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Who Gets the Child Tax Credit?

Leonard E. Burman, Laura Wheaton

Published: October 03, 2005
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The nonpartisan Urban Institute publishes studies, reports, and books on timely topics worthy of public consideration. The views expressed are those of the authors and should not be attributed to the Urban Institute, its trustees, or its funders.

Note: This report is available in its entirety in the Portable Document Format (PDF).


1. Introduction

The largest federal cash assistance program for children is run through the income tax system. The child tax credit (CTC) provides over $46 billion in subsidies to families with children every year (Joint Committee on Taxation, 2005). This is equal to the entire federal budget for children and family services programs (excluding health care) administered by the Department of Health and Human Services (the largest of which is Temporary Assistance for Needy Families, at $18 billion per year). The earned income tax credit (EITC), the largest cash assistance program for low-income families, which is also run through the tax system, totals $39 billion per year.

Originally enacted as part of the Taxpayer Relief Act of 1997, the CTC provided a $500 tax credit for dependent children under the age of 17. Eligibility phased out at high income levels. The credit was also of little or no value to low-income households because few had any income tax liability. (A small refundable tax credit was available to some families with three or more children.) As a result, the CTC was effectively a middle-class entitlement program.

The Economic Growth and Taxpayer Relief and Reconciliation Act of 2001 (EGTRRA) and the Jobs and Growth Taxpayer Relief and Reconciliation Act of 2003 doubled the credit to $1,000 and significantly expanded the credit's refundability. Families with earnings over $10,000 could receive a credit in excess of their tax liability. The refundable portion of the credit increased with earnings. Like many other federal income tax provisions, the $10,000 refundability threshold was indexed for inflation and has now reached $11,000. The expanded refundable tax credit made the CTC more valuable to many lower-income families, though many with very low incomes were still left out.

Designed to phase in with earnings, this credit provided a work incentive and offset some of the disincentives created by the phase-out of the earned income tax credit and the income tax itself, both of which affect moderately low-income families. Phasing in the credit with earnings also reduced the likelihood that households would file tax returns solely to claim the CTC. (Almost all households with earnings above $10,000 would file anyway to claim a refund of withheld income taxes and, when eligible, the EITC.) Limiting the credit's availability (at both low- and high-income levels) also reduced the cost to the Treasury.

Viewed as a work incentive, the CTC phase-in rules are logical (although there is a question as to why lower-income households should be subject to work incentives delivered by two separate programs-the EITC and the CTC). For the majority of recipients, however, the CTC is tantamount to a cash allowance. Viewed simply as a child subsidy, it is hard to understand why the families who most need help are excluded.1

Indeed, Congress seemed to adopt this paradigm in the aftermath of Hurricane Katrina. Absent legislation, low-income families with children who lost their jobs because of the hurricane's devastation faced the prospect of losing refundable child tax credits (and, in some cases, a portion of their EITC) because their incomes dropped. To address that problem, The Katrina Emergency Tax Relief Act Of 2005 allows families affected by Katrina to use last year's income to compute their CTC and EITC if doing so yields a larger tax benefit.

Arguably, many other families lose income when bad luck strikes, whether as a divorce, a layoff, or a death. But those events do not precipitate Congressional response, so many families who most need the help get little or no benefit from the CTC.

This paper examines the distribution of the CTC in 2005 by income and disparities along lines of race or ethnicity. As expected, most CTC benefits go to families with incomes between $20,000 and $200,000. In addition, because of systematic differences in income, family composition, and employment status, Black and Hispanic children receive much less benefit from the CTC than do White children.2 Fewer than half of Black children and about half of Hispanic children are eligible for the full $1,000 credit in 2005, compared with 62 percent of White children. Most telling, Black and Hispanic children are more than 10 times as likely to lose credits because their income is too low than because it is too high. White children are more likely to see their credit reduced because their incomes are too high. The average tax credit applicable to White children is $157 more than for Blacks and $83 more than for Hispanics.

The tax code is, of course, officially neutral with respect to race and ethnicity. But these estimates show that design features of programs such as the CTC may make them more or less useful to economically disadvantaged minorities.

Notes from this section of the report

1.Some argue that the EITC is an adequate subsidy for very low-income households with children. The EITC reaches its maximum level of $4,400 for families with two or more children earning $11,000 to $14,370 in 2005 (after which point it starts to phase out). But, unlike the CTC, the EITC reaches a maximum at two children. Also, the EITC has remained unchanged while the CTC was enacted and expanded. It is unclear why Congress would have thought that middle- and upper-income taxpayers were more in need of assistance than low-income families (whose incomes have lagged behind families with higher incomes for several decades). The original credit had three objectives: "The Congress believed that a tax credit for families with dependent children will reduce the individual income tax burden of those families, will better recognize the financial responsibilities of raising dependent children, and will promote family values." (Joint Committee on Taxation, 1997, p. 7.) While low-income families do not pay federal individual income taxes, they do face daunting challenges in meeting the financial responsibilities of raising children and presumably benefit as much as others from family value promotion. (In addition, low-income families are burdened by other taxes, including federal payroll and excise taxes and state and local income, sales, and property taxes.)

2. In this analysis, we will often measure tax benefits on a per child basis, rather than per family or tax unit. For shorthand purposes, we refer to children getting credits although, technically, their parents or guardians claim the credit on their tax returns.

Note: This report is available in its entirety in the Portable Document Format (PDF).