Housing Benefit Undermines Work Incentives

The rise in real housing costs over the twenty years prior to the current government has made rent allowances and rebates under the Housing Benefit (HB) system one of the most expensive of all government welfare programmes – more than £11 billion a year for more than four million households.

Yet the way the system is designed to subsidise the housing costs of poor people is a major factor behind the UK''s poverty trap, seriously undermining work incentives. This is because HB is means-tested for recipients in work via a 65% taper – that is, for every extra £1 of income earned, Housing Benefit receipts fall by 65p.

The government has postponed any major reform of the HB system but new research by Professor Ian Walker and Paul Bingley, published in the latest issue of the Economic Journal, suggests that changing the taper – or changing rent levels directly through a ''bricks and mortar'' subsidy – would have dramatic effects on work incentives.

Walker and Bingley estimate a statistical model to explain how many hours individuals work and find that keeping gross rents constant and varying the taper from 0% (where HB would be a lump sum payment) through 65% (the actual level) to 100% (where HB would cease to exist) would result in a dramatic increase in the work participation rate. The rate would rise from around 30% (when the taper is 0) through 50% (at the actual level of taper) up to 66% (when there is no HB system) and hours of work for those in work would rise from an average of 10 per week through 12 to 15.

HB is a delicate balancing act that attempts to overcome the adverse work incentives associated with the way in which the HB pays up to 100% of the housing costs of those in receipt of Income Support. It does this by providing a corresponding in-work transfer programme that subsidises the housing costs of those who are poor but in work.

The 65% taper on HB has been ameliorated by the Working Families Tax Credit, which increases the cash assistance to poor households (with children) so that they are now less likely to qualify for housing subsidies. Thus, since April 2000, one has to have higher housing costs or be deeper in poverty to be eligible for HB. Indeed, part of the extra expenditure on WFTC is being offset through reduced HB expenditure.

The results of this study indicate that despite the complexity of HB, the treatment of housing costs by the welfare system has dramatic effects on work incentives. If work is the answer to poverty policy, as the government believes, it now has the evidence on which to base policy to reform the treatment of housing costs in the welfare system.

''Rents and Work: The Implications of Housing Costs and Housing Benefits for Work Incentives in the UK'' by Paul Bingley and Ian Walker is published in the May 2001 Economic Journal. Bingley is at Aarhus University, Denmark; Walker is Professor of Economics at Warwick University.