This article is based on the operation and further explanation of the tax credits Working Tax Credits (WTC) and Child Tax Credit (CTC).
In summary, the article that was written by David Burrows explained that Working Families Tax Credit (WFTC) has now been abolished and two new tax credits WTC and CTC have taken its place. CTC is available to you if you or your partner are over 16 and have responsibility for at least one child under 16. WTC is available to working adults who work more than 16 hours a week and either have responsibility for a child or have a disability in terms of employment. It is also available to individuals who do not have a family but work more than 30 hours a week. Please refer to the previous article for detail in respect of the above.
There are certain terms that are applied to the new tax credits when deciding if someone would be eligible and when actually doing the calculation. In this article I have gone on to provide further explanation of the following terms; "responsibility for a child" the "relevant period" applied to the credits and the "relevant income" that is looked at for the prospective claimant(s).
Responsibility for a child
Responsibility for a child is relevant for being able to claim CTC and WTC. It is, however, to be looked at primarily in the terms of CTC. This is because, if a claimant is able to claim for CTC then the responsibility for a child element is deemed obtained in relation to WTC.
A child for the purposes of the Act (the Act for the purposes of this article is Tax Credits Act 2002 and the accompanying regulations) is any young person that is 16 or under. This extends to the following September after the 16th birthday of the child. A child in the context of claiming tax credits includes any qualifying young person. A qualifying young person is between the ages of the September after their 16th birthday up to their 19th birthday and who is in full time education. If they have ceased to be in full time education, but this was less than 20 weeks ago, and they are under 18, they count as a qualifying young person. Another condition of this is that they must have informed the Inland Revenue within 3 months of completing their education and be registered for work or training.
A claimant can make an application either individually or as part of a partnership (if a member of a married or unmarried heterosexual couple). In order to be deemed responsible for a child they must be responsible for at least one child or qualifying young person. Obviously, being a parent enables a claimant to fall into this category, but it is not necessarily the only way to be deemed responsible for a child or a qualifying young person. A claimant would be treated as being responsible if the child normally lives with them or they have the main responsibility for the child. The former is termed the "normally living with test" and the latter the "main responsibility test".
Normally living with test
This test would be used in the first instance. There does not appear to be a clear definition about when a child is normally living with the claimant, but it appears to be self- explanatory and includes when a child is away from home for an extended period of time such as at school or in hospital.
The test would also include children who live with one person at certain times, this is especially relevant in circumstances where there is a split residence order or there is shared residence in operation.
Although this means that more than one person could make a claim for CTC in respect of the same child, the payment would only be paid to one of the claimants.
Main Responsibility test
This test would be used in the second instance, in cases when there is more than one claimant and the normally living with test is satisfied for both. It then proceeds to who can be shown as being mainly responsible for the child. If the claimants cannot decide between themselves who has the main responsibility for the child, then a decision maker will decide for them. They will consider factors such as what court orders are in place in respect of the child, how many days a week the child lives at each residence and who pays for the child’s food, clothes, childcare etc.
There are certain limited circumstances where both of the above may be satisfied, but a claimant is still not deemed responsible for the child under the Act. This includes if the child in question is in residential accommodation that is paid for by the Local Authority, is in custody serving a term that is at least over 4 months, or is over 16 and is responsible for a child and is awarded CTC in his/her own application.
If a claimant is eligible for claiming tax credits, then the next step is to move towards the calculation. I have detailed later in the article how the calculation actually works in practice and provided an example.
The Relevant Period
As noted, the amount of tax credits that can be received is based on your entitlement during the relevant period. If a claimant makes a claim before the start of the tax year i.e. before the 6 April, the relevant period would run from the 6 April of that year to the 5 April of the following year (usually 365 days). If the claimant makes a claim after the start of the tax year, the relevant period in this case would be the time remaining after that in the tax year. For example if the claimant makes a claim on the 5 October, the relevant period would run from the 5 October of that year to 5 April the following year. This will result in the relevant period being less than a year in these circumstances.
If there is a change in the claimant’s circumstances during the year, i.e. a change in the number of adults heading the household, a new relevant period must be calculated, again resulting in the relevant period being less than a year.
The definition of the relevant period differs slightly for the two tax credits.
CTC : relevant period = a period of an award during which your maximum amount remains the same.
WTC : relevant period = a period during which the element making up your maximum amount of tax credit (apart from childcare) element remains the same and there is no change in the childcare you use and the average weekly childcare does not change by £10 or more or reduce to nil.
If a claimant is entitled to both of the tax credits, the relevant period would need both of the above definitions to be satisfied.
When a calculation is commenced for a potential claimant, working out the relevant period is the first step that must be looked at. To get the figure for the relevant period, you simply count the days.
If the relevant period is less than a year then the maximum entitlement that the claimant would be entitled to would have to be calculated by converting the annual amount to a daily rate and then multiplying by the number of days in the relevant period.
Relevant Income
Once a claimant has been found eligible and the relevant period has been calculated, the next step is to calculate the relevant income.
The regulations allow the Inland Revenue to use a claimant’s income that was received 2 years before the current tax year that the application has been made in, as if it was income for that current tax year i.e. if the claim for tax credits was done in the tax year 2003-2004, income figures for the year 2001- 2002 can be used.
If income in the current tax year is £2,500 or less, less than the previous years income, you would use the previous years income, if it was more than £2,500 less than the previous tax year you would use the current tax years income minus £2,500. If the income in the current tax year is more than or the same as the previous years income, you would simply use the current figure.
This mechanism allows the Inland Revenue to use the highest possible amount of income to prevent overpayments and claw back as much possible tax credits as they can. It is something to be wary about if advising the client on tax credits, if they are earning more money than the year before then the Inland Revenue will claw this back. If they have received more tax credit than they are due, this will eventually have to be returned (paid back) to the Inland Revenue.
In order to get the claimants relevant income, the daily rate of the income is calculated, divided by the number of days in the tax year to which the claim would relate to and then it is multiplied by the number of days in the relevant period.
Relevant income = Income ÷ Days in tax year to which claim for tax credit relates x no of days in the relevant period
N. B If the relevant period is a year then this calculation will have no effect.
In cases were the figure is running into decimal places, the amount would be rounded down to the nearest penny.
Income that is taken into account
Employment income is taken into account and generally includes gross earnings, bonuses and tips. Income from self-employment includes business profits and income from a property if it is conducted as part of a business. Other income such as interest on savings and pensions are taken into account to the extent of the amount that exceeds £300 in a year.
The general rule for benefits is that taxable ones (e.g. contribution based JSA and long term incapacity benefit) are taken into account for the purposes of income. Most other nontaxable benefits are disregarded, such as, attendance allowance, child benefit, housing benefit and income based JSA.
The rules detail other forms of income that must be added here such as student income. The Inland Revenue uses the term miscellaneous income to sweep up any other forms of taxable income that do not fit under the headed categories.
I do not propose to list all the forms of income that are taken into account or disregarded, as these can be located in the rules in the form of a list. Certain forms of income that may be of particular interest to note how they are dealt with are detailed below:
Capital value of the claimants property is ignored, any rental income that is received would, however, be taken into account. Note that the first £300 a year of income from the property is ignored (see above).
Any statutory sick pay and maternity pay are taken into account for the purposes of relevant income, as they are classed as employment income.
Any maintenance income received from an ex partner either under a court order or informal agreement is ignored completely. This also includes any child support that is received.
Maintenance that a claimant pays to an ex partner may also be included in the calculation for tax credit as a disregarded form of income. To qualify, one of the parties must have been born before 6 April 1935.
Adoption and fostering allowances are usually ignored for the purposes of calculation income.
For the purposes of calculating a claimant’s income, pay slips and benefit award letters can be used. If a claim is part of a couple, then the amount for both individuals must be counted.
Calculating the tax credit
There is a clear method of calculating the tax credit in the first article and I do not propose to repeat the same. The maximum amount of tax credit that can be claimed are also listed.
Further example of calculation of tax credits
Liz is a single mother who has three children James aged 6, Helen aged 10 and Jenny aged 17 (who lives at home and is not in full time education).
Liz is claming tax credit in the year 2004-2005. This year has 365 days in it.
Liz works 18 hours per week and earns £7 per hour. Her gross income is £6,552. Liz receives child maintenance from Hugh for James and Helen, she receives £100 a week. Liz also receives £20 a week as rent from Jenny (£1,040 a year)
Liz has childcare costs of £190 a week.
Liz is entitled to CTC and WTC. The threshold figure that is applied is therefore £5060.
The maximum entitlement for the relevant period is as follows;
CTC family element 545
Child element x 2 2,890
WTC Basic element 1,525
Lone parent 1,500
Child care element 6,916 (190 x 52 x 70%)
13,376
Liz’s relevant income is £7,592 (her gross income and the rental money she receives). This is £2,532 over the threshold figure. The taper of 37% must be applied to this.
2,532 x 37% = 936.84
£936.84 must then be deducted from Liz’s maximum tax credit. £13,376 - £936.84 = £12,439.16.
Liz’s tax credit is £12, 439.16 for the tax year 2004-2005. The weekly amount of tax credit that she will receive is £239.21.
Practical questions that may be appropriate
1. How many hours could the claimant work?
As CTC is available to people who do not work, this is only relevant to WTC.
In order to qualify for entitlement, a person could work for the following hours.
Number of hours worked*
0-16 hours
Will NOT qualify
16-30 hours
Has responsibility for a child - Will qualify
Has a disability resulting in being disadvantaged in the market - Will qualify
Is over 50 years of age - Will qualify
30+ hours
Is over 25 years of age - Will qualify
*In all cases the claimant must be over 16.
2. What are the important things to be aware of and communicate to a client if they are claiming tax credits?
They should notify the Inland Revenue if they have a change in their personal circumstances i.e. they change their working hours, receive an increase in pay, or move to another job/work place.
They should notify the Inland Revenue if they start to live with someone else (co- habit) or they have an addition to the household i.e. a partner’s child.
If they are receiving maintenance from an ex partner, then this will not effect their entitlement to tax credits.
If they are paying maintenance to an ex partner, then this can be taken into account if they are applying for a tax credit (note to be eligible – see above)
The aim of the tax credits is to encourage clients to enter into employment. It should be stressed though that the mechanism of these credits allows the Inland Revenue to prevent overpayments being permitted to start in the initial phase of the application, and to claw back tax credits as much as possible.
For further information contact a member of the Family Law team or call 020 7940 4000.
