The Court of Appeal in Wellington has been told it is necessary to exclude beneficiary families from the in-work tax credit offered as part of the Working for Families scheme.
The Child Poverty Action Group wants the credit declared illegal, saying it is only available to working parents and therefore discriminates against the 227,000 children in beneficiary families.
The lobby group has so far lost its case at the Human Rights Review Tribunal and the High Court.
On Wednesday, the Crown told the court that because the purpose of the credit is to encourage people into work, it is necessary to distinguish between beneficiaries and working families.
It disagrees with the group's argument that large numbers of beneficiaries are disadvantaged by not receiving the credit.
The Crown said it is just one part of the scheme, which includes other payments that are available to beneficiaries.
It said it is likely that most beneficiaries will be able to gain employment and are therefore not permanently excluded from receiving the credit.
On Tuesday, Child Poverty Action told the court that 99% of beneficiary parents cannot work because of circumstances beyond their control.
However, the Crown said that some choose to stay on a benefit.
