Tax-free childcare

The childcare voucher scheme allows your employer to pay for childcare out of your pre-tax salary under certain circumstances. This can result in £1,000+ in annual savings on tax and NI in some families but there are requirements that need to be met and limits to what can be paid for. This current scheme has few downsides but it’s only open to new entrants until April 2018 when it will be replaced with a new government scheme called ‘Tax-Free Childcare’. TFC is similar in principal to the current scheme but not in practice. It removes the employer from the situation and works almost like a savings account where the parent pays in money from their net pay (after tax) but then for every 80p they put in, the government will add 20p. TFC is also more stringent on who can use the scheme in some cases so it is likely to reduce the savings for many people.

 

How the current scheme works

An employer sets up a childcare voucher scheme (usually using a 3rd party provider), then eligible employees can enroll in the scheme and request vouchers. A salary sacrifice agreement will need to be signed by the business and the employee in most cases (some employees offer addition to salary but this is rare). The childcare provider may also need to be authorised with the 3rd party that the business is using to run the scheme. After this the employee will receive either paper vouchers that can be redeemed at their childcare provider or online vouchers that the childcare provider can access.
Most working parents are eligible for childcare vouchers but there are some limitations:

  • You must be the parent or legal guardian for a child that has already been born and be under 16 years old;
  • You need to be paid at least the National minimum wage after deduction of the voucher;
  • You cannot be self-employed;
  • You can only claim up to £243 per month (this is reduced to £124 when you are a higher rate tax payer and further reduced to £110 if you are an additional rate tax payer).

The major benefits of this scheme are that you save both tax and NI so the overall saving is likely to be higher than with the new scheme in many situations where both parents are earning less than £43k per year. Another benefit is that the employer doesn’t pay NI on that part of your salary either so you could be up to £400 cheaper to employ while getting cheaper childcare.

 

How the new scheme will work

TFC will be rolled out over the course of 2017 to the families with the youngest children first so it’s not easy to say exactly when it will be available to you but it will be available to all eligible parents by the end of 2017. It will involve registering for an online account on the gov.uk website and then paying into the account in order to receive money from the government that can be used to pay a registered childcare provider.
More parents will have the option to join TFC because it doesn’t rely on employers offering it but the rules for who is eligible are quite different:

  • You must be the parent or legal guardian for a child that has already been born and is under 12 years old;
  • You and your partner need to be paid at least £115 per week but not over £100k a year;
  • You can only get a maximum of £2,000 from the government per year, per child so after you’ve deposited £8,000 into your account the government will stop contributing until the next tax year.

In theory, this scheme should be better for those who have high childcare costs as the ceiling of how much money can go through the scheme is much higher. In practice, those who have childcare costs of over £750 per month are often higher rate tax payers and because the saving is always 20% with TFC, the old scheme could work out being better. Please also note that if you are currently claiming tax credits for childcare you will permanently forfeit your eligibility to claim them in the future if you use TFC.

 

Summary

As the new scheme is not available to most people yet, it’s difficult to predict what problems will arise and exactly how it will affect all parties involved and this makes the choice quite difficult at this stage. However, being in the old scheme gives you the option to swap to TFC if necessary further down the line whereas if you join TFC you cannot then swap to a childcare voucher scheme.

Computershare are one of the third party providers of childcare vouchers and they’ve developed a short questionnaire that may help with your decision (assumes that you are paying NI).