Key Points
- While we should always want to reduce hardship, there are better and worse ways to lower poverty. Antipoverty policy should focus on not just the short term but expanding opportunity.
- Federal tax policy can help working- and middle-class families facing financial constraints that limit their ability to raise children and balance work and family. But fewer families are hindered by these constraints than is often imagined. Furthermore, efforts to help two-parent, one-worker families must take care not to encourage one-parent, no-worker families.
- This report proposes paid-for reforms to the earned income tax credit and child tax credit that would promote work and marriage, better target tax relief to working- and middle-class families, and provide an unprecedentedly generous nest egg for children from low-income families if they adhere to success sequence milestones as young adults.
Executive Summary
Recent policy proposals using tax credits to help families with children have been flawed in two important respects. First, while we should always want to reduce hardship, reducing short-term poverty through unconditional cash transfers can come at the expense of expanding opportunity if those transfers incentivize behaviors that will impede children’s upward mobility. Second, the extent to which financial constraints limit families’ ability to have children and balance work and family has been overstated.
This report proposes three reforms related to ongoing tax credit debates, intended to refocus the conversation toward expanding low-income children’s opportunity and providing targeted support to working- and middle-class families. While the three reforms could be pursued individually, they are intended to complement each other.
First, the earned income tax credit (EITC) would be made more generous for married parents, especially for a married couple’s first child. This expansion would not come at the expense of single parents but would significantly increase the payoff to delaying childbearing until after marriage.
Second, a compromise would be struck among the versions of the child tax credit (CTC) that existed before the Tax Cuts and Jobs Act (TCJA), between the enactment of that law and the American Rescue Plan Act (ARPA), and since the latter. The maximum CTC would be $3,000 (greater than under the TCJA but smaller than the benefit for younger children under ARPA). The ARPA extension of the credit to 17-year-olds would be retained. The phase-in that was replaced by ARPA’s full refundability for lower-income families would be reinstated. And the limiting of the credit to working- and middle-class families that existed before the TCJA would be reinstated. These reforms would create a generous CTC that would be more targeted to working- and middle-class families than either the TCJA or ARPA versions are.
Third, while lower-income families made newly eligible for the full CTC under ARPA would again face the work requirement and phase-in from the TCJA, their children would receive annual federal contributions to a “success sequence savings account”—a baby bond—for $3,000 less their CTC. Young adults who have graduated from high school initially could use the funds for postsecondary education or training or toward a wedding. They could use the funds for other wealth-building purposes after accumulating a history of employment and of avoiding nonmarital parenting. Adults who do not achieve the thresholds could pass along some of their funds to their own children’s accounts. By coupling baby bonds to the success sequence, the proposal would encourage parents and children to work toward pro-mobility life plans, provide them resources to pursue those plans, and target those resources to asset-building purposes that would advance them.
These proposals would cost $850 billion over 10 years relative to current law and would be fully paid for by eliminating the state and local tax deduction and the Federal Pell Grant Program. Relative to extending the TCJA and ARPA expansions of the CTC and EITC, the proposal would save $650 billion. These estimates hinge on uncertain assumptions about the magnitude and timing of outlays for the baby bond program. The combined CTC and EITC reforms would cost $570 billion relative to current law and would save $930 billion relative to current policy. The baby bond program would constitute a true investment in American human capital that would pay off in the long run with greater tax revenue and reduced safety-net spending.
Introduction
The War on Poverty—especially poverty among children—should be never-ending. We should always want to reduce hardship below prevailing levels. However, there are better and worse ways to lower poverty. Policies that promote economic growth, raise wages, increase employment, and encourage marriage will tend to have more beneficial spillover effects than will simply transferring money from the US Treasury to families. Reducing short-term poverty through unconditional cash transfers can come at the expense of reducing what might be called “entrenched poverty”—long-term deficits of not only material resources but also opportunity and social capital, with those afflicted often geographically concentrated.1
Recent policy debates around tax credits to help families with children have focused too shortsightedly on the near-term goal of moving more families’ incomes modestly above an arbitrary poverty line. In fact, the nation has made great progress, largely unrecognized, in reducing child poverty.2 Policy debates have marginalized the more ambitious and important goals of expanding child opportunity and upward mobility. They have proceeded as if child poverty were simply a matter of spending enough and as if the way to expand opportunity is simply to reduce poverty.
If those premises are true, it is difficult to explain why intergenerational mobility out of poverty has failed to increase over the past half century even as the child poverty rate is at an all-time low and has fallen from over 20 percent in the early 1960s to around 5 percent today.3 The answer, in part, is likely that while safety-net benefits reduce point-in-time hardship, they often may actually exacerbate intergenerational immobility.4 This could happen through perverse incentives that discourage work, marriage, saving, and human capital investment.5 The geographic concentration of poverty also concentrates these incentives, affecting children’s experiences and aspirations. Reforms to tax credits should promote choices that facilitate upward mobility and the building of social capital: employment, marriage, child investment, and life planning.
Other reforms to tax credits have focused on the need to help families afford to raise their desired number of children and support parents who want to care for their children at home rather than engage in paid work. Too often, however, these proposals fail to recognize the tension between helping one-worker, married-parent families and encouraging no-worker, single-parent families.
They also minimize these trade-offs by assuming that financial difficulties are more prevalent higher up the income scale than they are. The evidence indicates, for instance, that millennial women have been no less able to meet their fertility goals than were baby boomers.6 Fertility has declined over the long run, but this has largely reflected preferences for fewer children. More recent fertility declines are primarily attributable to declines in unintended pregnancy.7 Work-family balance has become more difficult, but this is largely a function of increasing preference for work among women.8
While the problem of family affordability has been overstated, many families are constrained by their finances from having children, having more children, or working less to spend more time raising them. Tax credit reforms to support child-rearing should be better targeted to these working- and middleclass families.
Such targeting is especially crucial given the unprecedentedly negative fiscal outlook the federal government faces. The Congressional Budget Office projected, before passage of the American Rescue Plan Act (ARPA), that federal debt held by the public would hit an all-time high in 2031, reaching 107 percent of gross domestic product (GDP).9 By 2051, it will be 202 percent of GDP. ARPA is anticipated to add another $1.9 trillion to federal deficits over the next 10 years.10
This fiscal reality limits our ability not only to provide financially comfortable families with help raising their children but also to reduce poverty through transfers. Both deficits and higher taxes run the risk of slowing economic growth, hurting everyone. New spending on children should, when possible, take the form of investments in human capital that will pay off down the road.
This report proposes three reforms to improve the way the earned income tax credit (EITC) and child tax credit (CTC) affect low-income, working-class, and middle-class families. It recommends that policymakers:
- Increase the generosity of the EITC for married parents, particularly for a married couple’s first child;
- Phase in the CTC as income rises, in line with the Tax Cuts and Jobs Act (TCJA) reforms, but increase the maximum credit amount from the TCJA’s $2,000 to $3,000 and extend it to 17-year-olds while phasing the credit out in line with pre-TCJA policy; and
- Create new baby bond accounts, with annual federal contributions to lower-income families equal to the difference between $3,000 and a child’s CTC. The administration of the baby bond accounts and the eventual use of the funds would be tied to the philosophy of following the “success sequence”—graduating from high school, avoiding early single parenthood, and building a stable work history.
The EITC and CTC reforms would be at least as generous for single and married parents at all but the highest income levels as policy was before the ARPA expansions. The combined EITC and CTC benefit for a married couple with one child and earning $40,000 would be higher by $5,700, while the benefit would be $520 higher for a single parent with one child and earning $30,000. Adding the baby bond contribution, compared with pre-ARPA policy, the benefit would be $1,000 higher for the single parent versus $5,800 higher for the married couple.
Overall, the EITC and CTC reforms would provide the biggest boost to families with income between $25,000 and $60,000, especially those with married parents, while the baby bonds would significantly increase benefits for those below $25,000, including single parents. The impact would be to add substantial marriage incentives to the work incentives embedded in the tax credits and increase those work incentives modestly.
Meanwhile, the baby bonds, which would accrue in “success sequence savings accounts” (SSSAs), would provide an unprecedentedly large nest egg for young adults from low-income families that adhere to success sequence benchmarks. These funds could be used for various wealth-building purposes or a wedding. The baby bonds would thereby provide incentives for low-income parents and children to work toward pro-mobility life plans. They would also produce budgetary benefits in the long run in the form of greater tax revenue and lower safety-net spending.
The policy reforms proposed here would cost more than current law, as the ARPA expansions of the credits expire after this year and the TCJA expansions expire after 2025. However, the proposals would be less expensive than simply extending the TCJA and ARPA expansions would be. The EITC schedules for childless workers would revert to pre-ARPA levels. Apart from the maximum credit value, CTC parameters would also mostly revert to pre-ARPA levels, except that the credit phaseout would revert to its less-expensive rate from before TCJA.
These reforms are estimated to cost $850 billion over 10 years relative to current law. When using a baseline that assumes the TCJA provisions become permanent, the cost would be more like $300 billion, and spending would be lower by $650 billion when using a baseline that assumes the ARPA expansions also become permanent. The greater cost of these reforms relative to current law would be more than paid for by eliminating the state and local tax deduction and the Federal Pell Grant Program.
