Housing benefit reform: price incentives

Peter A Kemp

Part of the current discussions on housing benefit reform has been how to create more 'shopping incentives' - in other words, give tenants more interest in the rent they pay.

In this report, Peter Kemp - an acknowledged expert on housing benefit - sets out the problems in the present system, the case for shopping incentives and the scene for possible reform. The report covers:

  • Why reform is needed
  • Fundamental problems in the housing benefit system
  • Shopping incentives and how they would be created
  • The relationship to Working Families Tax Credit
  • Direct payment of housing benefit
  • How reform could affect tenants, landlords and others.
Summary

Summary

The Government's forthcoming Housing Green Paper will include proposals for the reform of housing benefit. Studies by Professor Peter Kemp of Glasgow University and Professor Philip Leather of Birmingham University examined whether 'price incentives' should be incorporated into housing benefit to ensure better value for money. The research found that:

  • The structure of housing benefit gives tenants no incentive to negotiate or shop around in relation to their housing expenditure. Hence complex administrative rules have been devised to prevent benefit being paid on unreasonable rents. These rules complicate the administration of housing benefit and cause financial hardship to many private tenants.
  • A simpler and more transparent way of ensuring that housing benefit is not paid on unreasonable rents would be to incorporate a 'shopping incentive' into the structure of the scheme for private tenants. Social housing tenants could be required to make a notional contribution to the rent.
  • Britain is relatively unusual in its arrangements for paying housing benefit directly to landlords. While direct payments have certain advantages, they also have important disadvantages. 
  • There is concern that in the private rented sector, the taxpayer may not be getting value for money because housing benefit is paid to keep tenants in housing that is in very poor condition. Some have suggested that housing benefit should be restricted on properties that fall below some minimum standard. 
  • However, the introduction of such a restriction would further complicate housing benefit administration, could deter landlords from letting to tenants on benefit, and could cause financial hardship for tenants. There are other measures that could be taken to improve the condition of properties in the private rented sector.

Introduction

This Findings examines whether price incentives could be incorporated into housing benefit in order to ensure better value for money from the scheme. It firstly considers whether tenants should be required to make a contribution to the rent out of their own pocket. And, secondly, it examines the case for restricting the rent that is eligible for housing benefit where the property falls below a minimum standard.

Housing benefit and 'moral hazard'

Tenants' entitlement to housing benefit is determined by their income, needs and eligible rent. The eligible rent is the household's actual rent, less ineligible service charges, utility costs, and deductions for non-dependants in the household. In the privately rented sector, the amount of rent for which tenants are liable - and, therefore, the amount of housing benefit to which they are entitled - is to some degree determined by the housing choices that they make. 

The fact that housing benefit entitlement in part reflects people's housing decisions creates a potential 'moral hazard' problem. A scheme in which the amount of benefit that people receive is related to their actual rent leaves itself open to the possibility that recipients will commit themselves to an unreasonably high level of expenditure on their housing, safe in the knowledge that the taxpayer will 'pick up the tab'. 

This potential problem is exacerbated by the structure of the housing benefit scheme. Unlike many other countries, in Britain many recipients have all of their rent covered by housing benefit, so that they make no contribution to the rent themselves. And for all recipients, housing benefit fully matches any increase or decrease in the rent they pay. This gives them little financial incentive to economise on their housing expenditure. Consequently, complex administrative rules have had to be devised to prevent benefit from being paid on unreasonable rents. 

These restrictions on unreasonable rents complicate the administration of the scheme, making it more difficult and time-consuming for officials to administer and much harder for claimants to understand. They also result in hundreds of thousands of private tenants facing a shortfall between their contractual rent and that which local authorities will take into account for housing benefit purposes, which can cause financial hardship.

An alternative, simpler and more transparent way of solving the moral hazard problem would therefore be in the interests of tenants, administrators and private landlords alike. Re-designing the scheme so that it includes a 'shopping incentive' could potentially provide that alternative. 

A shopping incentive for private tenants

In order to ensure that private tenants on housing benefit have an incentive to be price conscious when making their housing decisions, they could be required to make a contribution to the rent out of their own pocket. In order to ensure that they could afford to make such a contribution, their incomes (the size of their pockets) would need to be increased. This could be achieved either by paying them a flat-rate housing allowance or by increasing social security benefit rates across the board. Housing benefit would then be calculated on only a proportion of the rent and not the full amount as at present. 

The flat-rate allowance could be set at some proportion (such as 20 per cent) of a local 'benchmark rent'. Housing benefit would then be calculated on 80 per cent of the tenant's eligible rent. A different level of benchmark rent would need to be determined for different types and sizes of household, as is the case with the present local reference rent. It could be based on rents averaged across the local authority area or on the localities presently used by Rent Officers to determine the local reference rent.

Under this proposal, housing benefit recipients would make a small contribution to the marginal cost of their housing. For every £1 by which their rent exceeded the benchmark rent, recipients would contribute 20p and the taxpayer would contribute 80p. Thus, there would be a co-payment arrangement between the recipient and the taxpayer. Conversely, recipients would share in the saving that would result from them finding accommodation below the benchmark rent. They would gain 20p for every £1 by which their rent is below the benchmark rent and the taxpayer would save 80p.

The flat-rate housing allowance does not necessarily need to be uniform. For example, it could vary by location. A lower percentage could be used in London, where rents are very high compared with elsewhere in the country. Hence, if the flat-rate allowance in London was only 10 per cent of the benchmark rent, housing benefit would be calculated on 90 per cent of the tenant's actual rent. 

In order to give recipients more financial room for manoeuvre, the flat-rate housing allowance could be higher than is strictly necessary. For example, it could be set at 25 per cent of the local benchmark rent, but housing benefit could be calculated on 80 per cent of the tenant's actual rent. 

A notional rent contribution for social tenants

Social housing tenants on housing benefit are also fully insulated from any increase or decrease in the rent. But unlike the privately rented sector where rents and access are determined by supply and demand, in social housing rents are set at below market levels and tenancies are allocated on the basis of need to households at the top of the waiting list.

In these circumstances, it would be inadvisable to introduce a shopping incentive into housing benefit for social housing tenants. But a notional rent contribution could be introduced. Social housing tenants could have a flat-rate housing allowance paid with their social security cheque. Their housing benefit would then be calculated on the full rent minus the housing allowance. Because most tenants in work already contribute to the rent, they would continue to have their housing benefit calculated and paid as at present.

Thus, social housing tenants would receive the same amount of help towards their rent as at present, but part of it would be paid with their social security benefit and the majority with their housing benefit cheque. Social housing tenants would thereby make a contribution to the rent out of their 'own' pocket, but the size of their pocket would be increased by the same amount to make it possible for them to make that contribution. Social housing tenants will therefore have more incentive to be concerned about the rent their landlord is charging them because they will be paying some of it out of their own pocket.

Paying housing benefit 

Britain is unusual in the extent to which paying housing benefit is paid directly to landlords. The widespread use of direct payments in Britain probably reflects the dominance of council housing in the rented housing market and the administration of housing benefit by the same local councils. 

Where the tenant gets all of the rent covered by housing benefit, direct payments can save rent collection costs for landlords and save tenants from the hassle involved in paying the rent. They can ensure that landlords do indeed receive that part of the rent covered by housing benefit. Direct payments reduce the number of tasks involved in processing housing benefit claims which, in turn, results in time and cost savings in the administration of the scheme. And they reduce the scope for fraud in the payment of housing benefit for council and housing association tenants (though may increase it in respect of payments to private landlords).

But direct payments are in danger of removing tenants from the responsibility of having to pay the rent themselves. They also distance tenants from their benefit entitlement. And they help to reduce the need for regular contact between landlords and tenants. More generally, it has been claimed that direct payments undermine the landlord-tenant relationship. Because the tenants do not actually hand over any rent money, they appear not to be paying for their accommodation and this puts them in the position of being supplicants more than purchasers. 

It has been argued that direct payments should be retained because tenants cannot be trusted to pay the rent themselves. They are seen as being either too poor or too feckless to do so. But research has found that the majority of council and housing association tenants put rent as their top priority in paying bills and this is as true of those in serious arrears as it is of tenants generally.

Housing benefit and property conditions

Despite improvements in the last decade, housing conditions in the private rented sector remain consistently worse than in other tenures. Tenants on housing benefit are over-represented among properties in the worst condition. The association between housing benefit and poor conditions has led to claims that the taxpayer is lining the pockets of slum landlords. And because tenants do not pay all or any of the rent, they are less likely to be concerned about whether they are securing value for money in terms of housing condition. It has therefore been suggested that housing benefit should be restricted where the property fails to meet a minimum standard in terms of physical condition and repair. Housing benefit would either be withheld or paid at a reduced rate. It is claimed that this restriction would force landlords to improve their properties.

There are many objections in practice to linking housing benefit to house condition. It would complicate the administration of housing benefit and delay the processing of claims. It would be a further deterrent to private landlords to let to people on housing benefit, on top of the existing deterrents imposed by local reference rents and other restrictions. Many landlords would insist that tenants meet any shortfall in rent arising from the reduction in housing benefit, which would cause financial hardship. The only localities where landlords would find it essential to invest in response to a reduction in housing benefit payments would be those where there is a strong concentration of recipients and little prospect of alternative sources of demand. 

A direct link between housing benefit and house condition is therefore inadvisable. But other measures could be taken to improve physical conditions in the private rented sector, through the use of existing housing legislation, potential new powers to licence houses in multiple occupation, and voluntary initiatives to encourage landlords to provide better standard accommodation. 

About the study

This study was undertaken by Peter Kemp, Professor of Housing and Social Policy at the University of Glasgow. He reviewed the literature and statistics on housing benefit and consulted with a number of officials. It also draws on a short piece of work by Professor Philip Leather of Birmingham University in which he examined the arguments for and against a restriction on housing benefit where the tenant is living in poor condition housing.

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