Legislative Analyst’s Office Presented to: Ryan Woolsey, Fiscal and Policy Analyst CSDA/CWDA...

Legislative Analyst’s Office

Presented to:

Ryan Woolsey, Fiscal and Policy Analyst

Options for a State Earned Income Tax Credit

CSDA/CWDA Policy Symposium

March 4, 2015

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The LAO’s Primary Activities Include:• Analysis and recommendations on the Governor’s

budget proposals.• Oversight of executive branch implementation of the

state budget.• Special reports on topics of interest to the Legislature.• Analysis of statewide ballot initiatives for the Official

Voter Information Guide.

What Is the LAO?

The California Legislature’s Nonpartisan Fiscal and Policy Advisor

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“The Legislative Analyst shall evaluate the costs, benefits, and trade-offs of various options for establishing a state Earned Income Tax Credit and submit a report with its findings to the Legislature by January 1, 2015…”

Recent Report Prepared Pursuant to Legislative Direction

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Background on the Federal EITC

State-Level EITCs

Options for a California EITC

Potential Implementation Issues

Agenda

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Background on the Federal EITC

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The Federal EITC Was Established in 1975

• Initially intended to compensate low-income workers for federal payroll taxes that fund

Social Security and Medicare.

• Was expanded significantly in 1986, 1990, and 1993.

The Federal EITC Is Fully Refundable

• The federal EITC reduces tax liability for eligible filers. Because the federal EITC is fully

refundable, if the amount of the credit exceeds the filer’s tax liability, the filer receives

the difference in the form of a tax refund.

Primary Goals of the Federal EITC Include:

• Increase the rewards of paid work.

• Reduce poverty.

History

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Federal EITC Was Claimed on Nearly 28 Million Income

Tax Returns . . .• Just over 3 million of these were in California.

. . . For a Value of $64 Billion in Total Credits

• Roughly $7 billion in federal EITC was received by filers in California.

• Of this total amount, about 15 percent offset income tax liability,

while the remaining 85 percent was disbursed in the form of tax

refunds.

History

Tax Year 2012

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Basic Structure of the Federal EITC

Credit Amount, Single Filer With Two Dependent Children, 2014 Tax Year

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Federal EITC Benefit Schedule

Credit Amount for Single Filers, 2014 Tax Year

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Work Participation Decisions Are Affected by Earnings, Taxes, and Public

Assistance• As an individual increases work participation, they receive additional earnings, which add

to the total resources available to the individual to meet basic needs.

• As earnings increase, taxes increase, which reduce the individual’s available resources.

At the same time, tax credits become available, which can increase available resources.

• If the individual receives public assistance, these benefits generally phase out as

earnings increase. This reduces the individual’s available resources.

• Conceptually, an individual will make decisions about whether and how much to work

based on how these decisions affect the total amount of available resources, an

individual will receive, after accounting for earnings, taxes, and public assistance

benefits.

Federal EITC Affects Work Incentives

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Employment Opportunity

IS NOT Taken…

Employment Opportunity

IS Taken… DifferenceEarnings — $900 $900

Income and payroll taxes — -77 -77

Federal additional CTC — 98 98

Federal EITC — 360 360

CalWORKs cash assistance $704 367 -337

CalFresh food assistance 493 379 -114

Total Available Resources $1,197 $2,027 $830


For example, if an unemployed single parent with two children that received public assistance was considering an employment opportunity that would pay $900 per month in wages (roughly 20 hours per week at $10 per hour)…

CTC = Child Tax Credit and EITC = Earned Income Tax Credit.

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Federal EITC Directly Reduces Poverty by Providing Resources to

Low-Income Households

• We estimate that in 2012, roughly 10 million Californians were in a household that benefitted from

the federal EITC. Of these, we estimate that the federal EITC kept roughly 750,000 above the

poverty threshold, as defined by the U.S. Census Bureau’s Research Supplemental Poverty

Measure (SPM).

Federal EITC Encourages Work Among Single Parents,

Slightly Discourages Work Among Second Earners

• Increased work participation is particularly prominent among relatively low-earning workers and

those who have low initial skill levels.

Federal EITC Linked to Improved Child Educational and

Health Outcomes

Does the Program Work?

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State-Level EITCs

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For the 2014 Tax Year . . .• 25 states and the District of Columbia had EITC provisions

in their own income tax laws.

• All but two “piggybacked” on the federal EITC by matching a specified percentage, ranging from 3.5 percent to 40 percent, of the federal EITC.

• All but four state EITCs were fully refundable.

• Two states had EITCs in law but that were not in effect.

Most State EITCs “Piggyback” on Federal EITC

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Options for a California EITC

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Possible Policy Goals for a State EITC Might

Include . . .

• Encouraging work.

• Supplementing resources of working families at specific

income levels.

• Filling in perceived gaps in the federal EITC (such as a

relatively low benefit for filers with no dependents).

• Potentially all of the above.

Possible Policy Goals

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Key Decision Points in Designing a State EITC Include . . .• Relationship to federal credit—to piggyback or not?• Will the credit be refundable or not?• What total level of funding (in the form of lost tax

revenues) will be dedicated?• What specific populations will be targeted?

Key Decision Points in Designing a State EITC

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Option 1: Piggyback on Federal Credit

Option 1 would piggyback on the federal EITC and would have a value equal to 15 percent of the federal credit.

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Poverty Reduction• Had Option 1 been available in 2012, we estimate that roughly 10 million individuals would have been in

households that would have benefitted. Of these, roughly 125,000 would have been moved above the SPM

poverty threshold.

Changes to Work Incentives• Option 1 would increase incentives both to move from no work, to part- or full-time work and to move from

part-time work to full-time work.

Administrative Costs• The Franchise Tax Board (FTB) estimates that annual administrative costs for Option 1 would be roughly

$20 million.

Revenue Loss• Had Option 1 been available in 2012, we estimate that the state’s personal income tax revenues would have

been reduced by roughly $1 billion.


Criteria for Comparison

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Option 2: Focus on Working Families With Lowest Incomes

Option 2 would match the federal EITC for filers with very low incomes (generally less than 70 percent of the federal poverty level) up to a certain level of earnings and then phase out before the earnings level at which the maximum federal EITC is reached.

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Poverty Reduction

• Had Option 2 been available in 2012, we estimate that roughly 2.7 million individuals would have been

in households that would have benefitted. Of these, roughly 45,000 would have been moved above

the SPM poverty threshold.

Changes to Work Incentives

• Option 2 would greatly increase the incentive to move from no work to part-time work, but would

reduce incentives to move from part-time to full-time work. Option 2 would not affect incentives to move

from no work to full-time work.

Administrative Costs

• The FTB estimates that annual administrative costs for Option 2 would be roughly $7 million.

Revenue Loss

• Had Option 2 been available in 2012, we estimate that the state’s personal income tax revenues would

have been reduced by roughly $450 million.



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Option 3: Supplement Federal Credit for Childless Adults

Option 3 would match the amount of the federal EITC for filers with no dependents such that the combined state and federal EITC would be double the federal EITC and the range of earnings over which such filers could claim the state credit would be extended.

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Poverty Reduction

• Had Option 3 been available in 2012, we estimate that roughly 3.2 million individuals would have been in

households that would have benefitted. Of these, roughly 21,000 would have been moved above the

SPM poverty threshold.

Changes to Work Incentives

• Like Option 2, Option 3 would increase the incentive to move from no work to part-time work, but would

reduce incentives to move from part-time to full-time work. Option 3 would not affect incentives to move

from no work to full-time work.

Administrative Costs

• The FTB estimates that annual administrative costs for Option 3 would be roughly $14 million.

Revenue Loss

• Had Option 3 been available in 2012, we estimate that the state’s personal income tax revenues would

have been reduced by roughly $400 million.



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Addressing Issues With Improper Payments• The Internal Revenue Service (IRS) estimates that, in 2013, the rate of

federal EITC overpayments was between 22 percent and 26 percent.

Should the state enact an EITC, it would want to consider strategies to

minimize the risk of improper payments in the state EITC.

Considering Outreach to Maximize Take-Up

• The IRS also estimates that, in 2010, only 71 percent of California tax filers

that qualified for the federal EITC claimed it. Should the state enact an

EITC, it may wish to consider strategies to promote participation and

maximize the effects of both federal and state EITCs.


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lao.ca.gov

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Appendix

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Changes in Work Incentives: DetailsFor a Single Filer With Two Dependent Children

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Poverty Reduction: DetailsPoverty Impacts in 2012

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Poverty Reduction: DetailsPoverty Impact in 2012

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Poverty Reduction: DetailsPoverty Impact in 2012

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Changes in Work Incentives: DetailsFor a Single Filer With No Dependent Children

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Summary of LAO Options

Legislative Analyst’s Office Presented to: Ryan Woolsey, Fiscal and Policy Analyst CSDA/CWDA...

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