Should We Help Low Income Families With Tax Credits or Direct Subsidies?
Public opinions polls have shown that about two-thirds of Americans think government should provide a helping hand to low-income working families. But how?
For many years, the answer was direct cash (or cash-like) assistance aimed at the poor, whether they worked or not, through programs such as Aid to Families with Dependent Children and Food Stamps. But beginning in the 1970s, the accelerating trend has been to target assistance to working families and to provide such aid through refundable tax credits rather than direct spending.
Economists see these as very similar and, in fact, often treat the tax credits as spending. But they are administered very differently. And public perceptions of these two models are sometimes at odds. Just note the recent furor over the Tax Policy Center’s estimate that 47 percent of Americans paid no federal income tax for 2009. The reason many didn’t pay was because these credits wiped out their income tax liability. But some critics rail against “half of Americans who paid no taxes” even though voters—and, thus, politicians–generally favor tax cuts over nearly identical spending. For lots more info on TPC's analysis of this issue, link here.
My TPC colleagues Eric Toder and Elaine Maag have their own perspectives on whether tax credits or spending is the way to go. In his post, Eric reminds us that Don Alexander, a highly respected IRS commissioner in the Nixon and Ford administrations, strongly believed his agency should collect taxes and not administer social programs:
He was not opposed in principle to federal subsidies for low-income working families. But he believed that the purpose of the tax code was simply to raise revenue to fund public programs and that it was not the IRS’ job to administer social programs.
Perception matters. Tax wonks can argue until they are blue in the face that these programs are spending and that recipients of these subsidies are really paying positive taxes before getting their benefits. I totally agree with this logic, but it is a tough sell.
So we may have to reconsider how we provide benefits to low-income and other households. People will look at how much different taxpayers remit to the IRS – no matter how much we explain that some provisions are really spending, not taxes, or that the real beneficiaries are not always those who send a smaller check to the IRS. As the behavioral economists now remind us, perception often counts as much or more than reality.
In her post, Elaine argues that the system of refundable credits works pretty well (if not perfectly) both for government and for those families receiving the tax benefits. And, she concludes, the IRS is better equipped to manage these programs than other agencies:
We don’t have to deliver benefits through the tax system. Show me a tax credit and I can design a spending program to do the same thing. But sometimes the tax system is the best delivery mechanism. For starters, it’s administratively convenient. The IRS has relatively reliable information on earnings (the foundation for all of these credits) provided by employers so it is easier for the IRS to determine eligibility than another agency. It costs much less to run these programs than to operate traditional welfare. Unless your goal is to maximize bureaucracy, you should be cheered by this advantage.
Second, it is much easier for working families to claim tax credits than to apply for traditional welfare. Virtually all of the recipients would file income tax returns even if the credits did not exist (for example, to claim refunds of over-withheld income taxes) so they’re already in the system. And there’s no need for someone to miss a day of work standing in line at the welfare office. Finally, the negative stigma attached to traditional welfare programs doesn’t exist with EITC, CTC, and MWP credits because the benefits are not limited only to low-income families and there is no invasive interview as a prerequisite for receipt. The result: More eligible families receive the EITC than Temporary Assistance for Needy Families (the program enacted in 1997 that replaced the previous welfare program) or Supplemental Nutrition Assistance Program (formerly Food Stamps).
The debate over how to provide government subsides is provocative and important. And the outcome will help drive not only short-term tax policy but how we think about broad-based reforms in the revenue system.