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How to fix the Child Tax Credit and reduce the U.S. budget deficit too

With a slim majority in the House for Republicans and Democrats holding on to the Senate, setting federal budget priorities begets a lot of bloviation but will compel compromise too. High among progressive priorities is reinstating COVID-era enhancements to the Child Tax Credit. Current tax law provides up to $2,000 per child under 17 for taxpayers


With a slim majority in the House for Republicans and Democrats holding on to the Senate, setting federal budget priorities begets a lot of bloviation but will compel compromise too. High among progressive priorities is reinstating COVID-era enhancements to the Child Tax Credit.

Current tax law provides up to $2,000 per child under 17 for taxpayers with adjusted gross incomes of $400,000 or below who are married and filing jointly, and $200,000 or below for all other filers. Benefits phase out over those amounts, and the CTC is partially refundable. If no taxes are owed, up to $1,500 is offered parents earning at least $2,500.  

For 2021 only, the American Rescue Plan bumped the benefits to $3,000 per child — $3,600 for families with children under age 6 — but lowered the phase-out thresholds to $150,000 and $75,000, respectively.

The CTC program is a major reason that about 40% of all tax filers pay no federal income tax, and restoring the American Rescue Plan benefits would boost that figure to about 50%.

The politics of child-care economics

From a political view, conservatives believe such financial benefits encourage lower- and moderate-income families to vote for politicians who advocate ever-greater entitlements.

Notably, the CTC was proposed by the Heritage Foundation, included in Newt Gingrich’s 1994 Contract with America, and a $500 benefit was inaugurated by the Tax Relief Act of 1997. It was increased and made partially refundable by President George W. Bush and increased again by President Donald Trump in the 2017 Tax Cut and Jobs Act.

The tax code now offers a buffet of family-friendly credits, including the Earned Income Tax Credit, the Child and Dependent Care Tax Credit, educational benefits and other incentives.

Along with Section 8 housing, SNAP and Medicaid, these programs create a disincentive to work, because the combined phase-out provisions impose effective marginal tax rates sometimes exceeding 50% for low income families.

Often cited by advocates for progressive causes, a National Bureau of Economic Research study of mostly low-income single mothers found American Rescue Plan enhancements hardly lowered labor force participation. However, the surveys simply asked: Are you employed, looking for work or not looking? Dog walking or seeking odd jobs for a few hours a week could qualify a respondent to be in the workforce.

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The American Rescue Plan’s bumps in benefits were brief, making them unlikely to alter behavior, and the current program encourages part-time employment. Meeting the current minimum income refundability threshold requires only about 250 hours of low-wage employment annually. A Becker Freidman Institute study found some workforce participation effects. A Joint Committee on Taxation study projected the same for reinstating the benefit.

How much enhanced CTC benefits reduced poverty has been subject to a much-distorted debate.  Progressives like to tout a Columbia University study that showed a 25% reduction. It estimated poverty status by adding American Rescue Plan enhancements to incomes prior to the pandemic. Data for 2021 incomes were not yet available for researchers.

After 2021 income data became available, Becker Friedman researchers found a much smaller impact on poverty. The culprit was likely fewer hours worked by parents receiving enhanced benefits.

The primary purpose of the CTC, SNAP, subsidized school lunches and Medicaid is to aid children, and society is better off for ensuring that those born into low- and moderate-income families have resources available to raise and educate them.

That’s why we have free public schools and subsidized tuition at state universities.

However, it’s terribly difficult to disentangle the benefits targeted to children through parents and work disincentives that come from minimal earned income requirements for refundable tax credits and other benefits. 

Senator Mitt Romney (R-UT) has proposed raising the CTC to $4,200 for children under 6 years old and $3,000 for those ages 6 to 17. Romney’s plan would be funded by closing some tax loopholes. Unfortunately, that would continue the terribly high effective marginal tax rates that come with means-tested programs.

Tax credit

It would be better to roll up those programs into a single, fixed refundable tax credit for each adult and child regardless of income, but one that requires full-time work for full benefits. Each adult would have to show proof from an employer of a minimum of 30 hours of work weekly or a minimum adjusted gross income of $20,000. If a taxpayer was unemployed for part of the year, credit could be given for the weeks receiving state unemployment benefits.

This program could be funded by a payroll tax. Upper-income individuals would receive fewer benefits than the taxes they paid but lower-income folks would get more benefits than the taxes they paid. Income taxes could be cut by the amount collected by the payroll tax.

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With lower administrative costs and eligibility requirements structured properly — for example, mostly limiting SNAP benefits to parents of children and working adults — this would save money and reduce the federal budget deficit.

A universal floor under parents’ incomes would provide parents with more adequate resources, remove large jumps in effective marginal tax rates for low-income folks and encourage everyone to work.

Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.

More insights from Peter Morici

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