Child Benefits in the Tax Code: Does the current system make sense?
By Elaine Maag :: May 6th, 2013
If you’re a parent, whether you have a relatively high income or are earning minimum wage, you likely qualify for tax benefits. These benefits, when looked at in tandem, reveal a complex maze of support for families with children. Nearly everyone with children receives some benefit, but the pattern of benefits calls into question the overall fairness of the system. Independent of that, in a time of tight budgets, it’s appropriate for policy makers to question whether benefits are being delivered in the most efficient way possible.
For a single parent with two children, benefits rise rapidly before falling dramatically once income exceeds about $22,000—which is just above the 2013 poverty guideline for a family of three ($19,530). This can make it difficult for families as they try to move out of poverty—just as they earn a little more money, they lose the benefits that helped give them a leg up.
The largest of the child benefits for low-income, working parents—the earned income tax credit (EITC)—will provide an estimated $57.7 billion in benefits to 20.4 million families with children. (Additional, but much smaller, benefits will go to individuals without children.) Research consistently shows that the EITC encourages single mothers to work. It does this by supplementing wages by 34 to 45 cents for every dollar earned, until the maximum credit is reached. Parents with two children will receive a maximum credit in 2013 of nearly $5,400. The credit phases out beginning at income slightly below $18,000 for single parents. For married parents the phase out does not begin until earnings exceed about $22,000. Families in the lowest two-fifths of the income distribution receive almost all of EITC’s benefits.
On top of that, a low-income single parent of two could receive an income boost of up to $2,000 from the child tax credit (CTC). The CTC provides less benefit overall to low-income families with children because many families with higher incomes also receive the credit. In 2013, the CTC will distribute $55 billion in benefits to 35.5 million families with children, according to Tax Policy Center (TPC) estimates. Middle- and upper-income families will receive over half of the benefits from the CTC.
Fewer families with children benefit from the child and dependent care tax credit (CDCTC) than from the EITC or the CTC. And benefits are concentrated among relatively higher-income families. TPC estimates that, in 2013, families in the top 40 percent of the income distribution will receive over half of the $4 billion in benefits from the credit, in part because it never fully phases out.
Higher-income single parents can also benefit from the dependent exemption and head of household filing status (a special filing status afforded to single parents that generally taxes income at lower rates than a person would face if they filed as “single,” the equivalent filing status for unmarried individuals without children). Because both of these benefits depend heavily on a person’s tax rate, those with the highest rates receive the largest benefit. TPC estimates that households in the top fifth of the income distribution will receive an average benefit of $687 from the dependent exemption in 2013 compared with $10 for families in the bottom fifth. Over one-third of all benefits from the dependent exemption flow to families in the top fifth of the income distribution.
With the federal budget under enormous pressure, policymakers must spend limited dollars to maximum effect. Understanding how child-focused credits fit together—or don’t—and recognizing who benefits from them is a good starting point for lawmakers seeking to reform the tax code with fairness and efficiency in mind.