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Six reasons why an expanded Child Tax Credit or child allowance should be part of the US safety net

Editor's Note:

This blog post is based on comments I made at an Institute for Research on Poverty webinar on August 27, 2021 on Tax Policy for Low Income Americans.

The Child Tax Credit has been part of the federal income tax code since 1997. It has been expanded many times, most recently as part of the American Rescue Plan. Under this plan, for the year 2021, the maximum Child Tax Credit amount is increased from $2,000 per child to $3,600 for children below the age of 6 and to $3,000 for children under age 18.  This credit amount is phased out at high levels of income in two steps. The increased credit is phased down to the previous credit amount starting at income of $112,500 for single parents and $150,000 for married parents; that reduced amount is then phased out completely, beginning at income of $200,000 for single parents and $400,000 for married parents. In addition to the increased credit amount and expanded range of qualifying income up the income distribution, for 2021, the credit is fully refundable. This means that parents receive the full credit amount, regardless of the amount of taxes they owe. This has the effect of extending the credit to families with no taxable income. These changes result in a child benefit, administered through the tax code, that is nearly universal and unconditional on parental work status.

House Democrats have proposed extending this expanded Child Tax Credit through 2025. Other policy makers have expressed reservations about this proposed extension, citing concerns about having a credit payment that is unconditional on work and on extending a payment to high income families. A consideration of the pros and cons of a nearly universal, unconditional child tax credit or benefit amount raises a host of issues. It is useful to consider these issues within the framework of the optimal design of a social safety net system. Within this broad framework, there are six specific points about the desirability of such a payment.

  1. We should have social insurance against child poverty.

In this country, we provide social insurance to people who find themselves in what economists call “the bad state of the world.” We have disability insurance for people who find themselves unable to work and earn a substantial amount of money in the labor market. We have unemployment insurance for people who lose their jobs. We have social security old age payments for people who live beyond their working years and are either no longer able to work or have not saved enough. This is social insurance against elderly poverty.

However, we have no social insurance for kids who—through no fault of their own—find themselves living in a home with material deprivation. I think if most of us were going to design a system of social insurance from behind a Rawlsian veil of ignorance—meaning, we were going to design a world that we’d like to be born into before knowing our place in that world—providing social insurance against child poverty would be the first type of social insurance we’d provide.

From the perspective of social insurance and a reasonable social welfare function, there is a strong case for a basic guarantee of income for kids and in particular social insurance against child poverty. (This is something I wrote about in an article for Brookings last October.)

  1. From the perspective of government spending as an investment, this would yield a positive social return.

Here I am implicitly equating a tax credit with a spending program. Conceptually they are the same. In practical administrative terms, they are not the same thing. There are practical challenges with running social policy through the tax code, but for the moment, I want to set those considerations aside and focus on the social return to government “spending”—whether that “spending” comes in the form of foregone tax revenue, tax credits, or an explicit spending program.

Spending on children, especially children from low-income homes, has a large social return. We have a lot of evidence showing that increasing the income and material resources of low-income families with children leads to better school performance, better child and maternal health outcomes, and better long run outcomes for children. We are vastly underinvesting in our nation’s children currently and a child allowance or expanded child tax credit would go some way toward rectifying that. (This is something Diane Schanzenbach and Hilary Hoynes and I highlighted in a piece we wrote for the Conversation earlier this year.)

The investment aspect for the Child Tax Credit is harder to make the further up the income distribution you go. The current expansion of the Child Tax Credit up the income distribution means many high-income families are receiving this additional income. We have very little evidence that supplementing the income of higher-income families has a positive social return, so you’d need to lean on other arguments to justify expansions up the income distribution.

I think there is a very compelling social investment case to be made for the anti-poverty aspects of the Child Tax Credit coming from the expansions in credit amounts to lower-income families. That case falls apart the father up the income distribution we go.

  1. Providing income assistance to children regardless of their parents’ work status would fill a hole in our current safety net.

To my mind, the key benefit of introducing an unconditional child allowance or child tax credit is because there is a gaping hole in our safety net. We don’t have any meaningful source of income support for kids whose parents don’t work and who don’t qualify for categorical income assistance, say, through a medical eligibility that qualifies them for Supplemental Security Income (SSI).

An unconditional child allowance or refundable child tax credit differs from a policy that conditions benefit or credit receipt on work, like the Earned Income Tax Credit (EITC) does. The EITC does two things—it supplements the wages of low-income workers and it also transfers money to families with children. These are two laudable goals, but they don’t have to be accomplished with the same program.

I like the idea of divorcing the supplementation of wages of low-income workers and transferring money to children. These policy goals can be separated so that kids whose parents have very low or no earnings are not left without government assistance. An unconditional child allowance or tax credit rightly fills in this gap in our safety net.

  1. A nearly universal child tax credit or allowance limits work disincentives.

On the one hand, as I’ve mentioned, there is little investment rationale for extending this type of benefit payment up the income distribution. On the other hand, a near universal design limits work disincentives. The usual work disincentives of transfer programs come from both substitution effects, which come from the fact that benefits are clawed back as people’s earnings income, which provides a disincentive to work, and income effects, by which people might choose to work less because they have more money.

A nearly universal child tax credit means that the credit is not clawed back as people earn more money (except at very high levels of earnings), so there is only an income effect. Those who worry about the work disincentives of transfer programs should find this design appealing. On net, we should expect to see less work reduction from this design than we would from a more typical transfer program design, like in the old Aid to Families with Dependent Children (AFDC) program.

  1. There is a case to be made for additional cash benefits to supplement existing in-kind program benefits.

There is a strong case to be made for providing more cash assistance to low-income families with children, supplementing our existing panoply of programs that provide health insurance, food and nutrition assistance, and limited housing assistance. (I would argue we need more housing assistance as well.) This would help families meet the different needs that they face, which arrive at unpredictable times, and are hard to meet with the various siloed programs that currently exist.

The criticism of this approach is that some worry that some parents will not spend money in ways that benefit kids. But we have good evidence from a variety of income shocks—things like EITC expansions, for example—that low-income children generally benefit from the additional income coming into the family. So even if there are some parents who might not spend the money in the ways that would most benefit their children all the time, in general, we can expect that the money will be spent in ways that improve children’s outcomes.

  1. This is just not that expensive relative to the likely social benefits.

The final point to make is about the fiscal costs of an expanded child tax credit. This is just not that expensive, relative to the benefits we will get from that government spending. Estimates suggest that the Child Tax Credit costs about $118 billion a year; the temporary Child Tax Credit expansions under the America Recovery Act are projected to cost about $105 billion a year.

Another option would be a child benefit or allowance (as opposed to a tax credit), something like what I proposed in a simple thought experiment I wrote up in a Brookings post last October. I noted that if we gave each child living in poverty the average Social Security benefit received by a Social Security recipient age 65 and over (about $17,000 per year), the rate of childhood poverty in this country would fall to less than one percent. If we gave each child living in poverty half the average Social Security benefit ($8,556 annually), the rate of childhood poverty in this country would fall to about 3 percent. The cost of this dramatic reduction in child poverty would cost $179 billion for the full benefit award and $90 billion a year for the half benefit award.

To put that money in perspective, let’s compare this to a Universal Basic Income (UBI), a policy idea that has gotten a lot of attention over the past couple of years. A UBI would guarantee a meaningful level of income to every adult in the United States. A payment of $10,000 per year to every US adult would cost $2.5 trillion.  Why are we even having that conversation when we could essentially eradicate child poverty in this country for $180 billion? Even if we reduced the UBI award to be $10,000 a year to adults who make less than $20,000 and then phased out at 30 percent, it would still cost $1.5 trillion per year. A targeted child allowance would cost a fraction of that, and constitute an investment in the next generation.

To conclude, for these main six reasons, an unconditional child tax credit or a child allowance fits into a well-designed social safety net in our country.

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