Tax Reform and the Income Distribution: The Child Tax Credit vs. the Earned Income Tax Credit
Aparna Mathur, Cody Kallen | October 5, 2017 | AEI Tax Brief Series
1 Current Policy
The child tax credit allows households with children to reduce their federal income tax liability by up to $1,000 per qualifying child. The credit phases out as modified adjusted gross income ex- ceeds $110,000 for married taxpayers filing jointly and exceeds $75,000 for unmarried taxpayers.
If income tax liability is less than the tax credit, the remaining portion of the credit is partially re- fundable through the additional child tax credit. The EITC is available for low- to moderate-income households that have work income. The credit is larger for households with children, and it is fully refundable to households that owe no income taxes.
Whereas the child tax credit is broadly available to the middle class and partially refundable for the poor, the EITC targets low-income and lower middle class households. The proposed Re- publican tax reform leaves open the possibility of expanding the Child Tax Credit, but it does not mention the EITC.
2 Distributional Impact
Using the open-source Tax-Calculator, we compare the distributional impacts of doubling the child tax credit or expanding the Earned Income Tax Credit by 31 percent. The EITC expansion of 31 percent was determined so that it has the same static cost as doubling the child tax credit, with total costs through 2026 of $430 billion. The table below shows the percent change in after-tax income for each decile resulting from the reforms. For details on the implementation of these re- forms, see the Modeling Notes section.
Percent Change in After-Tax Income by Decile
Income Decile Double the CTC Expand the EITC
Bottom 0.07% 0.25%
Second 0.06% 0.45%
Third 0.60% 1.45%
Fourth 0.87% 2.02%
Fifth 1.14% 2.20%
Sixth 0.98% 1.58%
Seventh 0.72% 0.40%
Eighth 0.64% 0.00%
Ninth 0.58% 0.00%
Top 0.07% 0.00%
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3 Comments
• Holding the cost of the expansion constant across the two reforms, the EITC expansion results in a larger after-tax increase in incomes for low-income and middle-class households compared to doubling the CTC.
• The benefits of the EITC expansion are concentrated among low-income and middle-class household, but the benefits of doubling the child tax credit are spread across the income distribution.
• An EITC expansion can boost labor force participation and supplement wage incomes for those at the bottom of the income distribution. The Child Tax Credit is less targeted at work but can nevertheless boost family income and engagement in the workforce by allowing families to pay for childcare and meet other needs.
4 Modeling Notes 4.1 Tax-Calculator
Tax-Calculator is an open source microsimulation tax model that computes federal individual in- come taxes and Federal Insurance Contribution Act (FICA) taxes for a sample of tax filing units for years beginning with 2013. The model can be used to simulate changes to federal tax policy to conduct revenue scoring, distributional impacts, and reform analysis. As an open source model, Tax-Calculator is under constant development and improvement. Therefore, the results reported in this paper will change as improvements are made. The model relies on data from the 2009 IRS Public Use File (PUF). These results are generated using Tax-Calculator Version 0.11.0.
4.2 Modeling Assumptions
The CTC expansion is modeled by raising the cap on the CTC. The EITC expansion is modeled by multiplying the maximum EITC by 1.315 and adjusting the phase-out thresholds to maintain a constant income range at which the maximum EITC is available. The EITC multiplier is determined to make the EITC expansion approximately equally costly (in static revenue terms) as the CTC ex- pansion. The income distribution is based on expanded income, a broader measure than Adjusted Gross Income. To address income mismeasurement for lower income tax filers, we exclude from the distributional table those with negative expanded income and those whose tax bills exceed their expanded income (under current law).
Aparna Mathur is a resident scholar at the American Enterprise Institute (AEI). Cody Kallen is a research associate at the American Enterprise Institute.
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