Paul L. Caron

Monday, September 7, 2015

Labor Day, The Minimum Wage, And The Earned Income Tax Credit

Labor Day 2Joe Kristan (Tax Update Blog), Labor Day and the Earned Income Tax Credit:

[Y]ou may want to ponder the hot “labor” issue of the moment — the minimum wage and its alternatives. ... Many economists argue that an increased Earned Income Tax Credit is a better way to support the working poor.   For example, in The minimum wage versus the earned income tax credit for reducing poverty, Cornell University economist Richard V. Burkhauser states:

Introducing or increasing a minimum wage is a common policy measure aimed at reducing poverty. But the minimum wage is unlikely to achieve this goal. While a minimum wage hike will increase the wage earnings of some poor families and lift them out of poverty, some workers will lose their jobs, pushing their families into poverty. In contrast, improving the earned income tax credit can provide the same income transfers to the working poor at far lower cost. Earned income tax credits effectively raise the hourly wages only of workers in low- and moderate-income families, while increasing labor force participation and employment in those families.

The argument for a perfect earned income tax credit is compelling, but the credit is far from perfect. It is estimated that around 25% of the Earned Income tax credit paid out is paid improperly, including billions in fraud. Earned income tax credit fraud is a big part of the business of corrupt preparers. Many other taxpayers who could properly claim it fail to because of its complexity.

Even if the waste and fraud problem could be solved or overlooked, a properly-functioning EITC is still a poverty trap. The credit phases out as incomes rise, creating a high effective marginal tax rate on each additional dollar earned by a low-income family. It provides help at low income levels, but it discourages improving those income levels.

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Any welfare program that aims to be both generous and affordable will create this poverty trap. That's the math.

Posted by: AMT buff | Sep 8, 2015 2:34:21 PM