Policy Basics: The Earned Income Tax Credit
January 20, 2015
The Earned Income Tax Credit (EITC) is a federal tax credit for low- and moderate-income working people. It encourages and rewards work as well as offsets federal payroll and income taxes. Twenty-six states, including the District of Columbia, have established their own EITCs to supplement the federal credit.
Who Is Eligible, and for How Much?
In the 2014 tax year, working families with children that have annual incomes below about $38,500 to $52,400 (depending on marital status and the number of dependent children) may be eligible for the federal EITC. Also, working-poor people without children that have incomes below about $14,600 ($20,000 for a married couple) can receive a very small EITC. In the 2013 tax year, the most recent year for which data are available, over 27 million working families and individuals received the EITC.
The amount of EITC depends on a recipient’s income, marital status, and number of children. As the figure shows, workers receive the credit beginning with their first dollar of earned income; the amount of the credit rises with earned income until it reaches a maximum level and then begins to phase out at higher income levels. The EITC is “refundable,” which means that if it exceeds a low-wage worker’s income tax liability, the IRS will refund the balance.
During the 2012 tax year, the average EITC was $2,982 for a family with children (boosting wages by about $249 a month), compared to just $277 for a family without children.
Research indicates that families mostly use the EITC to pay for necessities, repair homes, maintain vehicles that are needed to commute to work, and in some cases, obtain additional education or training to boost their employability and earning power.
Encouraging and Rewarding Work
The EITC is designed to encourage and reward work. As noted, a worker’s EITC grows with each additional dollar of earnings until reaching the maximum value. This creates an incentive for people to leave welfare for work and for low-wage workers to increase their work hours.
This incentive feature has made the EITC highly successful. Studies show that the EITC encourages large numbers of single parents to leave welfare for work, especially when the labor market is strong.
Specifically, a highly regarded study found that EITC expansions are the most important reason why employment rose among single mothers with children during the 1990s — the EITC was more effective in encouraging work than either welfare reform or the strong economy.
In 2013, the EITC lifted about 6.2 million people out of poverty, including about 3.2 million children. The number of poor children would have been one-quarter higher without the EITC. The credit reduced the severity of poverty for another 21.6 million people, including 7.8 million children. In combination with the Child Tax Credit, the EITC lifts even more families with children above poverty (see figure).
The EITC reduces poverty directly by supplementing the earnings of low-wage workers. There has been broad bipartisan agreement that a two-parent family with two children with a full-time, minimum-wage worker should not have to raise its children in poverty. At the federal minimum wage’s current level, such a family can move above the poverty line only if it receives the EITC as well as SNAP (food stamp) benefits.
Moving out of poverty is particularly important for young children. Research has found that lifting low-income families’ income when a child is young not only tends to improve a child’s immediate well-being, but is associated with better health, more schooling, more hours worked, and higher earnings in adulthood. A bourgeoning literature links EITC receipt to improved school performance and higher college attendance rates.
Strengthening the EITC
The 2009 Recovery Act temporarily expanded the EITC in two ways. First, it added a “third tier” of the EITC for families with more than two children. These larger families can now receive up to $672 more than they would have without this improvement. This addition recognizes that larger families face a higher cost of living and that families with more than two children are more likely than smaller families to be poor.
Second, the Recovery Act expanded marriage-penalty relief in the EITC, reducing the financial penalty some two-earner couples receive when they marry by allowing married couples to receive larger benefits at modestly higher income levels.
In 2013, these two expansions together lifted nearly 600,000 people out of poverty and reduced the severity of poverty for roughly 10 million poor people. Under the American Taxpayer Relief Act, enacted in January 2013, Congress extended these improvements through 2017.
In contrast to the EITC for families with children, the EITC for childless workers remains extremely small — too small even to fully offset federal taxes for workers at the poverty line. Under current law, a childless adult or noncustodial parent working full time at the minimum wage is ineligible for the EITC. (Such an individual would receive the maximum EITC if he or she had children.) As a result, low-wage workers not raising minor children are the sole group that the federal tax system taxes into or deeper into poverty.
For more on the EITC and Child Tax Credit, see “Earned Income Tax Credit Promotes Work, Encourages Children’s Success at School, Research Finds.”