Tax Fairness and Simplification for
the Working Poor
Presentation to President’s Advisory Panel on Federal Tax Reform
New Orleans, March 23, 2005
Mark Moreau
Low-Income Taxpayer Clinic
Southeast Louisiana Legal Services
Earned Income Credit Complexities
• 2004 Major Reforms greatly simplified EITC
• Remaining problems: Amount of Credit and
Differing Treatment
– Married filing separate
– Head of household
– Earned income and AGI definitions for community
property states
– Joint and shared custody
– Lawsuit recoveries (problem not limited to EITC)
2
Is the Earned Income Credit
Sufficient?
•
•
•
•
Reduces poverty
Do all workers escape poverty?
Who is left behind?
“Official” poverty does not measure real poverty
– “Official” poverty threshold understates poverty standard should be about 45% higher
– Upper EIC income limit is about 183% of poverty for
family of 4
– 200% poverty needed for life’s basic necessities
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Minimum wage workers have different
poverty results after the EIC
Left below “official” poverty threshold:
Wages
Married, but separated
(domestic violence
victim), 2 kids
$9,888
EIC
$0
% of
Poverty
Threshold
61%
Married parents, 2 kids $9,888 $3,950
71%
Single mom, 2 kids
86%
$9,888 $3,950
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Above “official” poverty threshold:
Wages
Single parent, no kids
$9,888
% of
Poverty
EIC
Threshold
$134
102%
Married parents (both fulltime workers), 2 kids
$19,776 $3,303
126%
Unwed parents, both fulltime workers, 2 kids,
Split 2-0 or 1-1
$19,776 $3,950
122%
$5,208
129%
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EIC Problems in Community Property
States
• Each spouse must include one-half of other spouse’s
income in her income
– Amount is included in AGI for EIC phase out, but it does NOT
count as “earned income” for EIC calculation
• Example 1: Wife makes $20,000, Husband makes
$50,000
– Wife’s AGI is $35,000--$10,000 plus $25,000
– Wife ineligible for Earned Income Credit—loses $3,000 plus
• Example 2: Wife makes $10,000, Husband makes
$40,000
– Wife’s AGI is $25,000, but her “earned income” (and real
income) is only $10,000
– As a result, wife loses $2,023 of her EIC refund - This reduces
her income to $11,987 or 74% of poverty
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Domestic Violence -- Leading Cause of
Female Poverty
• Many don’t get EIC when they need it.
• No EIC if they left spouse after July 1
• Also, victims in 9 states (30% of US population)
•
lose EIC unless divorced by December 31
Victims in other states may lose EIC if they can’t
qualify for head of household
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Tax Code Wipes Out Lawsuit
Recoveries
• Assume taxpayer with $14,000 wages that wins
a modest consumer case, $3,000 damages and
$7,000 attorney fees
– Adds $10,000 to income even though never received
the attorney fees and can’t deduct them
– Result: The $3,000 recovery is taxed at a 56% rate
• American Jobs Creation Act of 2004—a partial fix
of problem
– Fixed the problems created by attorney fees for civil
rights cases
– But, did not fix the problems for consumer protection
lawsuits and certain other lawsuits
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Perceptions of Tax Unfairness
• Earned Income Credits drained by the “system”
1. Tax return preparation fees
2. Refund anticipation loans
3. Seizure of refunds by creditors in some states
(federal law could exempt)
4. Difficult audit process by IRS
• The major complaint from working poor is:
The difficulty of the IRS correspondence audit
procedures
–IRS procedure does NOT work for this low-income
population
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Can the Earned Income Credit be
Simplified?
• Yes, it already has been
• Possible reform: Consolidate various deductions
and credits into one unified credit
– Head of household and dependency exemptions are
complex and irrelevant to many taxpayers under EIC
income limits
• Can low-income taxpayers do their own returns?
– Maybe, but there are serious functional literacy
problems
– I-CAN tax return software has been successful
(written in 5th grade English)
– 98% of users find I-CAN easy to use
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