The upside of expanding access to the Earned Income Tax Credit

With the end of the year approaching, Congress has been concentrating on extending a package of tax code provisions known collectively as the “tax extenders.” The bill, which seems likely to pass, includes a number of tax credits and deductions that run the gamut from a credit for research and development, a break for Broadway shows, and some provisions left over the from the 2009 Recovery and Reinvestment Act.

One provision in the debate is the Earned Income Tax Credit, or EITC, with a temporary boost to the program being considered for permanent status. The credit is a key part—perhaps the key part—of U.S. antipoverty efforts at the moment. But while it’s done quite a bit of work in reducing the amount of Americans in poverty, it clearly has room for improvement—namely regarding who is eligible for the credit.

Among certain policymakers and researchers, a consensus of sort has emerged that workers without children should also be fully eligible for the Earned Income Tax Credit. Because the program was originally intended for workers with children, specifically mothers, workers without children don’t currently have access to the full extent of the tax credit. Given the success of the program, expanding access makes sense.

It’s worth noting, however, that these workers won’t simply go from being unaffected by the program to getting a benefit. In fact, given the structure of the Earned Income Tax Credit, some of them have seen their wages depressed by the program. Expanding access to the tax credit will rectify this problem.

When thinking about the benefits of a tax increase, cut, credit, or deduction, always remember to consider the incidence. Policymakers may raise or lower a tax rate in hopes of affecting one group of people, but the actual harm or benefit from the change might not fall directly on said group. The burden of sales taxes, for example, isn’t borne by retailers but rather passed onto consumers in the form of higher prices.

When it comes to the Earned Income Tax Credit, the full value doesn’t go to the worker. According to research by economist Jesse Rothstein of the University of California, Berkeley, employers capture about 36 percent of the value of the tax credit. By encouraging more people to enter the labor force, the EITC boosts the labor supply and pushes down wages. Employers then get to employ labor at a lower wage, and that’s how they capture some of the incidence. Workers who are eligible for the EITC see a net increase in their after-tax income, but ineligible or non-participating workers see a decrease in their incomes as they have only their wages as income and don’t get the tax credit. Allowing these workers to get the EITC would rectify this problem.

At the same time, given this partial capture of the tax credit via lower wages, policymakers might want to consider other ways to shift the bargaining power of workers. One way would be increasing the minimum wage, which would also prevent the partial capture. A higher minimum wage and an expanded Earned Income Tax Credit are complementary policies, rather than substitutes for each other. At the same time, a policy like the EITC might be less effective during a period of slack labor market. So fiscal and monetary policy geared toward full employment would be a good complement. The Earned Income Tax Credit is far from perfect, but it is quite good. Building on its success, expanding complementary programs, and applying its lessons to other programs are all things policymakers should consider in the year ahead.

Update 1:54 PM on 12/15/2015: For readers interested in more information on the EITC, check out Jesse Rothstein’s recently published Equitable Growth brief on the issue.


(Morgan Lane Photography/Veer Photo)

December 15, 2015


Nick Bunker


Individual Taxation

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