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A Cheat Sheet for the Child Tax Credit Options

Posted on Feb. 22, 2021

There are three competing proposals in Congress to deliver added tax benefits to a broad swath of families with children through the child tax credit. Reducing childhood poverty is an important policy priority cited for these proposals.

Positioning the child tax credit as the centerpiece of childhood poverty alleviation efforts by the federal government represents a major change in the conception of the credit — a change with implications for both its design and longer-term prospects. Reformatting the credit to make its benefits available monthly would also come with substantial administrative challenges.

All three proposals — the American Family Act of 2021, the budget reconciliation proposal from House Ways and Means Committee Democrats, and the Family Security Act framework from Sen. Mitt Romney, R-Utah — want to enlarge the benefit amount of the credit, make it fully refundable, and have it delivered monthly. An expanded and fully refundable child tax credit would provide financial assistance to children living in poverty, but all the proposals cast a much wider net than poverty alleviation because the credit wasn’t originally designed to accomplish that important goal, and making it better fit that objective could undo its underlying purpose.

The child tax credit has essentially always been a recognition in the tax law that households with children are less able to pay taxes than households not raising children. It has never before been considered an antidote to childhood poverty that also happens to accrue to households with higher incomes. Congress has considered straying from the ability-to-pay premise many times since the credit’s inception in 1997, but it hasn’t done so yet. It’s possible to retain the conception of the child tax credit as a leveling mechanism and make it fully refundable without casting it as a central anti-poverty measure, which would pose a risk to existing anti-poverty measures.

The proposals to deliver the benefit monthly include a non-trivial administrative problem. As a practical matter, the IRS has only scant experience in administering programs like this, and the perhaps most relevant recent experiment in monthly benefits — the advance earned income tax credit — involved far fewer taxpayers than the expanded child tax credit (Michelle Lyon Drumbl, Tax Credits for the Working Poor 36-42 (2019)). That would mean the IRS, in conjunction with the Social Security Administration for the Family Security Act, would need time to adjust to the new program. With the notable exception of the economic impact payments last year, it hasn’t historically been the IRS’s job to distribute benefit-type payments on a scale envisioned in the current child tax credit proposals.

A Brief History

The Taxpayer Relief Act of 1997 was the vehicle through which the child tax credit entered the tax code. It was enacted following years of study by groups such as the National Commission on Children and multiple competing proposals.

The Joint Committee on Taxation explained that Congress created the credit because it believed that “the individual income tax structure does not reduce tax liability by enough to reflect a family’s reduced ability to pay taxes as family size increases” (JCS-23-97). The value of the dependent personal exemption had declined in real terms by over one-third, the JCT noted. Therefore, the credit was designed to reduce the income tax burden on families and “better recognize the financial responsibilities of raising dependent children.”

The development of the first child tax credit took place against the backdrop of a National Commission on Children report released in 1991, which advocated a $1,000 refundable child tax credit and elimination of the personal exemption for dependent children, and the 1994 Contract With America spearheaded by Newt Gingrich, which pledged a $500-per-child tax credit in the American Dream Restoration Act, as well as other nontax proposals directed to child and family welfare.

From the beginning, Congress struggled with the temptation to load the child tax credit with more targeted provisions addressing other concerns such as education savings and costs of care for working parents. The conference agreement illustrates this (H. Rept. 105-220). A Senate amendment made contributing the amount of the credit to an educational savings account for a child between ages 13 and 17 a condition of receiving it. The House version contained a provision that reduced the child tax credit by half of the dependent care credit for households with adjusted gross income exceeding a threshold.

The attempted intermingling of the child tax credit and education savings or the child and dependent care credits would have muddied the child tax credit’s apparent purpose. This conceptual struggle at the beginning has implications for the current proposals because the child tax credit that prevailed was the version that addressed one policy priority only — the decreased ability of a family with children to pay taxes.

More recently, the Tax Cuts and Jobs Act eliminated the personal and dependent exemption deductions starting in 2018 but, because of the persistence of Sen. Marco Rubio, R-Fla., doubled the child tax credit amount to $2,000 per child and made up to $1,400 of that refundable. The move to greater refundability didn’t alter the rationale for the credit.

The doubling of the child tax credit in the TCJA wasn’t a foregone conclusion — the original House bill would have raised it to $1,600 per child, with a $1,000 refundable portion plus a nonrefundable $300-per-person family tax credit for household members who don’t receive the child tax credit, and the Senate version would have raised it to $1,650 and included a nonrefundable credit of $500 for non-child dependents. (Prior coverage: Tax Notes, Jan. 1, 2018, p. 40.) The increase in the TCJA is also consistent with the ability-to-pay conception of the child tax credit, particularly when coupled with the dependent exemption change.

American Family Act of 2021

The American Family Act of 2021, from Reps. Rosa L. DeLauro, D-Conn., and Ritchie Torres, D-N.Y., and House Ways and Means Committee member Suzan K. DelBene, D-Wash., would eliminate the existing child tax credit and replace it with a fully refundable credit of up to $3,000 per child age 6 and up and $3,600 for children under age 6, to be paid in monthly installments.

The proposal would lower the income thresholds and phaseouts and reintroduce the disparity in eligibility based on income between married and individual taxpayers that the TCJA removed. The income thresholds for the credit would drop in 2026 because of the expiration date of the TCJA changes, but the American Family Act would change them immediately. It would also eliminate the TCJA’s requirement that taxpayers provide a Social Security number for children for whom the credit is claimed, reverting to prior law.

The American Family Act would remove the current child tax credit in section 24, as well as the portions of it that were retained but turned off until 2026, and put it back into the code in section 36C in a rewritten form. The credit was found in section 36C until the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act moved it to section 24. Moving the child tax credit out of section 24 would move it out of subpart A of the code, which is supposed to be “Nonrefundable Personal Credits,” and into subpart C, which is for “Refundable Credits.” This bit of housekeeping is probably a good idea, but it’s unclear why the child tax credit should be in section 36C when there’s no section 36A (that was formerly the Making Work Pay credit) and section 36B is the premium assistance credit.

Section 36 is the first-time homebuyer credit, which is deadwood at this point but could be revived later in some form if the Biden administration decides to make a push on its campaign tax plans. There isn’t much coherence in linking the child tax credit, the Making Work Pay credit, the premium assistance credit, and any iteration of the first-time homebuyer credits together through section 36 and its capital-letter successors — they serve different policy purposes. The drafters seem to have ended up with this numbering because there’s a logjam in the section numbers between 30 and 40 in title 26. Perhaps it’s time for Congress to consider moving the refundable credits elsewhere.

The mechanics of the American Family Act allow individual taxpayers with incomes up to $150,000 and married couples up to $200,000 to take the credit. The credit phases out at $130,000 for individuals and $180,000 for married couples filing jointly. The difference in income thresholds between individual and married couples filing jointly generally reflects the structure of the income thresholds in effect before the TCJA. In 2017 the phaseout began at $110,000 for joint returns and $75,000 for individuals. The TCJA raised the thresholds to $400,000 for joint returns and $200,000 for individuals, which eliminated the “penalty” for marriage, at least until 2025.

The purpose of the proposed — and previous — difference between how much income an individual parent and married parents can have and still receive the child tax credit is unclear. The structure might be intended to factor in economies of scale within the household, which would possibly indicate a greater ability to pay, but that’s not necessarily the case. Two unmarried parents in a household with a qualifying child could have the same economies of scale, with the exception perhaps of filing separate tax returns, as two married parents with a qualifying child, but the unmarried parents would be able to earn up to $150,000 each and one of them would still be eligible for a partial credit, while two married parents who each earn $150,000 would not.

The exception in the definition of qualifying child in proposed subsection 36C(c)(2) comes from prior enacted statutes and has been around since 1997, but the Treasury Inspector General for Tax Administration indicated in a 2011 report (2011-41-061) that the language is unclear. IRS management agreed with TIGTA’s recommendation to seek clarification, but the question hasn’t been resolved in published guidance. In moving ahead on expansion proposals, Congress has the opportunity to provide clear guidance to the IRS and taxpayers.

Romney’s Child Tax Credit

Romney announced on February 4 a framework called the Family Security Act that would revamp the child tax credit, but his approach has significant differences. He didn’t release statutory language with his proposal, which makes it more difficult to ascertain its exact limits and effects.

The plan is to consolidate policies Romney considers duplicative into the child tax credit. The programs and code provisions on the proposed chopping block aren’t necessarily duplicative, however. The Family Security Act’s proposal for a monthly child benefit would provide $350 per month for children up to age 6 and $250 per month for children between the ages of 6 and 17. The benefit would phase out at $200,000 in income for taxpayers filing single returns and $400,000 for joint return filers. The benefits would be paid out by the SSA, but the IRS would need to provide information to the SSA to help administer them and any overpayments or underpayments would be resolved through the tax return filing process. The plan would also amend the EITC to create a larger family benefit that doesn’t vary with the number of dependents.

The pay-fors in the Family Security Act framework are where the rubber meets the road budgetwise. The legislation is supposed to cost exactly as much as the current spending on the child tax credit and EITC. Offsets come from eliminating head of household filing status, the child and dependent care credit, the Temporary Assistance for Needy Families (TANF) program, and the state and local tax deduction. The proposal would also make changes to the Supplemental Nutrition Assistance Program’s categorical eligibility rules and revamp the EITC.

Congress is likely loath to remove the TANF program, and for good reason. That program provided assistance to about 944,000 families with a total of 1.6 million children in June 2020, up from about 882,000 families with more than 1.5 million children in pre-pandemic December 2019. Established in the Personal Responsibility and Work Opportunity Reconciliation Act of 1996, TANF provides grant funds to states. Eligibility is based on employment status, income, and parental status. Recipients must be unemployed or underemployed.

The benefits of the section 21 child and dependent care tax credit are largely felt at the other end of the income spectrum from those receiving TANF funds, but it’s unlikely to be repealed. That said, it’s probably a better candidate for repeal than TANF, particularly in the pandemic, because it doesn’t have the extensive reach of other tax benefits targeting families and it’s not a poverty alleviation measure.

According to a Congressional Research Service report, approximately 12 percent of taxpayers with children claim the child and dependent care tax credit. That means most don’t, perhaps because their children are over age 12 or because they don’t have paid child care. In 2018 more than 57 percent of the entire revenue cost of the child and dependent care tax credit was claimed by taxpayers with AGIs of $75,000 or more, and 44 percent of the revenue cost was claimed by taxpayers with AGIs exceeding $100,000. The median household income in 2018 was $61,937.

Eliminating the state and local tax deduction is key to the offset arithmetic because it weighs in at $25.2 billion out of the $66 billion needed in offsets. It isn’t a terrible idea, but it’s probably not feasible, as the furor over the TCJA’s $10,000 state and local tax deduction limit has shown.

Romney’s plan is for the SSA to distribute the payments, not the IRS, which is probably sensible. The competing proposals for monthly distributions put the IRS in charge, but the agency has rarely been tasked with distributing payments more frequently than annually, and never to the extent envisioned by any of the plans to alter the child tax credit. The IRS navigated the distribution of economic impact payments successfully given the circumstances, but that doesn’t mean it’s a good idea to ask it to make regular monthly payments to a huge number of households. At a minimum, the IRS would need more funding and probably about 18 months to prepare.

House Democrats’ Proposal

On February 8 Ways and Means Committee Chair Richard E. Neal, D-Mass., announced several measures for the budget reconciliation process intended to deliver pandemic relief. Among them was a proposal to increase the child tax credit to $3,000 per child over age 6 but under age 18 and $3,600 per child under age 6, as well as to make the credit fully refundable and paid in monthly installments. Another measure would expand the child and dependent care tax credit. Those proposals would be in effect only for 2021 unless Congress later extends them.

Like the American Family Act proposal, the Ways and Means plan would lower the phaseout levels far below the TCJA’s levels, but it would take them down even lower than the American Family Act. The threshold for joint returns would be $150,000, for head of household returns would be $112,500, and for other returns would be $75,000. Eligibility would be based on the taxpayer having a principal place of residence in the United States for over half the tax year, in accordance with the EITC rules.

Toward Expansion

The child tax credit is an imprecise tool for alleviating childhood poverty because its provisions are broader than is required for that specific and important objective. But even if the credit is not transformed into the chief anti-poverty antidote in the code, it is worth preserving as a general family support benefit. The cumulative effect of the pandemic fallout on U.S. families, from formation to number of children to finances, is as yet unclear, but the leading indicators are bleak. It’s therefore reasonable for Congress to expand the child tax credit in response to the pandemic, but it should focus its efforts on recognizing that the point of the credit is to reflect families’ ability to pay taxes.

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