Extending the EITC to Noncustodial Parents: Potential Impacts and Design Considerations. II. Background


The federal EITC is the nation’s largest antipoverty program, providing $44.4 billion in benefits to 23 million low-income working families and individuals in 2006 (IRS 2008). A key attribute of the federal EITC is that it is refundable—the credit first reduces a family’s tax liability (if any) to zero, and the remaining credit is then paid to the family. The federal EITC was enacted in 1975 to offset Social Security taxes for low-income families and to increase work incentives; it has been considerably expanded over the years. Childless workers and those whose children live elsewhere were initially ineligible for the EITC, but they became eligible for a small credit beginning in the 1994 tax year. In addition to the federal EITC, 23 states, the District of Columbia, and several local governments have EITCs.[1]

To receive the more generous “child-based” EITC, a taxpayer must have a “qualifying child” who resides with the taxpayer for more than half the year. Thus, noncustodial parents are ineligible for the EITC on behalf of children living elsewhere—even if they meet their child support obligation. In 2008, a taxpayer with two resident children could receive up to $4,824 in EITC, compared with $438 in “childless” EITC benefits for a taxpayer without resident children. With some exceptions, noncustodial parents are ineligible for other tax benefits on behalf of their nonresident children, including the dependent exemption, head-of-household filing status, child tax credit, and child and dependent care credit.

While the child-based EITC removes many low-income families from poverty (Holt 2006), the combined effect of child support payments and taxes can drive a low-wage noncustodial parent into poverty (Primus 2006; Wheaton and Sorensen 1997). Since 1989, the federal government has required that states have mandatory judicial guidelines for setting child support awards. However, states vary considerably in the definition of income, the amount of award levels, and the treatment of low-income noncustodial parents. In most states, child support awards are regressive, meaning that the higher the income of the noncustodial parent, the lower the percentage of income devoted to child support. Moreover, many states impute a minimum level of income to noncustodial parents when determining their child support award on the assumption that everyone should be able to work at least at a full-time year-round minimum-wage job. Thus, even though noncustodial parents’ income may be lower than this amount, their orders are not reduced. In a study of seven large states, half of noncustodial parents with child support orders and reported incomes under $10,000 were required to pay at least 83 percent of their income in child support. Of those with reported income between $10,000 and $20,000, half were required to pay at least 22 percent of their income in child support (Sorensen, Sousa, and Schaner 2007).

A simple example illustrates how the current tax system and child support guidelines improve the incomes of low-income custodial families but can drive low-income noncustodial parents into poverty. In 2008, a full-time, full-year minimum-wage worker would earn $12,775 for the year, which is equal to 74 percent of the poverty level for a single parent with two children and 114 percent of the poverty level for a single individual (table 1). A custodial parent with two children and earnings of $12,775 would pay $977 in payroll taxes, and would receive $641 in refundable child tax credits and $4,824 in EITC benefits. A noncustodial parent with the same earnings would pay $1,360 in payroll and federal income taxes and receive $8 in childless EITC benefits, resulting in after-tax income of $11,423. A typical child support guideline would require noncustodial parents with two children to pay 25 percent of gross income on child support, for a total of $3,194 for the year. Child support and federal taxes would thus increase the custodial family’s income to $20,456 (118 percent of the poverty level for a single parent with two children) while reducing the noncustodial parent’s income to $8,229 (73 percent of the poverty level for a single individual).

Table 1:
Impact of Federal Taxes and Child Support on Income and Poverty Status of Custodial and Noncustodial Parents with a Full-Time Job
  Custodial Parent Noncustodial Parent
Earnings (full-time minimum wage job) $12,775 $12,775
     As a Percent of Poverty 74% 114%
Payroll Tax $977 $977
Federal Tax (before credits) $0 $382
Refundable Child Tax Credit $641 $0
Earned Income Tax Credit $4,824 $8
Earnings Less Taxes, Plus Credits $17,263 $11,423
     As a Percent of Poverty 100% 102%
Child Support $3,194 ($3,194)
Income after Taxes, Credits, and Child Support $20,456 $8,229
     As a Percent of Poverty 118% 73%
Note: This example reflects the 2008 minimum wage, tax rules, and poverty thresholds. The example assumes that there are two children who live with the custodial parent, and that thechild support order is set to 25 percent of the noncustodial parent's gross income (earnings).The custodial family's poverty threshold is $17,346, the threshold for a single adult with two children. The noncustodial parent's threshold is $11,201, the amount for a single individual.

An NCP EITC could reduce the negative effects of the current tax system and child support guidelines on low-income noncustodial parents (Primus 2006; Sorensen 1999; Wheaton and Sorensen 1997). Another approach would be to change the treatment of low-income noncustodial parents in state child support guidelines. In combination, these two approaches could help ensure that orders for low-income noncustodial parents are set at an amount where full payment is possible, reduce the likelihood that noncustodial parents who work and pay support will be impoverished, and encourage work and child support payment among noncustodial parents. Custodial families would benefit from the increased child support payments produced in response to the incentives generated by these policies.[2]

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