President Clinton has declared that the expansion of the earned
income tax credit in August was "the most significant pro-work,
pro-family economic reform we have enacted in 20 years." In fact,
the EITC program is the nation's most politically popular, fastest
growing, and most fraud-prone welfare program -- and one that is a
building block of the Clinton welfare reform.
The EITC was created in 1975 to provide rebates of Social
Security taxes to low-income workers, thereby counteracting the
antiwork incentives of Social Security payroll taxes. But following
sharp expansions in 1990 and 1993, the EITC is now far more of a
direct handout than a tax refund. The program will cost more than
$16 billion this year -- more than the federal cost of Aid to
Families with Dependent Children. Almost one-fifth of all tax
returns claimed the benefit for 1993, and the Internal Revenue
Service mailed out more than 10 million letters April 22 encouraging
more people to sign up for the program. In Mississippi, 45.1% of
families will become eligible for the EITC by 1996; in the District
of Columbia, 42.3% of families will qualify.
While Mr. Clinton claims that the EITC rewards work, the details
prove otherwise. Households with children with earned income below
$25,300 (not counting welfare received) are eligible for EITC
benefits of up to $2,528. Families earning up to $8,425 receive an
EITC handout equal to 30% of earnings. Those earning between $8,425
and $11,000 get a flat $2,528. And families earning between $11,000
and $25,300 receive $2,528 minus 17.68 cents for each dollar they
earn above $11,000.
While people in the lowest tier receive a bonus for each
additional dollar they earn, the EITC benefit schedule effectively
imposes a punitive tax on those earning over $11,000 -- slashing
their benefits for each extra dollar they earn. American Enterprise
Institute economist Marvin Kosters estimated last year that almost
three times more EITC recipients are in the phase-out range than in
the phase-in range. Thus, the EITC discourages work for far more
low- and moderate-income people than it rewards work. (Benefits and
eligibility limits are scheduled to rise sharply through 1996.)
The General Accounting Office noted in a 1993 report: "Before
qualifying for the credit, a worker may view taking a second job as
worth the sacrifice of forgoing leisure time. But after qualifying
for the credit, the extra income the credit offers partly replaces
the income the worker would lose if he or she were to quit the
second job. . . . Also, full-time workers may shift to part-time
jobs to get the leisure time they now prefer." GAO estimated that
hours worked by EITC beneficiaries may have been cut by 3.6%
overall, and by more than 10% for working wives, as a result of this
subsidy in 1988. The disincentive to work is probably much greater
now, as the benefits are much higher.
Clinton chief economic adviser Laura Tyson declared on April 15
that the earned income credit is "a way to reward hard-working
Americans who work full-time." Yet, GAO found that the average EITC
recipient worked only 1,300 hours, compared with a normal work year
of 2,000 hours. Last month, one nonprofit organization informed
potential beneficiaries that they could qualify if they worked only
one day a year.
The EITC is structured to subsidize low incomes, regardless of
how much or little recipients work. University of Oklahoma Law Prof.
Jonathan Forman observed in Tax Notes, "The maximum earned income
credit is equally available to both a salesclerk who works 2,000
hours per year at $5.00 per hour and a part-time lobbyist who works
100 hours per year at $100 per hour."
The EITC has long been a gravy train for con artists. GAO noted
last year that, before the 1990 expansion of the program, "about a
third of the taxpayers who received the credit were not entitled to
it." The IRS estimates that between 30% and 40% of EITC benefits are
given in violation of federal tax law. Johnny Rose, IRS criminal
investigation chief for the Arkansas-Tennessee district, declared in
January: "Today, nearly all fraudulent returns involve two things:
(1) claiming the EITC and (2) filing electronically through a
business that offers a quick loan against the refund."
Recently Rep. Dan Rostenkowski and three ranking members of the
House Ways and Means Committee wrote to Treasury Secretary Lloyd
Bentsen that "the federal government has an extremely serious and
growing problem in the area of tax refund fraud." Rep. Bill Archer,
one of the signatories, observed that the EITC is by far the biggest
source of fraudulent return losses, with the average EITC fraud
estimated at $1,800. Yet the IRS makes almost no effort to require
people to pay back undeserved or fraudulently received EITC
Moreover, Mr. Clinton's new EITC creates perhaps the harshest
marriage penalty in the history of the U.S. tax code. An unmarried
couple, each with two children and $11,000 in income, would lose
$5,686 in EITC benefits by marrying, according to Tax Notes
magazine. So much for a pro-family policy.
Mr. Clinton declared in February: "When tax bills come due this
April, 15 million families with a total of about, we estimate, 50
million Americans, will be lifted beyond the poverty line by getting
tax reductions under the earned-income tax credit." But the GAO
found that the EITC has been a dismal failure at raising people out
of poverty. In 1991, the EITC decreased the poverty rate by less
than one percentage point. And, even when the EITC lifts families
out of poverty, receiving the credit does not affect eligibility or
benefit levels for families already receiving food stamps, housing
subsidies or AFDC.
According to Assistant Treasury Secretary Alicia Munnell,
August's EITC increase is the first step toward the Clinton welfare
reform plan. Ms. Munnell declared last November: "We are already
looking at consolidating the application for food stamps and the
EITC. This would reduce transaction costs and eliminate any stigma
that may accompany participation." But reducing the stigma on
welfare recipients is not the same as making people self-reliant.
Designing government handout programs to encourage people to work
is the ultimate liberal pipedream. Instead of glorifying new
benefits for low- to moderate-income groups, the Clinton
administration should devote its attention to lowering the burden of
taxes on all working Americans.
Mr. Bovard writes often on public policy.