The Government can see no reason why claimants should be allowed to live in accommodation too large for them. As their children leave home they will be expected to move into more "appropriate accommodation".
The Treasury and the Department for Social Security are drawing up plans to impose a monthly limit on the amount of rent funded by the Government. Ministers also want to incorporate the benefit, claimed by 4.7 million people, into the tax credits paid to low earners.
The proposals, mentioned by Gordon Brown in last week's Budget, will infuriate Labour left-wingers, who fear they could exacerbate the problem of homelessness in cities where rents are high.
But the Chancellor said housing benefit was the next priority on the Government's welfare reform agenda, as part of the attempt to drive down the social security budget. The initiative was agreed earlier this month at a Cabinet committee meeting attended by Mr Blair, Mr Brown, John Prescott, the Deputy Prime Minister, and Alistair Darling, the Secretary of State for Social Security, and proposals will be brought forward in a green paper later this year.
Last week, Mr Brown confirmed that the Treasury is actively considering incorporating housing benefit into the new working families tax credit - paid to low-income earners - to remove the disincentive to return to work. Currently, people lose up to 95 per cent of their housing benefit when they return to full-time employment.
"Whereas people in rented accommodation get help when they are unemployed, when they go back to work it is difficult for them to get help," the Chancellor said. "That is something we must be prepared to look at."
Under the proposals, unemployed people would probably continue to receive a cash benefit. But it is also likely that a regional flat rate for housing benefit will be introduced instead of the current system, which has allowed people to claim back high levels of rent.
Ministers want to create an incentive for those on the benefit to find the best-value accommodation by allowing them to keep any extra money. The Government believes this will improve accommodation standards by introducing a market into the sector. Landlords could be struck off the housing benefit list if their properties fail to meet the required standard.
Also, local authorities will be encouraged to move claimants into more appropriate properties to make best use of the available accommodation. There are more than 81,700 unoccupied council houses across the country, despite severe overcrowding in some areas.
Housing benefit is one of the most complicated and fraud-ridden social security payments available. It is estimated that housing benefit fraud costs at least pounds 600m a year.Reuse content