A Proven Work Incentive – But Only For States

At a recent hearing of the U.S. Senate Committee on Finance, “Boosting Opportunities and Growth Through Tax Reform,”  congressional testimony highlighted the effectiveness of the Earned Income Tax Credit (EITC) and Child Tax Credit (CTC) in lifting children out of poverty.  Studies have affirmed for years that the EITC and CTC encourage work, and research now shows that these federal policies also improve children’s school performance and boost their productivity and earnings into adulthood.

The EITC and CTC are refundable tax credits, meaning that they are not limited by the amount of an individual’s tax liability.  This is important because roughly half of all Americans do not earn enough income to trigger the obligation to pay federal income taxes at all.  Under the EITC and CTC, individuals can receive refund checks from the IRS even if they do not owe any federal income taxes.

The Child Tax Credit helps working families earning up to $150,000/year offset the cost of raising children by granting up to $1,000 credit on tax returns for each child under 17.  The Earned Income Tax Credit assists working families and individuals offset federal tax liabilities on income up to $50,300 (depending on marital status and number of children).

Although residents of Puerto Rico are eligible for many types of federal financial assistance, they are ineligible for the EITC, and they qualify for the CTC only if they have three or more children. In the 50 states, all children under 17 are eligible, regardless of family size.

The recent Report on the Competitiveness of Puerto Rico’s Economy by the Federal Reserve Bank of New York suggests that Puerto Rico’s exclusion from these federal policies is a problem.  The Report stated:

[Government assistant payments such as nutrition assistance, disability payments and welfare] provide a significant share of residents with sizable funds relative to average incomes.  Significantly, these transfer payments are reduced as one earns wages, and thus may result in a particularly high implicit tax on earnings…Some of this implicit tax has been offset by Puerto Rico’s adoption in 2006 of the Worker’s Tax Credit[.]  However, the maximum amount of credit is currently only $350 per year – a relatively modest sum even given Puerto Rico’s lower average earnings.  The sum is much smaller, even in relative terms, than what is offered by the comparable Earned Income Tax Credit in the United States.

The 2011 Report by the President’s Task Force on Puerto Rico’s Status included a formal recommendation to fully expand the Child Tax Credit in Puerto Rico. The Report further emphasized:

[T]he intersection between payroll taxes and social programs creates some disincentives to labor force participation.  The Task Force believes that tax policy provides a vehicle for strengthening Puerto Rico’s workforce, as well as the well-being of Puerto Rican families with children.

Several Members of Congress have advocated extending the Earned Income Tax Credit and Child Tax Credit to Puerto Rico.  In his statement announcing the introduction of his EITC bill, Congressman Bill Pascrell (D-NJ) explained:

With United States residents of Puerto Rico contributing so heavily to America, I firmly believe that the earned income tax credit should be extended to the Island.  EITC is a proven tool and valuable resource in combating poverty and unemployment and boosting local economies.  As long as U.S. residents of Puerto Rico serve honorably in our military, contribute to the tax base and make our country better, I see no reason to exclude them from this proven anti-poverty program.