Raising a family is full of many unforeseen expenses. For new parents, the cost of childcare, in particular, can be a shock. And although there isn’t much in the form of financial support for parents, there are schemes which can help.
One such example, and the focus of this article, is the Government’s Tax-Free Childcare Account. This scheme offers parents a 25% top-up on childcare costs, which can be used for everything from nursery fees to after-school clubs and registered childminders. So, if you’re looking for a way to ease the financial burden of childcare, setting up a tax-free childcare account could be the solution. In this guide, we’ll explain everything you need to know, including:
- What is a tax-free childcare account?
- How does it work?
- Who is eligible?
- Childcare vouchers vs tax-free childcare accounts
What Is A Tax-Free Childcare Account?
A tax-free childcare account is a savings account that parents and family members can contribute towards to help pay for childcare. I know what you’re thinking, “So what, I can just set aside money in my bank account”.
But the bonus with the government’s scheme is that it offers parents a 25% top-up on whatever they add to the account – helping make childcare more affordable. The account can be used to pay for nursery fees, breakfast and after-school clubs, summer camps and OFSTED registered childminders.
How Does A Tax-Free Childcare Account Work?
The scheme operates by topping up savings of up to £8,000 per child by 25%. Parents can use the money to spend on qualifying childcare.
So, for every £8 paid into an online account, the government adds an extra £2, up to a limit of £2,000. For example, for childcare costs of £500 per child per month, the family would pay £400 into their childcare account and the government would pay in £100 per child. This would be an annual saving of £1,200 per child.
The scheme generally applies to children under 12. In the case of disabled children, the age limit is 16 and the amount that can be saved is £16,000 a year, topped up by the government by 25% to a potential total of £20,000.
Even better, it doesn’t need to be the child’s parents paying into the account. Any family member can also make payments: uncles, aunts, grandparents and others.
Opening a tax-free childcare account is quick and easy and can be done at any time of the year. Money can be deposited at any time to be used straight away, or whenever it is needed. Unused money in the account can also be withdrawn at any time – making it quite a flexible account should you need the cash for something else.
Who Is Eligible?
Undoubtedly, the scheme sounds like a great opportunity for working parents. However, there are some eligibility requirements to consider.
The scheme is available to both employees and self-employed individuals, unlike the traditional childcare voucher scheme offered by some employers. Your family could be eligible if:
- You have a child or children aged 11 or under. They stop being eligible on 1st September after their child’s 11th birthday. If their child has a disability, they can receive support until 1st September after their child’s 16th birthday.
- You earn, or expect to earn, at least the National Minimum Wage or Living Wage for 16 hours a week, on average.
- Each parent earns no more than £100,000 per annum.
- You do not receive tax credits, Universal Credit or childcare vouchers.
Positively, the account can also be used at the same time as the 15 or 30 hours of free childcare in England.
As it stands, the government are concerned about the lack of take-up of tax-free childcare accounts, with HMRC estimating that less than 22% of families eligible for the scheme had joined by March 2021. HMRC are suggesting that employers should make their employees aware of the support available to families with young children. With many parents working from home for part of the week, tax-free childcare accounts are more flexible than childcare vouchers.
Childcare vouchers continue to be available for employees who joined a qualifying scheme before 4 October 2018 and applies to children up to age 16.
Childcare Vouchers vs Tax-Free Childcare Accounts
If your employer offers a Childcare Voucher Scheme, you cannot use both this and a Tax-Free Childcare Account. The two schemes are mutually exclusive, and employers must stop giving their employees childcare vouchers with income tax and NIC relief if the employee informs them that they’ve started using the Tax-Free Childcare scheme. It’s important to assess whether switching to a Tax-Free Childcare Account would be more beneficial for your family. So let’s take a quick look at the two…
Childcare Vouchers
Childcare vouchers were a government-backed scheme designed to help UK parents reduce childcare costs by allowing them to pay for childcare using their pre-tax salary. Employers offered the scheme as a salary sacrifice, meaning part of your salary was exchanged for childcare vouchers before tax and National Insurance deductions.
This effectively lowered your taxable income, providing savings on tax and National Insurance. Vouchers were issued electronically, which parents could then use to pay approved childcare providers directly.
You may have noticed we’re talking in the past tense here. The childcare voucher scheme was ended in October 2018, although those within voucher schemes continue to be eligible until their child is aged 16, provided their employer is willing to continue operating the scheme.
However, with many employees now working from home more often, as part of the post-COVID move to hybrid working, many families found that they were not using all of their vouchers and chose to leave the scheme. You may also be weighing up the same question.
Pros:
- Income tax and NI savings: Taken from salary before tax, reducing taxable income.
- Both parents eligible: Both employed parents can claim, potentially doubling savings.
- Flexible usage: Can be saved up or used monthly for qualifying childcare.
- Continued availability: Existing members can keep using it, even though closed to new applicants.
- Longer coverage: The voucher scheme applies to children up to 16 years old, whereas the tax-free childcare account only applies to children up to 12.
Cons:
- Closed scheme: No new entrants after October 2018.
- Limited benefit: Savings capped; basic-rate taxpayers typically save up to around £933/year.
- Employer-dependent: The employer must offer the scheme to continue benefiting.
Tax-Free Childcare Accounts
Tax-free childcare accounts will gradually replace childcare voucher schemes as no new voucher schemes can be set up after 4th October 2018.
Pros:
- Higher potential savings: Government adds 25% top-up (up to £2,000 per child, per year).
- Not employer-dependent: Accessible to self-employed and those whose employer doesn’t offer vouchers.
- Available widely: Open to most families earning between minimum wage and £100,000 per parent annually.
- Usable for multiple children: Up to £2,000 per year per child (up to £4,000 for disabled children).
Cons:
- Both parents must be working: Minimum earning threshold required.
- Cannot be used alongside childcare vouchers: You must choose one or the other.
- Account management required: Regularly deposit and manage payments via an online account.
Need More Information?
Would you like further guidance on all of the tax-efficient schemes available to you? Or perhaps you would like advice on whether or not it would be beneficial to leave your employer’s Childcare Voucher Scheme?
Then why not speak to one of our team? We’re a local, family-owned firm of accountants, operating for 30 years in Manchester and the North West (learn more about us).
Our team work hard to create smart and effective tax-efficient solutions for individuals, families and businesses – helping you save money. If you want to learn more about how the team can help or simply want some advice from a trusted accountant, please contact us.
For further information on government childcare support, see: https://www.childcarechoices.gov.uk/