Suffer the Little Children (To Give Tax Credits to Wealthy Families)

In President Bush’s press conference of November 4, 2004, our fearless leader stated that, “We must reform our complicated and outdated tax code.” And reform it the government has certainly done. The Oxford English Dictionary suggests a wide range of possible definitions of the word “reform.” The two most relevant to this year’s changes in the tax code are: (a) “To make a change for the better in (an arrangement, state of things, practice or proceeding, institution, etc.); to amend or improve by removal of faults or abuses,” and (b) “ironically: to alter to a worse state.” Which kind of “reform,” then, has been made to the tax code?

A Wall Street Journal article by Tom Herman (published on March 1; available in non-expensive online format here) suggests that, at least with respect to the definition of children for purposes of various tax credits, the reform in question was of the making-everything-worse variety. Evidently, the current tax code provides a uniform definition of “child” for a variety of different purposes — whereas past codes used different definitions for each purpose.

This seems like a move toward simplicity and, perhaps, fairness. Until the actual definition is read, and some consequences of it are considered. Evidently, your child is anyone who is your:

son, daughter, stepchild, eligible foster child, brother, sister, half brother, half sister, stepbrother, stepsister or a descendant of any of them. The child must be under age 19 at the end of the year, or under 24 at the end of the year and a full-time student — or any age if permanently and totally disabled. The child must have lived with you more than half the year (although there are some exceptions, such as children who were born or died during the year). The child must not have provided more than half of his or her own support for the year.

One consequence of this rather counterintuitive definition of a child is that some wealthy families are now able to qualify for the Earned-Income Tax Credit and other exemptions designed for poor families. The Wall Street Journal article gives the following example:

A couple with two children living at home — a 14-year-old daughter and a 22-year-old son — file a joint return with adjusted gross income of $400,000. At that level of income, the parents don’t get any tax benefit from claiming the daughter as a dependent. On the other hand, the son, who has $15,000 in wages and isn’t a full-time student, can claim his sister, enabling him to receive the child-tax credit and earned-income tax credit. Assuming he had no tax withheld, this turns what would have been a balance due of $683 on his return to a federal income-tax refund of $3,158.

I don’t enjoy paying taxes any more than anyone else does, and I feel a certain temptation to say, “Good for the aimless live-at-home 22-year-old!” After all, this tax trick really feels like getting away with something. But in financial discussions, one person’s windfall gain is almost always another’s windfall loss. (Or, translated into cliche, “You can’t get something for nothing. There’s no such thing as a free lunch. Somebody’s got to pay the piper.”) In this case, one set of victims includes some of the poor families for whom the EITC and other tax breaks for children were invented in the first place. A second scenario discussed in the article is as follows:

A 20-year-old woman who works at a minimum-wage job and attends school full time is the legal guardian of her 15-year-old brother. Because of complex rules in the new tax law, the woman can’t claim her younger brother for the earned-income tax credit, even though she would have been able to do so under the old tax law.

So, in effect, this year’s tax code changes have surreptitiously transferred tax credits from some profoundly needy families to other, remarkably affluent households. This set of changes, in conjunction with the other tax cuts passed with rather more fanfare over the last five years, suggests to me that the Book of Mormon has become sadly out of date with modern American morality. Let me conclude with a quotation from chapter 4 of Mosiah, taken from the George W. Bush translation:

And also, ye yourselves will succor those that stand in no need of your succor; ye will administer of your substance unto him that standeth in abundance; and ye will not suffer that the wealthy person putteth up his petition to you in vain, and turn him out to spend his own money. Perhaps thou shalt say: The man has brought upon himself his affluence; therefore I will stay my hand, and will not give unto him of my food, nor impart unto him of my substance that he may not suffer from high taxes, for his tax rate is just–but I say unto you, O man, whosoever doeth this the same hath great cause to repent; and except he repenteth of that which he hath done he perisheth forever, and hath no interest in the kingdom of God…. And now, for the sake of these things which I have spoken unto you–that is, for the sake of retaining a remission of your sins from day to day, that ye may walk guiltless before God–I would that ye should impart of your substance to the rich, every man according to that which he lacks, such as feeding the foodies, clothing the fashion models, visiting the famous and administering to their egos, both spiritually and temporally, according to their wants.

Comments

  1. Try being a non-resident alien grad student with kids. I’m not allowed to claim a tax credit for my children and end up paying tax (on my measly stipend) as a single person. Boo hoo. Sucks to be an alien.

  2. Ronan, complain not. Freedom and democracy are on the march in Iraq b/c of your tax money. You have given more to those people through your meager contributions than any tithing would ever accomplish.

  3. But Anon, wasn’t American democracy founded on the principle of “no taxation without representation?” I pay taxes to Uncle Sam, but where is my representation on Iraq? Ah, I forget, Tony Blair has the ear of the President at all times. I shall air my grievances with No. 10, then.

    (Sorry, RT, press on: great post!)

  4. Ronan, George Washington as you may recall was the only President to lead (as physically present) an army designed to put down a rebellion over just that point.

  5. Veritas says:

    I’m not a tax expert, but didn’t something similar happen in regards to estate taxes, in effect allowing the wealthy families of the world (think Rockefellar) to keep getting wealthier (or regressing a hundred years or so. Maybe someone knows more about this.

    (I’m excercising great self restraint to not responds Anon’s post and turn this ugly, lol)

  6. Ghost of John Lennon says:

    “Freedom and democracy are on the march in Iraq “–Oh is THAT what is on the march in Iraq. I thougt it was sectarian revolutionaries and well-armed insurgents.

  7. Last Lemming says:

    Feeling vaguely unclean as I do so, I must rise to the defense of the administration. This was not a surreptitious transfer, but a simple failure to anticipate consequences. As the article points out at the end:

    “The Bush administration proposed a cure as part of its fiscal 2007 budget.”

    Now that cure may get lost in all of the gamesmanship that will inevitably surround this year’s tax bill. In fact, no tax bill at all might be preferable to one that fixes this problem, but includes the rest of the administration’s wish list. (The badly-needed AMT patch makes this a close call). But the problem will almost certainly be fixed within the next two years.

  8. Ronan, I’m sorry for your pain.

    Anon, Ronan, and Ghost of John Lennon, for those about to debate Iraq, I salute you. I’m going to abstain, however.

    Veritas, yes, cuts in estate taxes (helpfully renamed “the death tax”) were an early part of the Bush agenda. As many people don’t realize, these taxes only applied to quite affluent estates. So eliminating them was a tax cut only for the heirs of the very wealthy. In general, as is now clear, the Bush tax cuts have gone overwhelmingly to the most affluent Americans, leaving the working class, the middle class, and the lower half of the upper class relatively untouched. I guess that’s democracy for you…

    Last Lemming, you’re right that this has been described as a mistake and that the administration has mentioned wanting to fix it. Furthermore, one should never underestimate the importance of incompetence in politics. On the other hand, those kinds of statements also provide plausible deniability — another factor whose importance in politics can only be underestimated at great risk. I’m skeptical enough that the Bush administration’s past record on tax cuts sways my interpretation toward imagining that this might have been deliberate. Looking forward, I think that the administration’s behavior with respect to the issue should probably be the deciding factor. If the administration actually follows through on fixing this, making it enough of a political priority for it to actually happen, then the best guess will be that it was indeed a mistake. If, on the other hand, that promise simply goes away, then the safest interpretation is that this was in fact a sneaky tax break for some wealthy families.

  9. Robert Durtschi says:

    >>these taxes only applied to quite affluent estates.

    Unfortunately with prices being what they are “quite affluent” often comes to mean the family farm or family business. Had my wife’s family scrambling to cover estate taxes for ProBiotics, a pharmaceutical company small enough that you’ve probably never heard of it, but the IRS has.

  10. Anonymous says:

    Are you trying to say that our tax code is actually so complicated that even the most straight forward changes have counter-intuitive, unforeseen consequences? That’s an outrageous!

    Listen, I just got my taxes completed for 2004 (not a typo; 2004) My tax return is thicker than most victorian novels. Between my tax attorney and my accountant, I spend more money on having my taxes prepared than the largest conceivable tax-credit triggered by the setup you cite. So who’s really getting screwed by the government?

    My solution: nix the federal income tax (it’s only about 100 years old anyway) by repealing the 16th amendment and put the purse strings back in the hands of state governments. The federal government has the ability to require money from the states, and the states could collect it however they saw fit. That way, I could decide for myself which tax regime I wanted to live under–they say that federalism is the only objective guarantor of civil rights, so lets use it that way for a change.

  11. Julie in Austin says:

    I’m not clear why, in the second example, the woman can’t claim her brother?

    Anyway, I think the code is unfair. Because we pay tithing, have a newish mortgage, and three kids, we pay about 200$/yr in federal taxes on a very comfortable middle class income. Doesn’t quite seem right.

  12. We got a significant tax break this year because my older son is a full-time student in (get this) the “Gulf Opportunity Zone.” Yes indeedy, the parts of town that weren’t a-washed into the Gulf of Mexico and Lake Pontchartrain are awash with opportunity.

  13. Last Lemming says:

    I’m skeptical enough that the Bush administration’s past record on tax cuts sways my interpretation toward imagining that this might have been deliberate.

    Time will tell. But my sense is that when the Bush administration wants to cut taxes for the rich, they feel no need to be surreptitious about it.

    Robert Durtschi said:
    “quite affluent” often comes to mean the family farm or family business.

    According to a CBO study released in July, 2005:

    “In 2000, about 8 percent (or 138) of the estates of farmers who left enough assets to owe estate taxes faced a tax payment that exceeded their liquid assets, compared with about 5 percent of all estates that owed taxes. For estates claiming the QFOBI deduction [small businesses], the corresponding figure was about 34 percent (or 164 estates). Those numbers are upper bounds, however, because the definition of liquid assets used on estate tax returns excludes some money held in trusts, which could also be used to pay estate taxes.”

    That’s it, folks. 302 farms and small businesses in the whole country that faced liquidity problems because of the estate tax. And that was before the 2001 tax cut raised the exemption amount.

    For the full report, see

    http://www.cbo.gov/ftpdocs/65xx/doc6512/07-06-EstateTax.pdf

  14. cchrissyy says:

    Julie 12,
    do you really mean your annual tax paid was just 200, or did you send them a check just now for an extra 200 over what they’d withheld all year long?

  15. one should never underestimate the importance of incompetence in politics.

    Too true, too often.

    I’ll have to blog, sometime, about what is really going on in Iraq.

  16. Julie in Austin says:

    cchrissyy–

    Nooooooo. The total federal tax paid on our household income was (I just went into Turbotax to look up the actual amount) 286$ dollars. The 3K credit (1K per child) is a huge benefit to us. Our taxable income was about 1/3 of the actual income after deducting tithing and mortage interest.

  17. …we pay about 200$/yr in federal taxes…

    Julie, I think what you meant to say is that you pay about $200 per annum in federal income taxes. Is that right? Because you are paying 6.75% of your income in social security tax (double that if you count what your employer pays on your behalf), and federal excise tax every time you buy gas.

    Your case serves to illustrate the law of unintended consequences. You give to charity, so you get a break. You buy a house, so you get a break, you have kids (after all, somebody has to pay social security a generation from now), so you get a break. Add it all up, and for the brief moment captured in the snapshot, it looks like you are making out like bandits. But someday the kids will be gone and the house will be paid for, and the IRS will play catch up.

    J-NS, if you were not such a smart and amiable fellow, I would suspect you of being disingenuous in this post. I don’t know if you favor public financing of political campaigns, but the EITC is petty cash compared to the shell game our government runs with the check-off box on form 1040 asking if I want some money to go to political parties. “Checking this box will neither increase your tax burden nor decrease the size of your refund.” Huh?!? Where does the money come from?

    Also, I don’t like the view of our society as a poker table, where the only way one player can win is if another loses. There is no such thing as a free lunch means that consequences must be taken into account, not that life is a zero sum game.

  18. Julie M. Smith says:

    Mark IV,

    Of course I just meant federal income taxes; of course I realize that there are other taxes that we pay. But the point of this post was federal income taxes, so that’s what I was addressing.

    I’m also clear that we will eventually have to pay a much bigger chunk than we do now. But right now–given the fact that we have a comfortable middle class income–I think we pay too little.

  19. Mark N. says:

    But right now–given the fact that we have a comfortable middle class income–I think we pay too little.

    As far as I’m aware, there’s nothing stopping you from sending as much money to the government as you feel is fair. I’d be willing to bet that someone at H&R Block, or any other tax service, would know how you’d go about sending in some amount above and beyond what you legally owe to the federal and/or state governments.

  20. I, too, would like an answer to Sister Julie’s question (comment #11). How does the second brother-sister arrangement differ from the first?

    Here is an article on Gudrun Hertsgaard, a 92-year-old retired librarian who each year for the last ten years has donated $3,000 to the Bureau of the Public Debt. Last year $1.5 million was donated by Americans to pay down the national debt.

  21. Julie,

    I think I pay too much. Maybe we can work something out.

  22. Jonathan Green says:

    And in the first brother-sister example, how did they get around the “Can anyone else claim you as a dependent on their tax return” question? Shouldn’t that sink the whole EITC funny business right there?

  23. Last Lemming says:

    the EITC is petty cash compared to the shell game our government runs with the check-off box on form 1040 asking if I want some money to go to political parties. “Checking this box will neither increase your tax burden nor decrease the size of your refund.” Huh?!? Where does the money come from?

    The Presidential Election Campaign Fund is perhaps the only opportunity a federal taxpayer has to earmark a portion of his or her tax payment to a particular cause. (States have a lot more of these checkoff programs). By checking the box, you can be sure that your three dollars will not be used to pay for a welfare mother’s color TV, nor for a new generation of nuclear weapons. Of course, it will go to one or another politician and be used to inundate you with negative adds during the next campaign. But still, it is three dollars that the candidate will not have to raise from Jack Abramoff or any of his ilk.

    As for the EITC being petty cash, it amounted to $38 billion in 2002, while the Presidential Election Campaign Fund raised approximately $60 billion. You be the judge.

  24. Last Lemming says:

    Whoa! I’m going to be the judge after all. The Presidential Election Campaign Fund raised $60 million in 2002, which makes it petty cash compared to the EITC.

    Sorry for the screw up. I’m not used to dealing with numbers that small, and my brain just automatically added three zeros.

  25. Julie, out of curiosity, how much do you think your family should pay in federal income taxes? More generally, how would you decide how much each family should pay?

    Or perhaps you’re simply saying that we should get rid of the mortgage interest deduction?

  26. Mark IV says:

    LL,

    I guess I wasn’t clear in my original comment. I was thinking of the amount of the EITC that goes to people with incomes of over 400 thou, as in the example cited. Sorry for not being clear, and thank you for providing real numbers. You are the smoking gun of the ‘nacle!

    I am still puzzled as to where the 60 million comes from, if it doesn’t increase my tax or decrease my refund.

  27. Mark IV says:

    I am officially an idiot, and need to read more carefully. Lem, I see that you answered my question in your comment # 23.

    Homer Simpson

  28. Mark, you are right that the money has to come from somewhere. If 20 million people check the box, sending $3 each to the fund, then our deficit increases by $60 million dollars over what it would have been if nobody had checked the box, and our total national tax burden will eventually have to be $60 million higher, plus interest.

    But whether *YOU* check the box or not only affects the deficit by $3. Your share of that extra $3 that will have to be paid is only something like $3 divided by 100000000, which is pretty much like saying “it won’t increase or decrease your tax burden.” And of course your current year refund won’t be affected at all. So I think the statement is accurate.

  29. Last Lemming says:

    If 20 million people check the box, sending $3 each to the fund, then our deficit increases by $60 million dollars over what it would have been if nobody had checked the box, and our total national tax burden will eventually have to be $60 million higher, plus interest.

    No, checking the box doesn’t increase the deficit. If nobody checked the box, the deficit would not necessarily change. Congress could do one of three things with the $60 million:

    1. Spend it on something else,
    2. Use it to finance a tax cut (but it would amount to less than $1 per return, so why bother), or
    3. Not spend it on anything, which would, indeed, reduce the deficit.

    But one way or the other, it is Congress that determines the size of the deficit, not the taxpayer deciding whether or not to check the box.

  30. Carrie W. says:

    What really bothered me this year was that we didn’t get the $2000.00 Child Tax Credit for our two kids because my husband and I made about $10,000 more this year than last year (hubbie got a bonus that varies from year to year). We only got $1500.00 because we were over the limit. So if you make such and such amount more, then we’re automatically rich rich rich? I don’t think so.

    Also, there is a $6000.00 limit on day care costs for two or more kids. Are you kidding me?? The going rate in my area is $130 a week per child. With a few weeks vacation, for two kids in one year the cost is still over $12,000. And baby #3 (on the way) doesn’t bump the amount up at all.

    (I don’t want to open up a dialogue about working out of the home mothers, by the way. This is my family’s decision and I’m talking about taxes).

  31. rleonard says:

    The US Federal tax rate for people with a gross income of less than 100K is very small indeed when compared to other countries.

  32. What really hurts the poor is the pay roll tax, especially, the social security surplus. It means that wage earners are financing the federal deficit, a burden that is not shared by high income Americans.

    As Warren Buffett pointed out, the exemption of high earners from the pay roll tax means that his secretary pays a higher marginal tax rate than him.

    My sympathies, Ronan. Non-resident grad assistants are in a horrible position, especially if they have families.

    Question: does not the United Kingdom have a dual taxation treaty with the United States? If that is the case, then you might be entitled to pay taxes in Britain where you could claim your wife and your children.

  33. rleonard says:

    Actually highearners stop paying payroll tax at 90K or so. They pay it but only to a point.

  34. Randy B. says:

    Related to this topic, there is an interesting new article by Susan Pace Hamill, entitled “An Evaluation of Federal Tax Policy Based on Judeo-Christian Ethics.”

    Here’s the abstract:

    “This article severely criticizes the Bush Administration’s tax policies under the moral principles of Judeo-Christian ethics. I first document that Judeo-Christian ethics is the most relevant moral analysis for tax policy because almost eighty percent of Americans and well over ninety percent of the Congress, including President Bush, claim to adhere to the Christian or Jewish faiths. I also show that evaluating federal tax policy under Judeo-Christian principles not only passes constitutional muster but is also appropriate under the norms of a democracy. I then provide a complete theological framework that can be applied to any tax policy structure. Using sources that include leading Evangelical and other Protestant scholars, Papal Encyclicals and Jewish scholars, I prove that tax policy structures meeting the moral principles of Judeo-Christian ethics must raise adequate revenues that not only cover the needs of the minimum state but also ensure that all citizens have a reasonable opportunity to reach their potential. Among other things, reasonable opportunity requires adequate education, healthcare, job training and housing. Using these theological sources, I also establish that flat and consumption tax regimes which shift a large part of the burden to the middle classes are immoral. Consequently, Judeo-Christian based tax policy requires the tax burden to be allocated under a moderately progressive regime. I discuss the difficulties of defining that precisely and also conclude that confiscatory tax policy approaching a socialistic framework is also immoral. I then apply this Judeo-Christian ethical analysis to the first term Bush Administration’s tax cuts and find those policies to be morally problematic. Using a wealth of sources, I then establish that the moral values driving the Bush Administration’s tax policy decisions reflect objectivist ethics, a form of atheism that exalts individual property rights over all other moral considerations. Given the overwhelming adherence to Christianity and Judaism, I conclude that President Bush, many members of Congress and many Americans are not meeting the moral obligations of their faiths, and, I argue that tax policy must start reflecting genuine Judeo-Christian values if the country is to survive in the long run.”

    Virginia Tax Review, Vol. 25, Winter 2006

  35. Hmmm, I just reduced my taxes by $5,450 on a $60k income, the same way congressmen do – I incorporated as an LLC, and decided to pay myself 20k per year and take the rest as profits. Hence SS is only paid on the 20K but at 13.5% as I pay both employee and employer sides. 20k is an internal guideline of the IRS and not something you will find written down. My source is a previous IRS employee now a tax accountant. I pay Federal tax on the whole 60k after charitable and other deductions.

    Personally, I hate the game and all the accounting. I say let the tax accountants and the IRS find new jobs, and go with the flat tax. This power to tweek the tax code for your buddies is corrupting the entire system.

    And no, I don’t want to contribute to the Federal Gov. They spend all they can get plus some.

  36. I like our tax system. I like paying less in taxes while we have young children. I don’t mind not paying anything, because I know it won’t last long. Down the road with fewer kids at home, and a higher income, and a lower mortgage interest, we’ll be paying a lot of federal income tax.

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