 is not enough to completely taper away this increase in rates ( 1,000 @ 37% = 370). For those where income has increased by more than this amount, their provisional payments may well be greater than their payments due under the initial award. It is understood that in these circumstances the Revenue will seek to recover the overpayment immediately by 14
adjusting the initial award payments for the rest of the year. The rise in Brian and Sunlee's income of 1,000 is not enough to alter their 2003/04 award, being an increase of less than 2,500. Example 3 Nick and Jo have two children aged three and five. Nick works full time and in 2001/02 had a taxable salary of 14,000. Jo went out to work on 5 September 2003 and has a salary of 10,000 pa. They made a claim to tax credits in March 2003. There were no childcare costs at this time and Jo s mum has agreed to look after the children from September 2003 when Jo goes out to work. Nick and Jo told the Revenue about Jo s job on 1 September 2003 and the Revenue processed the information on 5 September 2003 and issued a revised tax credits award. In April 2004 they received their renewal pack and returned the forms in July 2004. Their income did not change in 2003/04 apart from the change caused by Jo starting work. Their income for 2004/05 is also likely to just reflect the two salaries. Their initial tax credits award for 2003/04 is calculated as follows: CTC child element x2 2,890 6,535 2002/03 Income 14,000 8,940 @ 37% 3,308 3,227 By adjusting the credits paid for the reminder of the tax year, the overpayment arising for the first 20 weeks is fully recovered (the in-year overpayment is 475 [(290 195) x 5]. If Nick and Jo wanted to apply for top-up payments, these would be based on the entitlement figure of 195, meaning that they would get 146 (195 @ 75%) for the rest of 2003/04. This would leave them with an overpayment at the year-end of 83 (only 49 x 8 = 392 of the overpayment has been recovered in-year). At 6 April 2004, the provisional payments will ensure that Nick and Jo return to their full entitlement without any recovery of overpayments. The provisional payments will be 195 per fourweek period. We have been advised that the 2,500 disregard is left in place in these cases because there is no recalculation of the rate of tax credit at 6 April 2004 just the cessation of recovery of overpayments. The only way in which the 2,500 would be taken out, before renewal, would be if Nick and Jo had a change of circumstance that they notified before they returned their renewal papers. As noted above, a recalculation would then take place, any known overpayment would be deducted, the 2,500 disregard would be taken out, and the 2004/05 tax credit rates would be used to arrive at new provisional payments. Once Nick and Jo return their 2003/04 income they will receive their 2004/05 initial award. This will show the 2004/05 rates of tax credit and be based on 2003/04 income, in this case 19,833. If they want to prevent the running up of a further overpayment in 2004/05, they should contact the Revenue and ask for the credits to be based on 21,500, the likely tax credits income figure for the tax year 2004/05 ( 14,000 + 10,000, less 2,500 increase disregard). Liz Lathwood is Technical Officer (Personal Taxes) of the Chartered Institute of Taxation Total credits due ( 290 per four-week period) 3,772 When Jo goes out to work the revised award is (a change in income does not constitute a change of relevant periods): CTC child element x2 2,890 6,535 2003/04 Income ( 14,000 + 5,833*) 19,833 Income increase disregard 2,500 17,333 12, 273 @ 37% 4,541 1,994 Total credits due ( 195 per four-week period) 2,539 Tax credits paid (5 x 290) 1,450 Credits due for remainder of year ( 136 per four weeks) 1,089 *5,833 is Jo s salary for the seven months of 2003/04, 10,000x7/12 COMING SOON A new fortnightly publication for the career minded Tax Professional Call 0870 240 488 for further details 15