Hohman on EITC: Don’t call it a tax cut

Both Republican and Democratic lawmakers have introduced separate legislation expanding Michigan’s earned income tax credit, signaling it as a top priority for both caucuses. The bills are being called tax cuts by various media outlets, including MLive, The Detroit News, and Bridge.

While it’s nice to see that tax cuts are popular in Michigan, there’s just one problem: Neither party’s bill includes a plan to cut taxes. Instead, they are plans to redistribute income. The media shouldn’t confuse tax policy with payments to preferred groups.

The “tax cuts” being called for would increase the state’s earned income tax credit, which gives families with children a refundable credit all the way into middle income ranges. It’s got “tax credit” in its name, so it sounds like it is tax policy.

But with or without the boost, people are going to continue to pay 4.25 cents for every dollar of income they earn. It’s just that eligible families are going to get a refundable tax credit when they file their taxes.

Recipients will pay less in taxes. It also means that some people will receive more in credits than they pay in taxes. Indeed, Michigan’s income tax already is progressive. Taxpayers who earn less than $16,000 generally owe nothing in taxes at all and instead receive money through the income tax, due to policies like this.

So don’t call it a tax cut. People are still liable for paying taxes on their income regardless of whether they get a boost on credits when they file their annual tax returns.

In fact, increasing the earned income tax credit would raise marginal taxes on beneficiaries. As people earn more income, they gradually lose eligibility for credits. This means that taxpayers earning more than maximum credit income levels pay regular income taxes and lose some of their credits. They face a higher income tax rate than the state’s 4.25 rate when they exceed the point where the earned income tax credit gets phased down.

People ought to care about the negative consequences of taxes, and tax cuts mitigate those negative consequences.

Taxing income discourages income, and this costs the state jobs. The state income tax will continue discouraging income at the rate at which income is taxed. Reshuffling tax liabilities through credits doesn’t change that. Boosting credits is not the kind of shot in the arm to the economy that tax cuts provide.

The earned income tax credit has other problems. More than a quarter of all payments under the program go to people who claim credits on their returns but are not eligible. Administrators can only challenge so many returns. And when they test to see whether people who get the credits meet program requirements, they find a huge number of people who get them do not.

People should be upset when a program designed to benefit families with children and low incomes goes to people who don’t have children or have too high of income. This level of waste should prompt lawmakers to restructure the program to ensure that the people they want to help get the help and the people they don’t, don’t.

That’s a federal issue, too. The state earned income tax credit simply gives taxpayers a percentage of what they collect in federal credits. So a fix has to come from federal lawmakers, not state legislators.

Federal eligibility itself has issues. It is based upon income, marriage and the number of children in the household. Single people without children get very little benefit; their maximum credit is $560, and eligibility for any credits ends at low income. Married people with two children are eligible for $6,164 in credits, and eligibility extends into middle class income levels. (Though note that the structure also penalizes marriage.)

That makes it less of an encouragement for earned income and more about preferences for families with children. The credit is about redistributing money to preferred groups.

These may be the kind of people lawmakers want to defer to. But until they’re better at delivering money to them and not others, lawmakers ought not increase the state credit.

Whether they do or do not, however, this has little to do with how much to tax people or whether to cut taxes. So the media should stop calling it a tax cut.

James M. Hohman is director of fiscal policy for the Mackinac Center. Email him at hohman@mackinac.org.