Tax-free childcare: how does it work?

Parents can now call on the UK government to help pay childcare costs. The new tax-free childcare system, introduced in 2018, means that for every £8 parents pay towards childcare, the government will pay an additional £2.

So why are parents not doing this and are you eligible?

What is tax-free childcare? 

In the UK, every child under the age of 11 (or 17 if a child is disabled) can claim an amount of tax-free childcare.

The scheme, which an estimated 1.3 million families are entitled to, allows families to pay for some childcare costs with the government topping up an additional proportion.

In practice, this means that for every £8 parents pay, the government will contribute a further £2 up to a maximum of £2,000 per child per year. 

To make a claim for this money, parents need to create a government account and then start paying money in.

The government tops up this amount, but doesn’t specify what the money should be spent on, meaning that you could use the money on anything from after school clubs to playgroups to childminders. 

Despite over a million families being eligible for this scheme, only 545,000 families are currently using it, meaning nearly £3 billion of money set aside for the scheme has been unused.

Critics of the scheme point out the eligibility criteria and application system are overly complicated, so if you’re struggling to figure out whether or not you should be applying, here’s how it all works.   

Who is eligible for the scheme? 

You can claim tax-free childcare if you earn an average of £198 a week over a three-month period and if you earn a salary of less than £100,000 (if you’re at least 21).

This calculation is made based on who lives in a registered household, meaning you don’t need to be living with the other parent to be assessed.

You are still eligible to make a claim if you are self-employed and meet the above criteria. 

If you have an annual family income under £40,000, are working, and are paying for your childcare, you may recoup 85% of childcare costs through universal credit. This scheme is separate from tax-free childcare and cannot be claimed at the same time. Depending on your circumstances, you may be better off claiming your money back through universal credit.

If both parents are working and earning below £40,000, it would likely be more cost effective to claim childcare costs back via universal credit. However, if the family has a disabled child, even if earning just above the threshold for universal credit, the tax-free childcare option might be more beneficial.

This is because the tax-free childcare scheme provides up to £4,000 per year in support for disabled children, which can be more advantageous for long-term childcare costs until the child reaches the age of 17.  

Can you claim tax-free childcare on maternity leave? 

If you, or your partner, is working, on sick or annual leave or is on maternity leave, you are still eligible to claim tax-free childcare.

Even if you are not currently working, you could still be entitled to childcare support if you receive Incapacity Benefit, Several Disablement Allowance, Carer’s Allowance, or contribution-based Employment and Support Allowance. 

Can I claim 30 hours of free childcare a week? 

There is no typical circumstance and no correct way to go about finding the right childcare support for your needs.

It should also be noted, however, that these two schemes are different again from certain free childcare schemes provided by the local government across the UK.

While the final amount will vary from region to region, parents are entitled to anywhere between 10 and 30 hours of free childcare a week for free. 

While tax-free childcare and the Universal Credit scheme both require parents within certain criteria to pay for costs up front, parents may be entitled to as many as 30 hours a week for free – without needing to spend anything. 

How to apply for tax-free childcare? 

You’ll need to apply on the government website for tax-free childcare. First, you’ll need to prove that you are eligible by entering some details about yourself, the other parent if required and your familial income.

Remember that you might be better off using Universal Credit to recoup lots of your childcare costs, so ensure that you’re making the right choice. Consider taking on financial guidance if you can’t make up your mind.  

Once you have applied, you’ll need to make an online account into which both you and the government will pay money.

You will then be able to pay childcare providers from this account. You’ll need to reconfirm your details every three months to continue receiving childcare support.  

You will be able to start paying into your account the day it is opened, with the top-up arriving usually on the same day. 

What are tax-free vouchers? 

Tax-free vouchers were one of the main sources of government support to parents facing childcare costs. Closed to new applicants since 2018, these vouchers have been phased out in favour of the tax-free childcare top-up system.

The newer system was implemented to simplify the voucher scheme.  

The benefits of the voucher system and newer tax-free childcare system are felt differently

Under the previous voucher scheme, families where one parent wasn’t working might have been better off. The voucher system offered support regardless of employment status, which was advantageous for families with only one working parent.

In contrast, the more recent tax-free childcare system is better suited for families with more than one child.

Under the new scheme, the government will contribute up to £2,000 per year for each child. For a family with two children, this could mean up to £4,000 in annual support.

While the voucher system benefitted families with fewer children and lower childcare costs, the newer tax-free childcare scheme provides greater support for larger families with higher childcare expenses.

Get expert financial advice

The tax-free childcare scheme offers valuable support for parents by providing a government top-up to help cover childcare costs.

While the transition from tax-free vouchers to this new system aims to simplify and extend support, it’s crucial for families to assess their eligibility and choose the option that best fits their needs. 

Whether through tax-free childcare or universal credit, understanding these schemes can help you make the most of the financial assistance available and better manage your childcare expenses.

Unbiased will match you with a financial adviser for expert financial advice on managing childcare costs and making the most of available financial support.