Overpayments and their recovery

Developments since June 2005

Continuing concerns

Developments since June 2005

3.1 In my June 2005 report I explained how overpayments were an in-built part of the annualised tax credits system. A key problem identified in the first two years of the new tax credits scheme was where adjustments to tax credit payments were made to take account of changes in circumstances in-year. As a result, payments could suddenly cease or be drastically reduced, and many families experienced severe difficulties. Although additional tax credits (ATCs) were made available from October/November 2003 to those families who were experiencing hardship, many customers were unaware of them and Tax Credits Office staff often failed to invite claims. I therefore made several recommendations suggesting that the rate of recovery should be restricted so as to avoid hardship where possible; staff should be made fully aware of when ATCs would be payable and should invite claims; and greater prominence should be given to the availability of ATCs in the information provided to customers. HMRC have implemented all of those recommendations in full, by restricting recovery where appropriate, sending out guidance to staff and making information about the availability of ATCs much more prominent in their award notices and customer guidance notes (see Appendix B). Those changes would appear to have had a very positive effect as we have had very few complaints on this particular aspect in the last two years.

3.2 I said in my first special report that it had always been likely that there would be a large number of overpayments occurring in the first year or so of tax credits because of the fact that the initial awards in 2003-04 were based on 2001-02 income. It would also take some time for the new scheme to be bedded down and for tax credit customers to get used to the need to report relevant changes of circumstances. However, HMRC had been caught unprepared for the volume of overpayments (which occurred in a third of all tax credit awards in 2003-04) and their customers’ response to their attempts to recover them, particularly where the overpayment had been caused by HMRC error. Eventually, in December 2003 COP 26: What happens if we have paid you too much in tax credit? was published setting out the approach taken by HMRC to the recovery of overpayments (with full guidance on its application eventually provided to staff in May 2004). Two of my recommendations in June 2005 highlighted the importance of customers being made aware of COP 26, and the circumstances in which the recovery of overpayments could be waived.

3.3 Regrettably, the high level of overpayments has continued. The published figures on overpayments at the end of 2005-06 show that, once again, almost a third of all tax credit awards (1,902,000) had been overpaid, amounting to some £1,573 million. Almost half a million awards (494,000) had been overpaid by over £1,000, and some 25,000 by over £5,000. Once again, a significant proportion of those overpayments were made to those on low or very modest incomes, some £214 million being overpaid on 363,000 awards where the household income was less than £10,000.

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3.4 HMRC have taken a number of steps since my last report, in addition to improving staff accuracy rates, to try to reduce the numbers of overpayments arising. This has included media campaigns to alert people to the need to report changes in circumstances promptly to avoid overpayments arising, targeted reminders by telephone to customers, and specific mail shots. There have also been a number of policy developments, including a package of reforms in the pre-budget report 2005, which announced a rise in the income ‘disregard’ ⁶  to £25,000 (from £2,500) in 2006-07 and a proposed reduction in the ‘renewal window’⁷ to four months, both of which should help to reduce the likelihood, and size, of overpayments. HMRC have estimated that these changes together should reduce overpayments by about a third. Because of the time lag, both in the availability of robust statistical information (the statistics on finalised annual awards for child and working tax credits for 2005-06 became available in May 2007) and before complaints make their way through HMRC’s internal complaints system and arrive in my Office, it is not possible as yet to assess whether HMRC’s assessment of that impact is realistic. What is, however, clear is that the continuing high numbers of overpayments and their often devastating impact on the most vulnerable groups (as I detailed in my first report) makes the fair and appropriate application of COP 26 all the more important.

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Continuing concerns

Application of COP 26

3.5 Under COP 26 HMRC can decide not to recover all or part of an overpayment where that overpayment:

  
• arose as a result of official error, and
  
• it was reasonable for the claimant to believe that their payments were correct (often referred to as the ‘reasonable belief’ test); or
  
• although recoverable in principle, recovery of the whole or in part would cause hardship to the claimant and/or their family.

3.6 In my June 2005 report I pointed out that the low success rate in getting overpayments remitted showed that up to April 2005, HMRC had taken a ‘robust line on the question of reasonable belief’. They had argued that there was a principle of individual customer responsibility involved, and that tax credit recipients had to take responsibility for checking that the personal information in their award notices was correct. I had no difficulty with that principle, as it was clear to me from the cases I had seen that most people understood that they had a responsibility to give correct information to HMRC, to update that information if circumstances changed and to alert HMRC to any obvious errors in the notices and payments that they received. I therefore considered that to be an appropriate and reasonable expectation on HMRC’s part, which seemed to me to take proper account of the fact that the sums paid out are from the public purse. That remains the case.

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3.7 However, I also pointed out in my earlier report that most people, not unreasonably, then took the view that once they had provided HMRC with all the relevant information, or corrected an HMRC error, they could assume that HMRC would properly determine their claim. As a result, they did not always closely scrutinise their subsequent award notices, which could lead to the same HMRC error, or a further error, going unnoticed. HMRC would interpret any such failure (however often the customer might already have alerted them to the same error) as the claimant not fulfilling their responsibility and would require repayment of the sums overpaid as a result. I said that, as a consequence, I was not convinced that in reaching their decisions, staff were giving proper weight to the obligation that there should be on HMRC to get things right and give customers accurate and reliable awards.

3.8 I noted also that the COP 26 test of whether a person reasonably thought that their award was correct was clearly subjective and needed to involve the decision maker putting him/herself in the claimant’s shoes. They had to consider all the circumstances surrounding the overpayment which might have led the claimant to believe that their award was correct, including the claimant’s own background and experience. I said that, from some of the cases I had seen, I was not persuaded that that was happening. I was therefore concerned that decisions were not being taken in a fair and transparent manner, nor in the light of the full facts of the case.

3.9 Increasingly the complaints that I have seen since then have amply demonstrated that both of those concerns were fully justified. Despite the fact that my reading of the guidance given to staff applying COP 26 suggests that, applied reasonably, the test should be capable of delivering fair and appropriate outcomes for tax credit customers, the evidence from the cases I have seen strongly suggests that that is not happening in a relatively small, but still very significant, number of cases.

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3.10 The cases referred to me suggest that in a number of cases the Tax Credits Office:

  
• are taking a very rigid approach and assuming high levels of understanding of the tax credit system in terms of whether it is ‘reasonable’ for someone to know they are being overpaid (such that they do not satisfy COP 26)

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• do not take account of the very different circumstances prevailing in the Tax Credits Office in 2003-04, and 2004-5, in terms of the difficulties customers faced in accessing the Helpline, the failure to record telephone calls or to respond to correspondence, and the general unfamiliarity amongst claimants and Tax Credist Office staff, about the tax credits system, leading to misadvice and confusion;
    
• do not take account of the claimant’s circumstances at the time they were expected to spot an error in their award notice/payments, including failing to consider circumstances that might reasonably affect the likelihood of the individual/family’s noticing, or following up on, the error (such as exceptional health problems or bereavement);

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•       assume that the very fact that a claimant has notified HMRC of a change of circumstance or error in their award notice means that they cannot possibly meet the ‘reasonable belief’ test, on the grounds that they must know that their payments must be wrong; (Were this ‘Catch 22’ approach, whereby either notifying, or not notifying HMRC of such matters would both be clear grounds for refusal to waive an overpayment, it would, of course, render COP 26 a nonsense.)

• do not take any account of the number of times someone notifies HMRC of things that might well affect their award, such as a mistake on their award notice/a change of circumstances, and that HMRC has failed to act. There is therefore no incentive for HMRC to put things right, and the burden of responsibility for the overpayment (see paragraph 3.7) falls far too heavily on the claimant; (In the original version of COP 26 there was a provision that overpayments could be remitted if the customer alerted HMRC to an error and they failed to take action within 30 working days. This was, however, removed from subsequent versions.)
  

    
• Frequently fail to consider whether recovery would cause hardship as part of the COP 26 consideration of their case.
  

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3.11 As a result of these failings tax credit customers, on very low incomes and sometimes in very difficult situations, are placed in the distressing position of being unfairly required to pay back sometimes very large overpayments which were caused by official error. Many complainants placed in this position contend that they would prefer not to claim tax credits in future as they find the possibility of further overpayments potentially building up to be seriously worrying. They would rather ‘make do’ and be able to budget with sums they know they will not have to repay. Others, who have never before been in debt and are deeply concerned that they may ultimately be taken to court by HMRC if they are unable to pay the money back promptly, have taken out loans to repay the overpayment. In other cases, although recovery of the overpayment is not being implemented because it is clear that it would cause the customer hardship, the overpayment has not been remitted, but simply suspended in anticipation of the tax credit recipient’s circumstances improving at some stage in the future. Consequently, some individuals and families can find themselves with the threat of the future recovery of the whole or part of the overpayment hanging over them for many years.

3.12 The failings I have identified in paragraph 3.10 above might in part account for the decreasing number of cases in which disputed overpayments are being remitted by HMRC. The table below shows the number of tax credit overpayments remitted by HMRC per quarter since April 2005.

I understand that in the 2005-06 tax year HMRC remitted approximately £180 million because of official error. However, in 2006-07 HMRC has only remitted approximately £9.04 million on the grounds of official error.

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Recent developments relating to COP 26

3.13 My Office has had numerous discussions and exchanges with HMRC officers, both in the Tax Credits Office and those with central policy responsibility for tax credits, and with staff at the Adjudicator’s Office, about how COP 26 should be applied, and how it appears that it is being applied in practice in a number of the individual cases referred to me. Those discussions have focused largely on:

  
• the application of the 'reasonable belief' test;
  
• whether staff have given appropriate regard to the individual’s personal circumstances, both in terms of their likely understanding of their tax credit position or particular circumstances at the times relevant to when the overpayment arose; and
  
• whether, once it was decided that an overpayment was recoverable, appropriate consideration had been given to the likely impact on the individual or family, in terms of whether recovery would cause hardship.

In those discussions and exchanges, my officers have been given a variety of responses by different officers over a period of time as to whether there was sufficient flexibility in COP 26 and the supporting guidance to deliver the sorts of fair outcomes for tax credit customers that my Office expected it to be able to deliver, or whether the COP 26 and guidance were so restrictive, as drafted, that staff had no option but to reach the decisions that they had reached.

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3.14 My view, taken purely from reading COP 26 and the supporting guidance provided to HMRC staff (in its various versions since its introduction) has remained that, applied reasonably, COP 26 does provide an appropriate framework for delivering fair outcomes for tax credit customers in respect of decisions on the recovery of overpayments. My Office has therefore continued to make findings on that basis in the reports of the investigations that we have undertaken.

3.15 However, that view is not shared by the Adjudicator, as she made clear in her Annual Report for 2007, nor the Tax Credits Office, both of whom have insisted to my Office that they are following COP 26 and the supporting guidance to the letter and that it is the guidance itself, and not their application of it, which produces harsh decisions in some cases. They argue that it is therefore inappropriate for my Office to describe the application of the guidance as maladministrative in such cases. As I have indicated, unless there is guidance to HMRC staff which my Office has not been made aware of, I find it difficult to understand on what basis they have reached that view. Despite further exchanges in the period leading up to the issue of this report, we have been unable to reach agreement on this point. Accordingly, our respective understandings as to the root cause of the problems I have identified continue to differ. Ultimately, however, whether it is the guidance or its application which is at fault here, what is most important is the unfair outcomes for tax credit customers, and what needs to be addressed is how that can be remedied.

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3.16 I am therefore pleased to note that in the light of all the concerns raised about the difficulty of applying the reasonable belief test fairly and consistently, HMRC are in the process of consulting on a revised version of COP 26 to remove the reasonable belief test and replace it with a much clearer test of whether the tax credit customer has alerted HMRC to an error or change of circumstances (see bullet point 4 of paragraph 3.10 above). If they have done so, then a failure by HMRC to act on that information within 30 days would lead to HMRC having to waive any overpayment arising after that period. I welcome that proposal which, it seems to me, will at least address my concern about the undue weight of responsibility for the correctness of the award being placed on the customer (paragraph 3.7). It will also give HMRC staff a clear incentive to get things right, and put things right, promptly. Nevertheless, it seems to me that any test that is applied will have the potential to lead to harsh decisions, unless there remains sufficient flexibility within it for staff to be able to apply a commonsense approach and take account of individual circumstances. It will be particularly important, therefore, that in drawing up the revised COP 26, HMRC ensure that they are satisfied that it will deliver not just consistent, but fair and appropriate outcomes for tax credit customers.

3.17 I am also pleased to report that, following further discussions between my Office and both HMRC and the Adjudicator’s Office, they have both acknowledged that the question of whether the recovery of a recoverable overpayment is likely to cause hardship should be addressed as part of the COP 26 process. In future, therefore, where the complainant raises the issue of hardship, either explicitly or implicitly, in their representations on the overpayment, that issue will be put to the Debt Management and Banking Unit (DMB – specialists in determining the question of hardship in respect of all HMRC recovery issues, namely in relation to unpaid tax arrears as well as overpayments) for consideration, before the final decision on recovery is given to the customer. I welcome that development. It seems to me, given the wording of COP 26, that once a decision has been made that a sum is recoverable, and there are good reasons to suspect that the recovery of that sum would cause hardship to the customer, then a failure to consider hardship as an integral part of the recovery decision would be unreasonable and clearly maladministrative.

3.18 Whilst I welcome both those developments, however, I am not convinced that those changes alone will be sufficient to ensure that the revised COP 26 is properly and fairly applied in future. In particular, I am not persuaded that, on their own, they will fully remedy the failings in approach I have identified in paragraph 3.10 above, in particular the need to ensure that staff are equipped to be able to apply a fair and consistent approach, which nevertheless ensures that they consider the specific circumstances of each individual case on its own merits.

I therefore recommend that HMRC should produce clear and comprehensive guidance for Tax Credits Office staff on the purpose and application of the revised COP 26 with linked case examples.

I also recommend that all staff required to apply the revised COP 26 should be given training in the appropriate way to approach such cases and the outcomes expected.

3.19 Another important principle of good administration is that public bodies should ensure that they learn lessons from complaints and use these to improve services and performance.

I therefore recommend that appropriate analysis and feedback mechanisms should be put in place to ensure that the learning from upheld complaints about the unreasonable application of COP 26 is fed back on a regular basis to all those staff involved in its application.

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Approach to overpayments arising from changed family circumstances

3.20 Another area of concern is the number of cases I have seen where couples have either separated or moved in together and failed to notify HMRC promptly. As a result their original tax credit claim (that is their single or joint claim) ceases from the date of the change in their circumstances, and any payment made on that claim after that date becomes an overpayment. In such instances, the customers have to make a new claim on the basis of their changed family circumstances. However, such claims can only be backdated by approximately three months. So if the customer delays longer than that in reporting the change, they not only have to pay back the sum they received during the period between the date of the change of circumstances and the date of the start of the new claim, but they also lose any entitlement they might otherwise have had in their new capacity. That somewhat harsh penalty for delay once again underlines the importance of claimants notifying HMRC promptly of such changes in their circumstances. However, there have also been instances where, either because of misadvice or misunderstanding of the system, claims have been made in the wrong capacity from the outset. In such cases, when determining how much of the overpayment to recover, HMRC have sometimes failed to take into account the fact that, had the claim been made in the appropriate capacity, the individual would still have been entitled to tax credits (and sometimes even to a higher award). I am pleased to note that in a number of such cases which my Office has brought to their attention, HMRC have been prepared to take account of the claimant’s notional entitlement had they made an appropriate claim in determining the level of the overpayment to be recovered. That seems to me to be a sensible and fair approach in line with the tax credits system’s policy objectives. However, I was concerned from the cases we had seen that did not happen as a matter of course and customers who were not aware of this possibility could therefore lose out substantially.

3.21 I am therefore pleased to note that HMRC changed their policy in May 2007 in relation to this issue. I understand that now, where it comes to light that a claim was mistakenly made in the wrong capacity at the outset (as in the above case example), the amount of tax credit to which the customer would have been entitled, had they claimed in the correct capacity, will automatically be offset against any recoverable overpayment for the same period.

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Annual statements

3.22 A similar area of concern is where HMRC have declared large sums as overpayments on the grounds that the tax credit recipient has not returned their annual statement (even if they deny receiving it), or has not completed it correctly. That is the case even where, had the claim been finalised appropriately, the claimant would have been entitled to the sums in question.

3.23 I recognise that completion of the annual statement for the previous tax year constitutes the tax credit claim for the current tax year. Without that, therefore, there is no legal basis for the provisional payments made at the start of the new tax year. I also recognise that tax credit legislation sets out a statutory deadline for the return of the statement. Nevertheless, it seems to me that where customers can give reasonable explanations for the failure to return the relevant forms within that timeframe, then it is only fair and appropriate for the claim to be reinstated. To do anything else would seem to me to be far too harsh a penalty for the delay, work entirely against the policy objectives of the scheme and unnecessarily cause customers avoidable distress and hardship. HMRC have said that (as in the example cited above) it is, and always has been, their policy where the the statement is returned within 30 days of the specified deadline, automatically to restore the claim. Further, that a claim could still be restored after that period where the claimant can show good cause, for example bereavement of a close member of the family, or serious illness. I accept that that may well be the case, and that in many of the cases that my Office has seen where that has not happened, it has been a result of human error. Nevertheless, I am not persuaded that HMRC are sufficiently flexible in their interpretation of ‘good cause’ to ensure that injustice does not arise. I note in particular, from the cases we have seen, that they will not generally accept it as good cause if a customer contends that they have not received the statement for completion. It seems to me that where the customer’s claims history shows that they have previously responded to HMRC correspondence, then it is unfair and over harsh – and therefore maladministrative - not to accept non-receipt as good cause. The same considerations would apply where the customer was insistent that they had returned the statement, but HMRC claimed not to have received it. We will, therefore, be monitoring the approach to such cases closely in the future.

I therefore recommend that HMRC review their guidance to their staff on how they should approach ‘good cause’ in relation to a customer’s apparent failure to return an annual statement to ensure that it is not unduly restrictive in its application to be unfair.

Compounding issues

3.24 A further matter of concern that has come to light in a number of cases my Office has seen is the confusion caused to tax credit customers by the fact that a number of different parts of HMRC can be legitimately communicating with them about their tax credit overpayments. The complaints I have seen suggest that that contact will often not be co-ordinated or linked in any way (although the problem may well have arisen because the customer has assumed that it is).

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3.25 As a consequence of this lack of co-ordination, there is frequently no consideration given to the overall impact on the tax credit customer. It is possible, for example, for the recovery of an overpayment from a customer’s current award to be restricted so as not to cause hardship, whilst DMB are pursuing the same individual at the same time for repayment of an overpayment from a different award, and threatening court action if the customer does not pay the money back within a set period. I have seen a number of cases where the complainant has simply not understood that the action being taken by DMB is in relation to a different award.

I therefore recommend that HMRC should identify how they can work in a more co-ordinated manner to ensure that contacts with their tax credit customers about recovery of overpayments take proper account of any other action HMRC are currently taking in respect of the customer’s tax credit position, and of the overall impact on the customer’s financial circumstances.

3.26 Another complicating factor is that different sections of HMRC can only consider certain aspects of the individual’s circumstances. For example, the disputed overpayments team will consider whether the overpayment could be recovered under COP 26. In the course of that consideration they can look at whether there were special circumstances, such as very poor health or a bereavement in the family at the relevant time, in terms of the ‘reasonable belief’ test. DMB, on the other hand, will look at whether the overpayment should be recovered focusing in particular on whether recovery would cause hardship, but also on whether there are other current special circumstances which might impact on the decision on recovery, such as the customer having a terminal illness.

3.27 Finally, DMB is not a part of the administration of the tax credits system as such, but as I have already indicated, deal with all HMRC’s customers. It therefore effectively takes a largely ‘one size fits all’ approach in that it treats repayments owed by tax credit recipients in the same way as tax owed by taxpayers generally. This means it will look at whether the customer has any assets which can be realised, such as savings, or whether the person could use equity in the home to raise a loan to repay the sums due. Whilst I understand why HMRC would see that as ensuring consistency in their approach to all their customers, nevertheless, it seems to me that that approach is hardly likely to meet the needs of this client group, particularly those on the lowest incomes, nor tie in well with the policy objectives of the tax credits system more generally.

I therefore recommend that in considering the recovery of tax credit overpayments, DMB should be required to tailor its approach to the needs of the customer group. In the case of tax credit recipients, that would include considering family circumstances (such as whether they include children or adults with disabilities or severe illness), and the likely impact on the individual or family. That consideration should also include whether recovery, either immediate or suspended, would work against the policy objectives of the tax credits scheme.

6 HMRC will disregard household income rises of a set amount over the total of the previous tax year, when calculating entitlement.

7 The renewal window is the period between the beginning of each tax year (6 April) and the date by which claimants are required to renew their claim (currently 30 August) by confirming their details for the previous year, including their household income.

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