As part of the $1.85 trillion reconciliation bill, the Biden administration has proposed continuing the expanded version of the child tax credit (CTC) that was part of the American Rescue Plan (ARP). In comparison to the baseline CTC program, according to static estimates that do not account for its incentive effects, the expanded CTC is expected to lower child poverty by between one-third and 46%. But the expanded CTC also has unintended consequences, such as reducing incentives to work, especially for low-income households. These offsetting effects would lead to a smaller reduction in child poverty.
The ARP expanded the CTC for one year, 2021, so that it's fully refundable and pays $3,000 per child between ages 6 and 17 and $3,600 for each child younger than 6. Prior to the expansion it paid up to $2,000 for each child younger than 17 but was not fully refundable. Only those with household incomes of $2,500 or above were eligible, and the size of the credit increased with income.
The House version of the Build Back Better bill would extend the expanded credit for 2022, and Democrats would like for it to continue beyond next year as well. The expanded credit would increase spending by an estimated $1.6 trillion over 10 years compared to the current law baseline. Most of that extra spending does not go to the poor but is a reduction in taxes paid by middle-class households.
The effects of the expanded CTC on the incentive to work could be substantial. One study estimates that it could reduce the number employed by 1.5 million, with half of those coming from families earning less than $30,000 per year. The reason for this large effect is that the expanded CTC reduces the reward for working by up to $2,000 per child. Nonworking parents were not eligible for any tax credit payment under the CTC as implemented under the 2017 Tax Cut and Jobs Act. That program increased parents’ reward for working by up to $2,000 per child. By offering the same government payment to nonworking parents as to working parents, the expanded CTC reduces the incentive to work.
It also reduces the incentive to marry and stay married. In a study of the effect of welfare benefits on marriage and child-bearing decisions, researchers Jeff Grogger and Stephen Bronars found that more unconditional aid for single mothers leads to an increase in the number of single-parent households. The expanded CTC would likely have a similar effect because it guarantees single mothers at least $3,000 per child, no matter how much they earn from working. Anything that makes it easier for a single mother to afford to provide for her children is likely to increase the incentive of women to bear children while unmarried, or for married parents to divorce while their children are young.
The long-term effects of the expanded CTC may be worse than the short-run effects. Those who do not participate in the labor force for an extended period of time will not develop their skills and hence will have less earning power over their lifetime as a result.
Another potential negative long-term effect is that a child whose parent is out of the labor force doesn’t have the benefit of that parent being a role model for how to get and keep a job. The likely effect on future generations is shown by research on welfare reform, which had the opposite effect of the expanded CTC, increasing labor force participation of low-income parents. Evidence demonstrates positive effects of welfare reform on the next generation, with one study finding that young children whose parents were affected by welfare reform in the 1990s were more likely to complete college and get married.
Eliminating the expanded CTC does not mean that nonworking parents would be destitute. Those nonworking parents and their children would remain eligible for food stamps, Medicaid and, in some cases, temporary assistance to needy families (TANF).
The U.S. government cannot afford the expanded CTC. And it’s doubtful whether Congress has the political will to raise taxes enough to cover the cost of expanding it. The incentive effects of the expanded CTC combined with the effects of the increased taxes that will at some point be required to pay its costs are likely to offset many of its poverty reduction benefits.
Tracy C. Miller is a senior policy research editor with the Mercatus Center at George Mason University, a free-market research center.