Withdrawal of higher rate tax relief for childcare provision

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Following the December 2009 announcement regarding the future restriction of tax relief on the provision of childcare and childcare vouchers, on 19 February 2010HM Revenue and Customs published a Technical Note on the proposals.

The Government originally announced plans in October 2009 to withdraw the scheme completely by 2015 in order to fund free childcare for up to 250,000 two year-olds. However, following intense lobbying from employers and advisers, the proposal to withdraw the scheme has now been scrapped in favour of restricting the value of relief to the basic rate irrespective of the level of an employee’s earnings. The change reflects concerns on the Government’s part that the benefit was disproportionally advantageous for those taxable at the higher rate of income tax.

When will the changes apply?

The new restrictions will only apply to employees joining schemes after 6 April 2011. Employees within existing schemes prior to that date will continue to receive relief on the full exempt amount of £55 per week for as long as they remain members of the scheme.

It should also be noted that the new arrangements will not affect the provision of workplace nurseries, the cost of which will continue to be exempt from both tax and NI subject to compliance with tax rules.

What are the proposed changes?

It is proposed that the tax relief will be restricted as follows:

Employee taxable at:	Weekly limit for relief
Basic rate (20%)	£55
Higher rate (40%)	£28
Additional rate (50%)	£22

At the start of the tax year employers will be required to estimate the level of basic employment income that employees are likely to receive during the tax year. Basic employment income includes salary and the value of other taxable benefits but excludes potential bonus and overtime payments. These estimates will fix the limit of the relief for the tax year.

If, at the end of the tax year, the employer’s estimate proves to have been incorrect and the employee has received more relief than that to which they were entitled, employers will be required to report the excess benefit on forms P11D (Return of Expenses and Benefits In Kind).

However, if a change to pay during the tax year pushes an employee into a higher rate tax band during the tax year, any increased restriction due will only apply from the start of the following tax year.

Action points

The changes are due to be introduced from 6 April 2011 so employees who are liable to the higher rates of tax should, where possible, consider joining an employer sponsored scheme before this date.

Employers will need to review their existing arrangements and consider:

Making eligible employees aware of any scheme to ensure that they do not miss the window of opportunity for securing the full exemption of £55 per week;
Reviewing internal controls to ensure that employees subject to higher rates of income tax can be identified;
How the changes can be communicated to employees;
Whether there is a need to revisit the flexible benefit or salary sacrifice arrangements currently in place; and
Reviewing the use of employee reward statements to reinforce the value of remuneration packages.

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