Earned Income Tax Credit: Small Benefits, Large Costs

With America’s sluggish economy and stagnant wages, federal policymakers are looking for ways to help the working poor. One idea that has gained some bipartisan support is expanding the earned income tax credit (EITC). President Barack Obama, members of Congress, and presidential candidates have all proposed plans to expand the tax credit.1 The EITC is a huge program. In 2015 it will provide an estimated $69 billion in benefits to 28 million recipients.2 The EITC is the largest federal cash transfer program for low-income households. Benefits are available to households with earnings from employment. While the EITC is administered through the tax code, it is primarily a spending program. The EITC is “refundable,” meaning that individuals who pay no income taxes are nonetheless eligible to receive a payment from the U.S. Treasury. Of the $69 billion in benefits this year, about 88 percent, or $60 billion, is spending. Articles by liberal and conservative pundits regarding the EITC often make it seem as if there are few downsides to the program. The EITC is aimed at reducing poverty and encouraging work. Who could be against that? Alas, there is no free lunch with subsidy programs. The EITC has a high error and fraud rate, and for most recipients it creates a disincentive to increase earnings.3 Also, the refundable part of the EITC imposes a $60 billion cost on other taxpayers, reducing their incentives to work, invest, and pursue other productive activities. We conclude that the costs of the EITC are likely higher than the benefits. As such, the program should be cut, not expanded. Policymakers could better aid lowincome workers by removing government barriers to investment, job creation, and entrepreneurship.