Victims of the tax blunder which will see 1.4 million people asked to pay cash back to the taxman may qualify for increased benefits to soften the blow.

As many handouts are determined by your income or amount in savings those who owe money will either see their future salary drop or be asked to pay a lump sum, which would diminish their nest eggs (see the Benefits Check-Up guide).

Therefore, for those who already claim benefits or are close to the threshold could be entitled to more, as their wealth will drop.

But benefit recipients among the 4.3 million who will get a tax rebate due to the blunder may qualify for lower benefits in future as they will have more money, though the Department for Work & Pensions (DWP) says it is "very unlikely" it will enforce a cut.

The DWP, however, was vague when asked how widespread any benefit rises could be. A spokeswoman says: "We are working closely with HM Revenue & Customs (HMRC) on this issue.

"The DWP will look at each case on an individual basis to determine whether an adjustment to the benefit award is appropriate.

"There is not a one-size all approach, so it is right that we look at each case on its own merits."

Which benefit recipients may be affected?

The DWP says only those who receive Income Support, Income-based Employment and Support Allowance, Income-based Jobseeker's Allowance and Pension Credit could see their benefit entitlement change if HMRC charged them the wrong amount of tax.

All taxpayers will know by the end of this year if they owe or are owed money, but only those whose dues are collected via the Pay As You Earn system, where tax is deducted by their employer, are affected.

I'm due a tax refund. What happens to my benefits?

Any rebate would only be counted as money received in the tax year you got it (ie, the current one, 2010/11), not for the year the tax overpayment happened.

It would only affect the amount you are deemed to have in savings, not your salary, when calculating benefits. The amount of many handouts is determined by what you have in savings.

While it means some people will therefore have a larger cash pot, and would therefore qualify for lower payouts, the DWP says: "It is very unlikely people will have to pay money back."

I owe the taxman money. What happens to my benefits?

If you owe under £2,000 in tax this will be taken out of your pay packet in the next financial year, which begins in April. So if your income falls next year as a result you could be entitled to additional benefits.

If you owe over £2,000 you will be asked to pay the money back as a lump sum. If you do, your pot of savings, for the year you pay the money, will be deemed to have fallen which could mean, where benefits are based on your savings, you qualify for more.

A DWP spokeswoman says: "If HMRC has sent you a tax bill and you think this means too much income was taken into account you should contact Jobcentre Plus with the details and ask for the claims to be looked at again."

Do I have to declare a tax error?

You'd think HMRC would talk to the DWP if it asked for the wrong amount of tax, but you'd be wrong.

A DWP spokeswoman says: "People have a duty to tell us if they receive extra money. They should also let us know if their income has dropped."

I'm asked to pay money back. Must I pay it all?

Not necessarily. Accountants say there is a little-known clause dug deep in the HMRC rule-book, called the 'Extra Statutory Concession (ESC) A19', which states the Revenue must give up any tax if it has not followed its procedures correctly.

An HMRC spokesman says the Revenue will not fight any genuine claims, adding: "People are fully entitled to this concession and we feel an obligation to them so we won't fight it."

The upshot of the ESC A19 rules is that, say, HMRC miscalculated tax for the 2008/09 tax year, which ended in April 2009, you may now be able to escape paying any underpayments for that year.

Under the rules, HMRC won't collect tax if it has failed to properly use information supplied by a taxpayer, their employer or the DWP if the taxpayer is notified of the underpayment over 12 months after the end of the tax year in which the Revenue received the information.

In the example, the ESC A19 clause may be cited now as the 12-month cut-off was in April 2010.

In exceptional circumstances, underpaid tax notified less than 12 months after the end of the tax year may be waived if the Revenue failed more than once to make proper use of the information or allowed the arrears to build up over two successive tax years.

If you want to complain, raise this with your tax office but it will only work if HMRC received the correct information.

Further reading/Key links

Tax help: 2010/11 Tax Breakdown, Taxing Times
Check benefits: Benefits Check-Up