The bulk of the £1bn the chancellor is planning to spend helping energy consumers will likely to go towards increasing the discount given to households on certain benefits.

Officials working on further radical changes that would change how much energy companies could charge customers John Healey is considering a major intervention to cut energy bills for poorer households at this month’s budget, after ministers became alarmed at forecasts which show bills rising by hundreds of pounds in January.

The chancellor is working on plans to spend more than £1bn to help energy consumers, the bulk of which is likely to go towards increasing the discount given to households on certain benefits.

Sources say final decisions have not been made, but Healey is set to rebuff a call by the energy secretary, Miatta Fahnbulleh, to spend billions more on removing levies from bills altogether.

Energy officials are working up more radical changes to bills, however, which could be implemented after the budget and would change how much companies could charge customers, rather than subsidising their bills.

If approved, the energy discount will form a major plank of the budget, which government sources say will be low-key but focused on reducing voters’ cost of living.

The chancellor is facing a cash crunch as he looks for money to fund an additional £4.7bn in defence spending and to rebuild his fiscal buffer, which has been eroded by higher borrowing costs. He is likely to raise taxes to pay for the additional spending, and is rumoured to be looking at higher bank taxes in particular.

Government sources had previously insisted the VAT cut to electricity bills which Andy Burnham announced soon after becoming prime minister would be the last support to be offered this year.

But they have become increasingly concerned by forecasts showing that the Iran war will push the energy price cap up by as much as £442 in January – entirely eroding the impact of the VAT cut.

As a result Healey has been considering submissions from the energy department on how to ease the pressures on households in the coming months.

The most likely solution is understood to be increasing the warm homes discount – a £150 discount to energy bills offered to households on certain benefits.

Healey is understood to be considering increasing this by a further £100, which would be funded by taxpayers, rather than bill-payers as the existing discount is.

Fahnbulleh, meanwhile, has been pushing for more sweeping action to reduce bills for all consumers by as much as £120 by removing all levies.

Under the energy secretary’s proposals, the levies, which fund renewable energy and efficiency schemes, would be paid for through taxation instead.

told the Guardian last week: “If we want a system that is resilient, if we want a system that can cope, if we want a system that ultimately can deliver the diversity of energy that we want, what is the fairest way in which we pay for it? “That is both across the exchequer versus our bill-payers, and then within our bill-payers. So we have to ask that question. Every other country is asking that question, and ultimately we’ve got to come to a fair deal.”Removing levies from bills would reduce inflation, but would cost as much as £3.2bn and would be difficult for the government to unwind should energy costs come down in the future.

Officials in the energy department are working on more radical proposals for after the budget, meanwhile, including proposals to reduce tariffs for poorer households or ones that use less energy.

Burnham told the Labour conference last week: “British businesses and bill-payers pay some of the highest energy costs in Europe. Within 10 years, I want those costs to be in line with our neighbours.

“This means reforming a broken energy market so it better serves the public interest.”A so-called “social tariff” would force energy companies to charge poorer households less for each unit of electricity they consume than richer ones.

Creating such a scheme, however, would involve a large amount of data collection from tax authorities, the Treasury and energy companies – an exercise likely to take far longer than the next few weeks.

An alternative plan, known as a “rising block tariff”, would also vary the tariffs which energy companies can charge, but by consumption levels rather than income.

The idea, which was proposed by the New Economics Foundation (NEF) thinktank when Fahnbulleh ran it, would charge consumers less for a set amount of “essential” use and more once their consumption crossed that level.

Alex Chapman, head of economic and environmental policy at NEF, said: “A serious price spike is coming, and without action, bills will exceed the peak of the last crisis. The government must use the budget to put in place both targeted support for the most vulnerable and, critically, a safety net for all.”

He added: “Repeated crises have exposed the flaws in our privatised energy system – these can only be fixed by fundamental reform. This means capturing the benefits of cheap renewables and offering every household a ‘block’ of essential energy at a truly protected and affordable price.”

Alfie Stirling, economist and director of policy at the Joseph Rowntree Foundation, said: “Energy support for this winter needs to tick three boxes. It needs to support the majority of households; within this, it needs to target the most support towards those in greatest need; and – as far as possible – it needs to actually lower the price, thereby bringing down inflation.

“The UK does not yet have the right toolkit to respond effectively to energy price shocks – building better tools is now a critical priority for our future security and living standards.”

A spokesperson for the Treasury said: “As has always been the case, decisions on tax are a matter for the chancellor to set out at fiscal events, rather than routinely commenting on rumour, speculation or proposals.”