Universal Credit and the poverty trap

A report for Gingerbread by Donald Hirsch claims that Universal Credit will not much help single parents on lowish incomes. The figures are uncertain, because the government has provided so little information about what the levels of benefit and the tapers will be. Hirsch’s central point is that if the effect of withdrawing Universal Credit is combined with the deductions of tax and national insurance contributions, the marginal rate of deduction – the ‘poverty trap’ – will be well above the headline figure of 65% or so that the DWP has been working on. It’s unclear whether the ‘poverty trap’ has ever had the effect on incentives that is attributed to it – it could happen, but people have to claim the benefit, know what the amounts of benefit are, and what the effect of extra work will be. It does reflect, however, on the fairness of the system – and a high marginal rate of deduction is built in to the design of benefits which are tapered as income increases. One of the key claims for UC was that it would bring the marginal rate of deduction down with a bump. It can’t do that unless both tax and NI thresholds are put beyond the scope of low incomes – a policy which Hirsch condemns as regressive.

One comment

  1. Gareth Morgan

    The marginal rate of deduction is affected by more than just the taper. For Universal Credit there are a number of factors:

    The taper, probably at 65%, is applied to the amount of earnings left after two previous reductions:

    1) The netting down of gross earnings by deducting tax, national insurance and 100% of pension contributions.
    2) A disregard of some of the net figure is also applied before the taper is applied. This disregard is higher than that applied in the current benefits system to part-time earnings (Tax Credits are rather different) and carries on through all earnings. The disregard, for those without housing costs but with children or disabilities is remarkably high historically.

    The overall MDR is therefore substantially less in many cases than is implied in some criticism. My modelling does show, for some, clear incentives to increase earnings in terms of the income retained by the worker. It’s also worth pointing out that because of the net earnings calculation, a contribution of £100 to a pension scheme means a benefit increase of £65 the following month, a very generous subsidy on top of the tax advantages.

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