No More Deficits

The IRS has come up with a clever plan to offset the deficit-creating effects of the Bush tax cuts: More scrutiny of the poor!

The Internal Revenue Service is planning to ask more than four million of the working poor who now claim a special tax credit to provide the most exhaustive proof of eligibility ever demanded of any class of taxpayers….The I.R.S., trying to prevent errors and cheating, says it needs greater proof of eligibility months before people claim the credit on their tax returns because its efforts to find errors through audits after the fact have not worked. Treasury officials estimate that $6.5 billion to $10 billion is lost to improper payments each year…President Bush has praised the tax credit. But his administration has also complained about fraud, and the president has asked Congress for $100 million and 650 new employees to identify potentially erroneous claims before any money is paid out. There is a similar effort with federally subsidized school lunches.

The program they are referring to is the Earned Income Tax Credit (EITC), a program both sides of the aisle have long applauded. The logic of the EITC, as opposed to welfare, is that it increases rather than decreases the benefit of working. Suppose a person could work or not work. If they work then they get $1000; if they don’t work, they get $600 in welfare benefits. That makes the pecuniary value of work $400, and it costs the government $600 per person who decides not to work. The EITC turns this math around, by paying poor people (only those with children, I think) to work. Say we give $300 to every family that works under the EITC, while still offering $600 in benefits for the unemployed. Then by working, this hypothetical person gets $1300 a month total, which is $700 more than what they get by not working. Since $700 is a lot more than $400, more people will choose to work. And for each person that works instead of taking the $600, the government saves $300 (the difference in the $600 cost of welfare benefits vs. the $300 cost of the EITC). So discouraging use of the EITC could actually end up costing the government more money, not less (though EITC costs come out of the Federal budget; a large part of welfare benefits is paid out of state coffers). To understand the type of dollars the IRS is looking at, the total cost of the EITC is around $30b or so, about 1/10th of the deficit this year.