Obama’s Tax-Credit Boost Plan Refocuses Poverty Debate: Economy

Policy makers on both sides of the partisan divide, from Treasury Secretary Jacob J. Lew to Mitt Romney’s economic adviser Glenn Hubbard, favor expanding the Earned Income Tax Credit. This rare harmony holds the potential to reshape the debate on bridging the growing opportunity gap.

“The dynamics surrounding EITC are changing,” said Alex Brill, a researcher at the American Enterprise Institute, referring to the refundable tax credit for low-income workers. “There’s a little bit of a shift among conservatives and Republicans -- an increased level of interest in issues around the working poor.”

The EITC is the country’s largest tax-code measure for reducing poverty. It was enacted during Republican Gerald Ford’s presidency in 1975 and expanded by both parties since.

President Barack Obama’s proposed budget last week included a more generous tax credit for childless unmarried workers, and a bill before Congress would increase the hourly minimum pay. Though passing either this year is probably unlikely, today’s discussions will help shape future policies aimed at alleviating poverty, said Brill, whose Washington-based group favors limited government and free markets.

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As it now stands, the EITC is focused more on families and gives workers income-tax rebates for each dollar earned up to a limit. If it exceeds a person’s tax liability, the government pays the difference. Single adults with no kids qualify for a maximum of about $500, married couples with three children can get about 12 times that much.

Obama Proposal

Obama’s proposal would double the maximum credit for childless single adults, raise the maximum amount one can earn and still qualify for the EITC and lower the minimum age for eligibility to 21 from 25. The changes would be funded by curbing tax breaks, including taxing the profits paid to investment managers, known as carried interest, at the higher rate of regular income.

Inequality's Impact on Prosperity

“Young people who are trying to work their way through college at low incomes ought to have the benefit of an EITC,” Lew said at a March 5 Senate hearing. “Tax proposals in this budget put burdens where they can be borne, in a way that’s consistent with economic growth.”

About 7.7 million workers would qualify for a larger credit and 5.8 million more would become newly eligible for the EITC, according to the administration’s analysis. That could lift 500,000 people out of poverty and reduce impoverishment for 10 million more.

Minimum Wage

Obama also supports moving the federal minimum wage to $10.10 from $7.25. Doing so would help get 900,000 people out of poverty, based on Congressional Budget Office estimates, yet it could cost 500,000 jobs. The job loss is one reason billionaire investor Warren Buffett and Republicans favor expanding the tax credit over the minimum wage.

“You can accomplish way more through the earned income tax credit without negative effects than the minimum wage,” Buffett said, speaking on CNBC television on March 3. “The earned income tax credit I think is much clearer.”

Hubbard, chairman of the Council of Economic Advisers during the George W. Bush administration, said in an interview that the minimum wage has “no justification,” while the EITC encourages work and can help narrow America’s opportunity divide.

“This is about rewarding and supporting work, it’s not simply about income,” Hubbard said.

The proposed expansion of the credit could lift consumer spending by $3.5 billion between now and 2016, said Mark Zandi, chief economist of Moody’s Analytics Inc. in West Chester, Pennsylvania.

More Effective

Pairing it with the minimum-wage increase would increase the credit’s spending effect to $4.7 billion, according to Zandi. An additional $10.4 billion in consumer spending would come from the minimum wage increase itself, for a total combined effect of $15.1 billion, he said.

Minimum-wage increase or no, Obama’s tax-credit plan could be a tough sell this year. Though the measure commands bipartisan support, it’s part of the president’s budget request, which Republicans have dismissed as a non-starter.

What’s more, the EITC already costs about $67 billion per year, and Obama’s expansion would rack up about $60 billion in costs over 10 years, according to the administration’s analysis. Both Harry Holzer, a Labor Department chief economist during Bill Clinton’s administration, and Brill said the tax breaks the president would eliminate to make the credit expansion budget-neutral will be divisive.

“It costs a lot of public money to do this, and last time I checked, those public dollars were in short supply,” Holzer said during an AEI panel in February.

Error Costs

Additionally, the EITC is fraught with mistaken payouts. The IRS estimated that 21 to 25 percent of payments in fiscal year 2012 were made in error, at a cost of up to $13.6 billion. That’s because the program is difficult for filers to navigate and complicated to police, the IRS said.

Without a minimum-wage increase, gains from a bigger tax credit might end up in employers’ coffers, said Isabel Sawhill, a senior fellow at the Brookings Institution in Washington. By drawing more people to apply for lower-paying jobs, the EITC can pressure wages, she said.

The number of young men, who would be most affected by the expansion of the tax credit, in the labor force would probably increase, said Holzer. Gains could be less dramatic than those documented following EITC expansions in the 1990s, which targeted single mothers, partly because the labor market is weaker now, he said.

Boost Workforce

The changes would probably prompt more people to take the lower-paying jobs that are now available and going unfilled, said Holzer, a professor of public policy at Georgetown University in Washington. “When we talk about the childless credit, the goal is to reach young men, draw them back.”

Holzer said it can be hard to make low-wage jobs more attractive, and a tax refund alone may not do it. The young men it targets face other barriers, including criminal records, lack of experience and an unemployment rate of 11.9 percent for 20 to 24 year-old as of February. Joblessness nationally stood at 6.7 percent last month.

“All of that is a lot to overcome,” Holzer said. “The combination of a higher minimum wage and an EITC does more to make those jobs attractive than anything else.”

Even if there is no action on Obama’s tax-credit proposal, “many large policy reforms don’t appear and get enacted in a single year, the legislative process takes time,” Brill said. “We’re going to be talking a lot about the EITC.”

To contact the reporter on this story: Jeanna Smialek in Washington at jsmialek1@bloomberg.net

To contact the editors responsible for this story: Carlos Torres at ctorres2@bloomberg.net Mark Rohner

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