The Government will hold talks with aimed at closing the black hole which means low incomes families could be worse off taking vouchers designed to cut childcare costs.

Stephen Timms, financial secretary to the Treasury, will meet this site's creator Martin Lewis next week to thrash out MSE's concerns over the current system (full details in Martin's blog).

Other campaigners have also demanded change.

Childcare vouchers are designed to cut costs by up to £2,400 per family because the employer-provided coupons come direct from your pre-tax salary, meaning no tax or National Insurance is deducted.

Yet those on low incomes who claim childcare tax credits could be worse off by using vouchers, despite being the group that needs them most.

Martin Lewis says: "This means the net result of this scheme can be a massive loss – and that simply shouldn't be allowed. Worse still, it actually means many who the childcare voucher scheme is intended to help, aren't being helped, leading it to be a benefit primarily for higher earners.

"This isn't a deliberate problem, it's a policy hole partly caused, I believe, because the different schemes come from different departments wanting to achieve the same ends."

John Andrews, chairman of the Low Incomes Tax Reform Group, says: "Policy needs to be changed so the people who really need the vouchers get them, without penalty."

How childcare vouchers work

Working parents can pay for registered childcare costs via vouchers provided by their employer. You can take up £243 worth of vouchers per month.

Crucially, the value of your vouchers is deducted from your official salary so there are no deductions, which is where the saving comes.

A basic rate taxpayer who gives up £1,000 of salary to use as vouchers will be £310 per year better off.

The same person who uses the full £243/month allowance would be £904 a year better off, meaning a couple could save £1,808 a year.

High rate taxpayers save even more. Anyone in that bracket who takes the full allowance is £1,196 a year in profit (£2,392 a year for a couple).

The problems explained

For a substantial number of families with annual income below £25,000, getting vouchers REDUCES eligibility for childcare tax credits, leaving them out of pocket.

This happens because the amount of tax credits you get is dependent on the amount you pay out for childcare. So the more your costs the more you could be entitled to in benefits.

Yet whatever you pay for using childcare vouchers doesn’t count towards the total cost of childcare. Therefore, you're entitled to fewer tax credits because you are deemed to require less cash as your childcare costs are supposedly lower.

HM Revenue and Customs says families will generally be worse off by taking childcare vouchers if both of the following apply:

  • They receive over £545 per year in childcare tax credits (or £1,090 if you have a baby aged under one).
  • Eligible childcare costs are no more than £175 per week for one child, or £300 per week for two or more.

Further reading/Key links

Cut childcare costs:
Benefits check-up: