Aims of the ETC
Out-of-work payments and ETC
Design principles
ETC levels
A higher rate for couples?
A higher rate for disabled people?
Target groups
Other possible targets?
Hours rules
Time-limited payments?
Incentives to work
The means test
Interaction with the minimum wage
Marginal tax rates and the poverty trap
Moving up the ladder
Delivering the ETC
Length of award and period of assessment

Whilst there has been intense interest in mechanisms to end child poverty, the associated adult payments have attracted less attention. The employment tax credit was announced in this year's Budget, [footnote 1] though not all details are known. This article draws on information in Budget papers and adds some further ideas for the design of this tax credit.

The integrated child credit (ICC) will bring together the different strands of support for children – from income support (IS), working families' tax credit (WFTC) and the children's tax credit. The employment tax credit (ETC), on the other hand, extends in-work help to those without children, replacing the adult elements of WFTC and disabled person's tax credit (DPTC) and the over-50s employment tax credit of the same name.

Aims of the ETC
The broad intention is to pay adult and child payments separately, reflecting the distinct aims of each. Alongside the creation of an 'integrated and seamless system of financial support for children' through the ICC, the ETC aims to increase work incentives and relieve in-work poverty, through

'a single visible instrument, underpinned by the national minimum wage, to make work pay'. [footnote 2]

More specifically, the ETC is intended to increase the gains from work for low-paid workers and relieve in-work poverty in working households with children. Over a million working individuals without children live in households where the income is below 60 per cent of median. A scheme for single people and couples over 25 could reach 300,000-400,000 households without children at an estimated yearly cost of £300 million. Main target groups for this new credit include people over 50 and couples without children.

Assuming a 30-hour eligibility and full-time work for households over age 25, couples without children and with someone in full-time work could receive a minimum income guarantee of £165 a week. At the minimum wage rate, this could double the gain from work for tenants, and increase it by a third for single people – on average, an increase for the poorest households in work by £20 for couples and £15 for singles.

Out-of-work payments and ETC
The shift to separate adult payments also changes out-of-work benefits. IS and JSA become personal payments, rather than a family payment for people with children.

As of October 2000, a couple with one child receives JSA of £112.90. Splitting into adult and child components suggests that the £30.95 element for the child will become the ICC. The remaining £81.95 could be the adult element, payable via ONE, or the new Working Age Agency next year.

One possible consequence of the adult/child split is that the adult element could be subject to further 'active' measures and perhaps sanctions. An important trade off would be greater protection of the child payment, intended specifically for the child, being independent of the parent's behaviour.

Current rules only allow people receiving out-of-work benefits to work for a maximum (usually) of 16 hours a week. Moving from this level of employment into full-time work can be a huge leap for some people. As the adult payment will be lower than the former family payments, adults could find that withdrawal of benefit above the disregard extinguishes benefit more quickly.
ETC design needs to ensure smooth transition for people who increase their hours and earnings above the out-of-work limits.

Design principles
The principles of ETC design are that it should:

• be easy for recipients to access and for the Government to administer;
• be simple for people to understand;
• minimise the work required by employers;
• be targeted so families receive accurate payments;
• be a safety net if family income falls.

Whilst the precise details are unknown, the inclusion of the over-50s ETC within the design parameters broadens its potential structure beyond the WFTC model. The over-50s ETC is payable to New Deal participants who find work, but unlike WFTC or DPTC, consists of flat-rate payments for up to a year, with no taper. It has more similarities with the former Jobmatch scheme, run by the Employment Service, than the other tax credits. The main similarities and differences between the tax credits are shown below.

ETC levels
The benchmark for the level of support for people with and without children is the WFTC adult credit. In 2000/01, this amounts to £53.15 a week. However, this may not be universal; amounts of the ETC for parents and non-parents may not be the same.[footnote 3]

A higher rate for couples?
A higher rate could apply to couples. Treasury figures for the Budget show that, even when working full time, low-income couples are more likely to be in poverty than single people. 60 per cent of low-income couples have a full-time job compared with 35 per cent of singles. Low-income couples are also more likely to be older (over 50). In contrast, younger people (under-25s) who are poor are more likely to be living with better-off parents and for many, low pay can be transitory (hence New Deal support may be more effective).

However, couples may be a hard group to reach. The earnings top-up (ETU) pilots between 1996 and1999 involved payments similar to WFTC for people without children. Across the two ETU schemes, different credits were payable for single people and couples. Just comparing rates for over-25s, in scheme A the couple credit was £49.85 – over £19 higher than for single people – and in scheme B, it was £60.15 – twice as high. Despite these more generous amounts, take up by couples was far lower for couples than single people, even when entitlement was high.[footnote 4] Recipients were mainly young, single and with no formal housing costs.

A higher rate for disabled people?
DPTC adult credit rates are higher than WFTC, reflecting the labour market disadvantage of disabled people whether or not they have children. The new ETC would need to reflect this differential.

Target groups
Older people
Older workers (aged over 50 or 45) are a major target group for the ETC, as they are more likely to have wages that are low relative to their last job. An analysis by the Institute for Fiscal Studies (IFS) revealed that younger childless employees earned more on average than workers with children, but this trend was reversed for older people over 50.[footnote 5] Median full-time earnings for childless over-50s were £15,200 pa, compared with £17,700 for those with children.

The over-50s ETC is now payable where someone has been on a qualifying benefit in the six months before they claim. The similar Jobmatch scheme seemed to have encouraged older people into part-time work and increasing hours overtime.[footnote 6] Jobmatch was a non-means-tested payment of £50 a week, payable for six months for unemployed people who left benefit to take up work of between 16 and 30 hours a week. The new ETC may need to replicate the positive features of the over-50s ETC to ensure that it remains as successful in encouraging work.

Childless, single earner couples?
The emphasis on supporting couples could be more closely targeted at childless, single earner couples. This group was more likely to claim ETU, outnumbering dual earners by three to one.[footnote 7] Single earner couples were also among those who were more vulnerable to subsequent job loss.

At the same time, the ETC needs to avoid creating disincentives for a partner to take work. US evidence shows that tax credits there may have increased married men's labour market participation but reduced married women's by one percentage point.[footnote 8] In the UK, the IFS predicted that 20,000 married women would move out of employment because of the extra income from WFTC given to their spouses.[footnote 9] (Whether the different income dynamics created by the introduction of ICC and ETC would affect this position remains unclear).

Other possible targets?
Budget 2000 indicated that the ETC could also help those ineligible for New Deal assistance. An obvious group not mentioned is people providing informal care. Often at a disadvantage in the labour market, there is little in-work support for carers; the main out-of-work benefit, invalid care allowance, has a £50 a week earnings limit, which can be reached after only 13 hours work at the minimum wage rate. Apart from parent carers, who could be eligible for WFTC, there is no separate tax credit for carers, a situation which the ETC could remedy.

Hours rules
The ETC also presents an opportunity to review the hours rules. Tax credits are only payable to those working for more than 16 hours a week, with an extra incentive to work more, through the 30-hour premium. In Australia, there are no hours rules; benefits are simply 'affluence-tested'.[footnote 10] The danger is that the combination of hours and earnings rules can squeeze potential labour market participation.

Hours rules do not have to be the same for each target group. Treasury assumptions for Budget 2000 are based on a 30-hour eligibility rule for over-25s.[footnote 11] There could be a lower threshold for those most likely to be disadvantaged in the labour market or those whose situation could make part-time work more attractive, such as people with caring responsibilities or a disability. For these groups, the over-50s ETC offers a model for a lower hours threshold for entitlement (perhaps 16, as at present, or lower), with a further incentive at 30 hours.

Time-limited payments?
The over-50s ETC is more explicitly linked to work incentives for those out of work. Such schemes contain the cost and emphasise 'welfare to work' objectives. However, one perverse effect can be where people alter their behaviour (say by remaining on benefit for longer) in order to qualify.

This welfare to work model may not be an appropriate mechanism for all recipients. The situation of those who claim when they are already in work (say when one of a couple loses her/his job) may be quite different from those moving from welfare into work. The 'parachute' function of the former family credit has been a valued one. Time-limited payments may also have different implications for parents; one scheme to watch closely as it develops is the Canadian Self-Sufficiency Project, a programme for lone parents out of work for a year or more, involving wage supplementation for up to three years for those working for more than 30 hours.

Incentives to work
Will the ETC encourage more people to enter or stay in work? The evidence about similar schemes is mixed. On the positive side, the former Jobmatch scheme showed that older and single men were encouraged into part-time work and increased their hours.[footnote 12] Jobmatch participants also seemed more likely to stay in work, and less likely to claim benefits (including in-work benefit).[footnote 13] On the other hand, the ETU evaluation found worrying evidence of deadweight; recipients would have got jobs anyway, for the same hours and wages.[footnote 14]

The means test
One issue is the extent to which ETC means tests are individually-based or family-based. Current tax credits are family-based, taking into account all of a partner's income. Australia has adopted a part-individual, part-family approach to out-of-work benefits, through a disregard which can be set against a partner's income.[footnote 15] To preserve work incentives for both partners, a similar approach could be adopted for the ETC.

Budget 2000 acknowledges that the ETC presents an opportunity to review treatment of income and capital. The over-50s ETC has an advantage for older people in ignoring capital, so that redundancy payments or pension lump-sum payments can be ignored. This may be a feasible approach for other 'welfare to work' groups, given there are other targeting mechanisms, such as an income threshold.

Interaction with the minimum wage
Before the introduction of the minimum wage in April 1999, there were political differences as to whether in-work benefits or a wages floor would be more effective in providing enough in-work income to meet family needs. Budget 2000 argued for a combination of tax credits and minimum wage because:

• tax credits can be varied by family circumstances, whilst not affecting the cost of low-wage workers to employers;
• adverse employment effects can be avoided;
• both are tools to make low-paid jobs more attractive to unemployed people; the minimum wage being essential as a floor to ensure low-income workers enjoy the full benefit of the ETC.

However there are concerns that wages could be pushed down to the minimum wage level. Frank Field MP told the Scottish Affairs Committee that he feared we might see adverts for 'all jobs £200 a week', as that is what the Treasury says jobs will now pay with WFTC. Previous research has found little indication of wage setting in response to in-work benefits; even the ETU for childless people found little clear evidence of employers lowering wages, though some concern from recipients about potential employer abuse.[footnote 16] The employer response to the ETC will need to be carefully monitored.

Marginal tax rates and the poverty trap
The combination of tapers when benefits and tax credits are withdrawn as earnings rise has created a poverty trap where some people have been little or no better off from a pay rise. Recent Budget measures have reduced high marginal tax rates, from 130,000 facing a 90 per cent deduction rate before the 1998 Budget to 30,000 after the 2000 Budget. However, a major stumbling block remains the interaction with housing benefit, a particular concern for ETU recipients. Crucial to the deduction rates will be the ETC taper and its relationship to housing benefit.

The ICC and ETC are two separate, but linked, mechanisms. As people move up the income distribution, the ETC will be tapered away first, through a single taper similar to the WFTC withdrawal rate. This means that the wage earner in a couple will lose their ETC before the child-carer partner begins to see her/his ICC reduced.

Moving up the ladder
One of the objectives of the ETC is to improve the incentive to take, and then stay in, work. In-work benefits can help people to step up to the first rung of the ladder, but more may be needed to ensure earnings progression onto the second rung. In the US, a concept of 'self-sufficiency' has become more common in debates on welfare reform, conveying a situation which is the opposite of benefit dependency. This idea includes a 'hierarchy' of sources of income, the most preferable being from one's own earnings, through to partner earnings, child support, and at the other end of the spectrum, welfare income.[footnote 17] The UK could adopt this concept to guide its strategy in encouraging progression in work. For instance, a welfare rights strategy could include helping people to become more 'self-sufficient' through increasing the proportion of income from earnings, as a more stable floor than benefits.

Delivering the ETC
The administration, income and assessment rules and payment through wage packet, will be common to all ETC recipients. Families claiming IS/JSA will only need to provide details once for ICC and ETC, through ONE, with information transferred electronically to the Inland Revenue. Someone considering moving into work would be able to claim via their personal adviser without having to deal with Revenue.

Length of award and period of assessment
Payment intervals may not be the same for both ICC and ETC. WFTC and DPTC are payable for fixed periods of 26 weeks, and around 60 per cent of claimants renew their awards and see a change in payment of less than £10. As a result the Treasury suggestion is for annual ETC awards.

Would this affect work incentives? An argument from the US is that, as 99 per cent of EITC recipients receive payments via an annual cheque, the reward is separated from the effort, so its incentive effect is likely to be limited. On the other hand, an annual cheque could reinforce the positives (starting work) whilst masking the negatives (high marginal tax rates).

Perhaps more importantly, would annual payments reduce the responsiveness of the ETC? The Budget papers suggest that there may need to be some adjustments so as to ensure a safety net if family income falls significantly, say as the result of the birth of child, and so that there are no significant under or over-payments at end of year. Perhaps there could be a system of 'voluntary reporting' of circumstances by claimants, such as the birth of a child, that would enable payments to be changed between review dates.

The ETC represents a major reform of tax/benefit policy in the UK, raising many issues for design and delivery. Whilst there are opportunities to develop a more coherent structure of support to encourage people into sustainable jobs at a reasonable rate of return, the ETC's success in doing so will depend on the impact of its structure and calculation. The devil is in the detail.

Footnotes

1. Budget 2000, HC 346; HM Treasury (March 2000), 'Tackling Poverty and Making Work Pay: tax credits for the 21st century', The Modernisation of Britain's Tax and Benefits System No 6 [back to text]
2. House of Commons Hansard, 25 May 2000, col 584w [back to text]
3. House of Commons Hansard, 21 July 2000, col 346w [back to text]
4. Finlayson, L et al (2000), The First Effects of Earnings Top-Up: interim findings from the earnings top-up evaluation, DSS Research Report 112 [back to text]
5. IFS analysis of the distributional impact of Budget 2000 [back to text]
6. Loyd, R and Hussey, D (1996), Evaluation of Jobmatch, DfEE Research Studies RS26 [back to text]
7. see note 4 [back to text]
8. Eissa, N and Hoynes, H (1999), The Earned Income Tax Credit and the Labour Supply of Married Couples, Institute for Research on Poverty, Discussion Paper No1194-99 [back to text]
9. referred to in IFS Green Budget, January 2000 [back to text]
10. Millar, J and Hole, D (1998), Integrated Family Benefits in Australia and Options for the UK Tax Return System, Joseph Rowntree Foundation [back to text]
11. see note 1 [back to text]
12. Loyd, R and Hussey, D (1996), Evaluation of Jobmatch, DfEE Research Studies RS26 [back to text]
13. Clemens, R (1997), The Long-Term Effects of Jobmatch: an evaluation of the Jobmatch pilots, DfEE Research Report [back to text]
14. see note 4 [back to text]
15. see for example, note 10 [back to text]
16. see note 4; Vincent, J et al (2000), Piloting Change: interim qualitative findings from the earnings top-up evaluation, DSS Research Report 113 [back to text]
17. Sandfort, J and Hill, M (1998), Self-Sufficiency: an under-defined goal for public policy, Ann Arbor; University of Michigan working paper [back to text]

Marilyn Howard is a freelance social policy analyst.
Poverty 107, Autumn 2000