Section 16. Tax Expenditures and Other Tax Provisions Related to
        Retirement, Health, Poverty, Employment, and Disability

                              INTRODUCTION

    The preceding sections of this publication discuss direct
payments to individuals for retirement, health, public
assistance, employment, and disability benefits provided
through entitlement programs within the jurisdiction of the
Committee on Ways and Means. The Federal Government also
provides indirect payments to individuals by means of special
income tax provisions that yield preferential tax treatment.
These provisions, called tax expenditures, are entirely within
the jurisdiction of the committee. Those relating to the above-
mentioned policy objectives are described in this section.

                      CONCEPT OF TAX EXPENDITURES

    The term ``tax expenditure'' suggests that the goals of
these favorable tax provisions in many cases could
alternatively be accomplished by direct expenditure programs.
They can be viewed as Federal spending through the tax system.
Tax expenditures are similar in nature to entitlement
programs--they are not subject to the annual appropriations
process and are available as entitlements to eligible
individuals and corporations. They are administered by the
Internal Revenue Service.
    Estimates of tax expenditures measure the decreases in
individual and corporate income tax receipts that result from
the preferential provisions in income tax laws and
regulations.\1\ These are intended to provide economic
incentives or tax relief for particular activities to
particular kinds of taxpayers. As defined in the Congressional
Budget Act, the concept of tax expenditures refers to the
corporate and individual income taxes. Federal excise,
employment, and estate and gift taxes also have preferential
provisions, but these are not included in this section.
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    \1\Estimates of tax expenditures are provided in annual
publications of the Joint Committee on Taxation and in the President's
budget.
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                       TYPES OF TAX EXPENDITURES

    Several different types of income tax provisions can
deliver preferential treatment. Exclusions, exemptions, and
deductions reduce taxable income. Special, lower tax rates may
apply to certain types of income. Tax credits are subtracted,
dollar for dollar, from tax liability. Tax deferrals occur when
recognition of income is delayed or when deductions more
properly allocated to a future year are allowed in the current
year.

                    MEASUREMENT OF TAX EXPENDITURES

    Estimates of tax expenditures as revenue losses are subject
to important limitations. Each tax expenditure is measured in
isolation. The difference between the estimate of tax receipts
under present law including a tax preference and the higher
level of tax receipts if the provision did not exist is the
amount of the tax expenditure. For this computation, it is
assumed that nothing else changes. Specifically, the
availability of tax expenditures may cause taxpayers to behave
differently. These behavioral changes are not taken into
account when measuring tax expenditures.
    If two or more items were to be eliminated simultaneously,
the result of the combined changes might produce a different
revenue effect than the sum of the separate amounts for each
item. Therefore, adding the amounts of various tax expenditure
items can be misleading.

                     USE OF DISTRIBUTIONAL ANALYSIS

    Analyzing the effectiveness of tax provisions at achieving
their policy goals often involves examining the distribution of
benefits from the provisions, i.e. the forgone revenue
allocated by the income class of those who take advantage of
the provisions. The income concept used to show the
distribution of tax expenditures by income class is adjusted
gross income plus (1) tax-exempt interest, (2) employer
contributions for health plans and life insurance, (3) employer
share of FICA taxes, (4) workers' compensation, (5) nontaxable
Social Security benefits, (6) insurance value of Medicare
benefits, (7) corporate income tax liability attributed to
shareholders, (8) minimum tax preferences, and (9) excluded
income of U.S. citizens living abroad.
    This definition of income includes items that clearly
increase the ability to pay taxes, but that are not included in
the definition of adjusted gross income. However, it omits
certain items that clearly affect ability to consume goods and
services, including accrual of pension benefits, other fringe
benefits (such as military benefits, veterans benefits, and
parsonage allowances), means-tested transfer payments (such as
Aid to Families with Dependent Children, Supplemental Security
Income, food stamps, housing subsidies, and general
assistance), and imputed rent on owner-occupied homes.
    The tax return is the unit of analysis. Table 16-1 shows
the distribution of all tax returns for 1994 by income class.
    Unless specifically indicated, all distributional tables
exclude returns filed by dependents. All projections of income
and deduction items and tax parameters are based on economic
assumptions consistent with the January 1994 forecast of the
Congressional Budget Office.

                     TABLE 16-1.--DISTRIBUTION OF TAX RETURNS BY INCOME CLASS, 1994
                          [Money amounts in millions of dollars, returns in thousands]
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                                                                                  Itemized returns
                Income class (thousands)                      All       Taxable --------------------     Tax
                                                           returns\1\   returns    Total    Taxable   liability
----------------------------------------------------------------------------------------------------------------
Below $10...............................................      24,145      2,467       178        16      -$4,469
$10 to $20..............................................      25,012     10,308       957       413          756
$20 to $30..............................................      20,784     14,456     2,254     1,617       20,671
$30 to $40..............................................      16,698     14,578     3,579     3,237       37,145
$40 to $50..............................................      11,941     11,465     4,163     3,992       41,337
$50 to $75..............................................      18,006     17,848    10,232    10,133      101,078
$75 to $100.............................................       7,486      7,446     5,864     5,851       75,339
$100 to $200............................................       5,377      5,351     4,763     4,747      105,129
$200 and over...........................................       1,417      1,414     1,309     1,306      164,438
                                                         -------------------------------------------------------
      Total.............................................     130,866     85,333    33,299    31,312      541,424
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\1\Includes filing and nonfiling units. Filing units include all taxable and nontaxable returns. Nonfiling units
  include individuals with income that is exempt from Federal income taxation (e.g., transfer payments, interest
  from tax-exempt bonds, etc.).

Note.--Detail may not add to total due to rounding.

Source: Joint Committee on Taxation.

                       TAX EXPENDITURE ESTIMATES

    Table 16-2 provides estimates of the 25 tax expenditures
related to retirement, health, poverty, employment, disability
and housing. The largest ones are the exclusion of employer-
paid pension contributions ($69.5 billion in 1995), the
exclusion of employer-paid health insurance premiums ($53.5
billion), and the deduction for interest on home mortgages
($45.8 billion). It is interesting to compare the size of these
tax expenditures to the size of spending programs in these
areas. The Congressional Budget Office estimates\2\ that the
Federal government will directly spend $273 billion in 1995 on
the two major health programs (Medicare and Medicaid) and $412
billion on retirement programs (Social Security and federal
retirement programs). Direct federal subsidies for housing are
of two general types: funds to build and maintain low-cost
housing available only to low-income Americans, and below-
market mortgage interest rates for certain owner-occupied
housing. These are funded through discretionary appropriations,
not through entitlements. In total, these are considerably
smaller than the mortgage interest tax deduction.
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    \2\CBO, ``The Economic and Budget Outlook: Fiscal Years 1995-1999''
(January 1994).
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                      TABLE 16-2.--TAX EXPENDITURE ESTIMATES: FISCAL YEARS 1995-99
                                             [Billions of dollars]
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              Item                     1995            1996            1997            1998            1999
----------------------------------------------------------------------------------------------------------------
Tax expenditures related to
 retirement:
    Net exclusion of pension
     contributions and earnings.            69.5            73.5            78.0            82.8            87.9
    Keogh plans.................             3.2             3.3             3.5             3.7             4.0
    Individual retirement plans.             8.4             8.8             9.3             9.8            10.3
    Exclusion of Social Security
     and railroad retirement
     benefits\1\................            23.1            24.1            25.1            26.1            27.1
Tax expenditures related to
 health:
    Exclusions of employer
     contributions for medical
     insurance premiums and
     medical care\2\............            45.8            49.9            53.8            57.9            62.3
    Exclusion of Medicare
     benefits:
        Medicare Part A.........             8.0             9.2            10.8            12.6            14.8
        Medicare Part B.........             5.1             6.1             7.3             8.7            10.4
    Deductibility of medical
     expenses...................             4.1             4.5             5.0             5.5             6.0
Tax expenditures related to
 poverty:
    Earned income tax credit:
        Nonrefundable portion...             3.4             3.7             4.1             4.6             5.1
        Refundable portion......            17.7            19.4            21.3            23.3            25.5
    Exclusion of public
     assistance and SSI cash
     benefits...................             0.5             0.5             0.6             0.6             0.7
Tax expenditures related to
 employment:
    Dependent care credit.......             2.7             2.8             2.8             2.9             3.0
    Exclusion of employer-
     provided dependent care\3\.             0.6             0.7             0.8             0.9             1.0
    Employee stock ownership
     plans (ESOPs)..............             0.9             1.0             1.1             1.2             1.2
    Exclusion for benefits
     provided under cafeteria
     plans\4\...................             3.8             4.4             5.0             5.7             6.5
Tax expenditures related to
 elderly and disabled:
    Exclusion of workers'
     compensation and special
     benefits for disabled coal
     miners:
        Workers' compensation...             3.9             4.0             4.2             4.4             4.6
        Special benefits for
         disabled coal miners...             0.1             0.1             0.1             0.1             0.1
    Additional standard
     deduction for elderly and
     blind......................             1.9             2.0             2.1             2.2             2.4
    Tax credit for elderly and
     disabled...................           (\5\)           (\5\)           (\5\)           (\5\)           (\5\)
Tax expenditures related to
 housing:
    Deductibility of mortgage
     interest...................            53.5            56.8            60.2            63.9            67.8
    Deductibility of property
     tax on owner-occupied
     housing....................            13.7            14.5            15.3            16.2            17.1
    Deferral of capital gain on
     sale of principal residence            14.8            15.3            15.9            16.4            17.0
    Exclusion of capital gain on
     sale of residence of
     persons 55 and over........             4.9             5.1             5.3             5.5             5.7
    Exclusion of interest on
     State and local government
     bonds for owner-occupied
     housing....................             1.7             1.8             1.8             1.7             1.7
    Depreciation of rental
     housing in excess of
     alternative depreciation
     system.....................             1.7             1.6             1.5             1.3             1.2
    Exclusion of interest on
     State and local government
     bonds for rental housing...             0.9             0.9             0.8             0.8             0.7
    Low-income housing tax
     credit.....................             2.2             2.6             3.0             3.3             3.7
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\1\In addition to OASDI benefits for retired workers, these figures also include disability insurance benefits
  and benefits for dependents and survivors.
\2\Estimate includes employer-provided health insurance purchased through cafeteria plans.
\3\Estimate includes employer-provided child care purchased through dependent care flexible spending accounts.
\4\Estimate includes amounts of employer-provided health insurance purchased through cafeteria plans and
  employer-provided child care purchased through flexible spending accounts. These amounts are also included in
  other line items in this table.
\5\Less than $50 million.

Source: Joint Committee on Taxation.

    The remainder of this chapter will discuss specific tax
expenditures related to retirement, health, poverty,
employment, disability, and housing. The discussion includes
legislative history, an explanation of current law, and a brief
assessment of the effects of each tax expenditure.

          NET EXCLUSION OF PENSION CONTRIBUTIONS AND EARNINGS

Legislative history

    Prior to 1921, no special tax treatment applied to employee
retirement trusts. Retirement payments to employees and
contributions to pension trusts were deductible by the employer
as an ordinary and necessary business expense. Employees were
taxed on amounts actually received as well as on employer
contributions to a trust if there was a reasonable expectation
of benefits accruing from the trust. The 1921 Code provided an
exemption for a trust forming part of a qualified profit-
sharing or stock bonus plan.
    The rules relating to qualified plans were substantially
revised by the Employee Retirement Income Security Act of 1974
(ERISA), which added overall limitations on contributions and
benefits and other requirements on minimum participation,
coverage, vesting, benefit accrual, and funding. Further
revisions of these rules have been made in every major tax bill
since then.
    Since ERISA, Congress has also acted to broaden the range
of qualified plans. In the Revenue Act of 1978, Congress
provided special rules for qualified cash or deferred
arrangements under section 401(k). Under these arrangements,
known popularly as 401(k) plans, employees can elect to receive
cash or have their employers contribute a portion of their
earnings to a qualified profit sharing, stock bonus, or pre-
ERISA money purchase pension plan.
    An employee stock ownership plan (ESOP) is a special type
of qualified plan that is designed to invest primarily in
securities of the employer maintaining the plan. Certain
qualification rules and tax benefits apply to ESOPs that do not
apply to other types of qualified plans.

Explanation of provision

    In general.--Under a plan of deferred compensation that
meets the qualification standards of the Internal Revenue Code,
an employer is allowed a deduction for contributions to a tax-
exempt trust to provide employee benefits. Similar rules apply
to plans funded with annuity contracts. An employer that makes
contributions to a qualified plan in excess of the deduction
limits is subject to a 10-percent excise tax on such excess
(sec. 4972).
    The qualification rules limit the amount of benefits that
can be provided through a qualified plan and require that
benefits be provided on a basis that does not discriminate in
favor of highly compensated employees. In addition, qualified
plans are required to meet minimum standards relating to
participation (the restrictions that may be imposed on
participation in the plan), coverage (the number of employees
participating in the plan), vesting (the time at which an
employee's benefit becomes nonforfeitable), and benefit accrual
(the rate at which an employee earns a benefit). Also, minimum
funding standards apply to the rate at which employer
contributions are required to be made to the plan to ensure the
solvency of pension plans.
    If a defined benefit pension plan is terminated, any assets
remaining after satisfaction of the plan's liabilities may
revert to the employer. Such reversions are included in the
gross income of the employer and are subject to income tax plus
an additional excise tax payable by the employer. The excise
tax is 20 percent if the employer establishes a qualified
replacement plan or provides certain benefit increases.
Otherwise, the excise tax is 50 percent.
    Minimum participation rules.--A qualified plan generally
may not require as a condition of participation that an
employee complete more than one year of service or be older
than age 21 (sec. 410(a)).
    Vesting rules.--A plan is not a qualified plan unless a
participant's employer-provided benefit vests at least as
rapidly as under one of two alternative minimum vesting
schedules.
    Benefit accrual rules.--The protection afforded employees
under the minimum vesting rules depends not only on the minimum
vesting schedules, but also on the accrued benefits to which
these schedules are applied. In the case of a defined
contribution plan, the accrued benefit is the participant's
account balance. In the case of a defined benefit plan, a
participant's accrued benefit is determined under the plan
benefit formula, subject to certain restrictions. In general,
the accrued benefit is defined in terms of the benefit payable
at normal retirement age and does not include certain ancillary
nonretirement benefits.
    Each defined benefit plan is required to satisfy one of
three accrued benefit tests. The primary purpose of these tests
is to prevent undue backloading of benefit accruals (i.e., by
providing low rates of benefit accrual in the employee's early
years of service when the employee is most likely to leave and
by concentrating the accrual of benefits in the employee's
later years of service when he or she is most likely to remain
with the employer until retirement).
    Coverage rules.--A plan is not qualified unless the plan
satisfies at least one of the following coverage requirements:
(1) the plan benefits at least 70 percent of all nonhighly
compensated employees, (2) the plan benefits a percentage of
nonhighly compensated employees that is at least 70 percent of
the percentage of highly compensated employees benefiting under
the plan, or (3) the plan meets an average benefits test. In
addition, a plan is not a qualified plan unless it benefits the
lesser of (1) 50 employees or (2) 40 percent of the employees
of the employer (sec. 401(a)(26)).
    General nondiscrimination rule.--In general, a plan is not
a qualified plan if the contributions or benefits under the
plan discriminate in favor of highly compensated employees.
    Limitations on contributions and benefits.--The maximum
annual benefit that may be provided by a defined benefit
pension plan (payable at the Social Security retirement age) is
the lesser of (1) 100 percent of average compensation, or (2)
$118,800 for 1994 (sec. 415(b)). The dollar limit is adjusted
annually for inflation. The dollar limit is reduced if payments
of benefits begin before the Social Security retirement age and
increased if benefits begin after the Social Security
retirement age.
    Funding rules.--Pension plans are required to meet a
minimum funding standard for each plan year (sec. 412). In the
case of a defined benefit pension plan, an employer must
contribute an annual amount sufficient to fund a portion of
participants' projected benefits determined in accordance with
one of several prescribed funding methods, using reasonable
actuarial assumptions. Plans with asset values of less than 100
percent of current liabilities are subject to additional,
faster funding rules.
    Taxation of distributions.--An employee who participates in
a qualified plan is taxed when the employee receives a
distribution from the plan to the extent the distribution is
not attributable to employee contributions. With certain
exceptions, a 10-percent additional income tax is imposed on
early distributions from a qualified plan. A 15-percent excise
tax is imposed on distributions that exceed a certain amount in
any year.
    Failure to satisfy qualification requirements.--If a plan
fails to satisfy the qualification requirements, the trust that
holds the plan's assets is not tax-exempt, an employer's
deduction for plan contributions is only allowed when the
employee includes the contributions or benefits in income, and
benefits generally are includible in an employee's income when
they are no longer subject to a substantial risk of forfeiture.

Effect of provision

    The tax treatment of pension contributions and earnings has
encouraged employers to establish qualified retirement plans
and to compensate employees in the form of pension
contributions to such plans. The tax advantage of being
compensated through pension contributions consists of two
parts. One advantage is the ability to earn tax-free returns to
savings. When saving is done through a pension plan, the
employee earns a higher rate of return than on fully-taxed
savings.\3\ The second advantage is that an employee's tax rate
may be lower during retirement than during the working years.
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    \3\This applies to pension contributions made by employers.
Employees may also be able to contribute to qualified plans. Employee
contributions may be made with after-tax dollars. If so, the tax
advantage given to these contributions is smaller than the tax
advantage given to employer contributions, and consists of the deferral
of tax on accumulated earnings.
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    These tax provisions directly benefit only persons who work
for employers with qualified plans and who work for a
sufficient period of time before their benefits vest in such
plans. The current extent of this coverage and recent trends in
coverage are described below.

Coverage

    The term covered, as used here, means that an employee is
accruing benefits in an employer pension or other retirement
plan. The best current comprehensive evidence on pension
coverage comes from the 1988 Survey of Employee Benefits, a
supplement to the May 1988 Current Population Survey. The data
referred to below come from that survey unless otherwise noted.
    As of May 1988, 48 percent of full-time wage and salary
workers employed in the private sector reported that they were
covered by an employer-sponsored pension. Most of these workers
were covered by basic defined benefit or defined contribution
plans (31 percent), and another 8 percent had both a basic plan
and a 401(k) type contributory plan (see table 16-3).\4\ For
another 9 percent, the 401(k) type plan was their only
retirement plan. Most employers contributed to their 401(k)
type plan. While 48 percent of full-time workers in private
employment had employer-sponsored plans, 46 percent had
employer-financed plans.
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    \4\Some private-sector employees contribute to 403(b) tax-sheltered
annuities instead of 401(k) plans.
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TABLE 16-3.--COVERAGE UNDER EMPLOYER-SPONSORED PENSION OR RETIREMENT
PLANS: DISTRIBUTION BY TYPE OF FULL-TIME PRIVATE WAGE AND SALARY WORKERS
                 AGED 16 OR OLDER (PERCENT COVERED)
------------------------------------------------------------------------
             Coverage status                 Total      Men      Women
------------------------------------------------------------------------
Number of private wage and salary workers
 aged 16 or older (in thousands)..........    71,485    43,188    28,296
                                           =============================
Employer-sponsored plan...................        48        51        44
    Basic pension only....................        31        33        29
    Basic and 401(k) type.................         8         9         8
    401(k) type only......................         9         9         8
        Employer contributes..............         7         7         7
        Employer does not contribute......         1         2         1
Not covered...............................        51        48        55
Don't know................................         1         1        1
------------------------------------------------------------------------
Source: John R. Woods, ``Pension Coverage Among Private Wage and Salary
  Workers: Preliminary Findings From the 1988 Survey of Employee
  Benefits,'' Social Security Bulletin, 52:10 (October 1989), p. 8.

    Pension coverage varies substantially among full-time,
privately employed workers. Differences depend on the age of
the worker, job earnings, the industry of employment, the size
of the firm, and whether the worker is represented by a union.
    Younger workers are much less likely to be covered by a
pension than middle-aged and older workers. Coverage rates rise
steadily from 12 percent for those under age 21 to 50-60
percent for those aged 40 or over. This pattern holds for both
men and women. However, the jump in coverage for middle-aged
men is about 10 percentage points larger than the increase for
middle-aged women (see table 16-4).
    Higher-paying jobs are more likely to offer pensions. Just
13 percent of workers earning less than $10,000 per year in
1988 were covered compared to 72 percent for those earning
$30,000 or more (see table 16-5). Coverage may be higher for
higher-paying jobs because of the greater value of the pension
tax benefits to workers in higher tax brackets and because of
the declining replacement rate of Social Security at higher
earnings levels. Lower-paying jobs may also be filled more
often by part-time workers who are not covered by their
employer's plan. The similarity in coverage between men and
women with the same earnings, shown in table 16-5, suggests
that the higher overall coverage rate among men is due to their
greater representation in higher-paying jobs.

TABLE 16-4.--DISTRIBUTION BY AGE AND GENDER, COVERAGE UNDER EMPLOYER-
 FINANCED PENSION OR RETIREMENT PLAN, FULL-TIME PRIVATE WAGE AND SALARY
             WORKERS AGED 16 OR OLDER (PERCENT COVERED)
------------------------------------------------------------------------
              Age (in years)                 Total      Men      Women
------------------------------------------------------------------------
      Total...............................        46        49        43
                                           -----------------------------
Under 21..................................        12        12        11
21 to 25..................................        25        24        26
25 to 29..................................        42        41        42
30 to 34..................................        48        48        48
35 to 39..................................        54        57        49
40 to 44..................................        57        61        51
45 to 49..................................        56        61        49
50 to 54..................................        58        63        49
55 to 59..................................        56        60        49
60 or older...............................        47        51       40
------------------------------------------------------------------------
Source: John R. Woods, ``Pension Coverage Among Private Wage and Salary
  Workers: Preliminary Findings From the 1988 Survey of Employee
  Benefits,'' Social Security Bulletin, 52:10 (October 1989), p. 10.

   TABLE 16-5.--DISTRIBUTION BY WORKERS' EARNINGS, COVERAGE UNDER
EMPLOYER-FINANCED PENSION OR RETIREMENT PLAN, FULL-TIME PRIVATE WAGE AND
       SALARY EMPLOYEES AGE 16 OR OLDER (PERCENT COVERED)\1\
------------------------------------------------------------------------
                 Earnings                    Total      Men      Women
------------------------------------------------------------------------
      Total\2\............................        46        49        43
                                           -----------------------------
Under $10,000.............................        13        12        13
$10,000 to $14,999........................        33        27        39
$15,000 to $19,999........................        47        43        51
$20,000 to $24,999........................        58        57        60
$25,000 to $29,999........................        66        65        68
$30,000 to $39,999........................        72        71        73
$40,000 and over..........................        72        72       73
------------------------------------------------------------------------
\1\Based on 1988 earnings.
\2\Total includes workers not responding on earnings, not shown
  separately.

Source: Social Security Administration tabulations from 1988 Survey of
  Employee Benefits, supplement to May 1988 Current Population Survey.

    Industries with high pension coverage include
manufacturing, mining, financial services, and transportation
and public utilities. Coverage rates are nearly 60 percent in
each of these industries.\5\ In contrast, coverage rates are
under 30 percent in agriculture, retail trade, and services
other than financial and professional. Part of the difference
among industries appears to be due to differences in firm size.
Coverage is much lower for smaller firms. Smaller firms are
less likely to offer comprehensive fringe benefit packages as
part of total compensation. Only 11 percent of full-time
workers in firms with fewer than 10 employees are covered. The
rate rises with employer size but does not reach the 46 percent
average rate until firms have 250 or more employees (table 16-
6). Workers represented by a union are also more likely to be
covered under a pension than are other workers. Seventy-five
percent of those represented by a union are covered compared to
43 percent of those without a union. Union representation is
particularly important in coverage among small employers.
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    \5\John R. Woods, ``Pension Coverage Among Private Wage and Salary
Workers: Preliminary Findings From the 1988 Survey of Employee
Benefits,'' Social Security Bulletin, 52:10 (October 1989), p. 13.
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 TABLE 16-6.--DISTRIBUTION BY SIZE OF FIRM, COVERAGE UNDER EMPLOYER-
 FINANCED PENSION OR RETIREMENT PLANS, FULL-TIME PRIVATE WAGE AND SALARY
            WORKERS AGED 16 AND OLDER (PERCENT COVERED)
------------------------------------------------------------------------
      Firm size (number of workers)          Total      Men       Women
------------------------------------------------------------------------
      Total\1\............................        46        49        43
                                           -----------------------------
Fewer than 10.............................        11        12         9
10 to 24..................................        22        22        20
25 to 49..................................        29        33        23
50 to 99..................................        40        43        35
100 to 249................................        45        49        39
250 or more...............................        67        71        63
------------------------------------------------------------------------
\1\Total includes workers for whom firm size is unknown, not shown
  separately.

Source: John R. Woods, ``Pension Coverage Among Private Wage and Salary
  Workers: Preliminary Findings From the 1988 Survey of Employee
  Benefits,'' Social Security Bulletin, 52:10 (October 1989), p. 15.

    Significant differences in coverage also are apparent
between full-time private wage and salary workers and other
wage and salary workers. Coverage is much lower among part-time
workers and much higher among public employees.

Trends in coverage

    At the outset of World War II, private employer pensions
were offered by about 12,000 firms. Pensions spread rapidly
during and after the war, encouraged by high marginal tax rates
and war-time wage controls that exempted pension benefits. By
1972, when the first comprehensive survey was undertaken, 48
percent of full-time private employees were covered. Subsequent
surveys found that coverage reached 50 percent in 1979, but by
1983 had fallen back to 48 percent. The decline continued in
the 1980's, reaching 46 percent in 1988.\6\
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    \6\John R. Woods, ``Pension Coverage Among Private Wage and Salary
Workers: Preliminary Findings From the 1988 Survey of Employee
Benefits,'' Social Security Bulletin, 52:10 (October 1989), p. 17.
---------------------------------------------------------------------------

    The decline in coverage in the 1980s was concentrated among
younger men. The coverage rate among older men has fallen less
dramatically, and among women it has risen at some ages and
fallen at others. Explanations for the decline in coverage
among young men include the shifting of employment shares from
manufacturing to services and the declining share of employees
represented by a union contract. Both factors affect men more
than women and new job entrants more than long-tenured workers.
    The decline in pension coverage has occurred at the same
time that employers have been shifting from defined benefit
plans. Defined benefit plans provided basic plan coverage for
87 percent of private wage and salary workers in 1975.\7\ This
proportion dropped to 83 percent by 1980 and to 71 percent by
1985. This shifting composition has largely been the result of
rapid growth in primary defined contribution plans. Employee
stock ownership plans and 401(k) plans have been among the most
rapidly growing defined contribution plans.
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    \7\John A. Turner and Daniel Beller, eds., ``Trends in Pensions,''
Department of Labor, 1989, pp. 65, 357.
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                      INDIVIDUAL RETIREMENT PLANS

Legislative history

    The Employee Retirement Income Security Act of 1974 added
section 219 of the Internal Revenue Code, providing a tax
deduction for certain contributions to individual retirement
arrangements (IRAs) and permitting the deferral of tax on
amounts held in such arrangements until withdrawal. Active
participants in employer plans were not permitted to make
deductible IRA contributions.
    The Economic Recovery Tax Act of 1981 expanded eligibility
to individuals who were active participants and increased the
amount of the permitted deduction. The Tax Reform Act of 1986
limited the full IRA deduction to individuals with income below
certain levels and to individuals who are not active
participants in employer plans. Individuals who are not
entitled to the full IRA deduction may make nondeductible
contributions to an IRA.

Explanation of provision

    An individual who is an active participant in an employer
plan may deduct IRA contributions up to the lesser of $2,000
($2,250 for an individual with a nonworking spouse) or 100
percent of compensation if the individual's adjusted gross
income (AGI) does not exceed $25,000 for an unmarried
individual, $40,000 for a married couple filing a joint return,
and $0 for a married individual filing separately. A couple is
not treated as married if the spouses file separate returns and
do not live together at any time during the year. The deduction
is phased out over the following AGI ranges: (1) $25,000-
$35,000 for unmarried individuals, (2) $40,000-$50,000 for
married individuals filing a joint return, and (3) 0-$10,000
for married individuals filing separate returns. An individual
is entitled to make nondeductible contributions to the extent
deductible contributions are disallowed as a result of the
phaseout.
    An individual who is not an active participant in an
employer plan may deduct IRA contributions up to the limits
described above without limitation based on income.
    The investment income of IRA accounts is not taxed until
withdrawn. Withdrawn amounts attributable to deductible
contributions and all earnings are includible in income. A 10-
percent additional income tax is levied unless the withdrawal
(1) is made after the IRA owner attains age 59\1/2\ or dies,
(2) is made on account of the disability of the IRA owner, or
(3) is one of a series of substantially equal periodic payments
made not less frequently than annually over the life or life
expectancy of the IRA owner (or the IRA owner and his or her
beneficiary).

Effect of provision

    Use of IRAs expanded significantly when eligibility was
expanded in 1982 to all persons with earnings and contracted
correspondingly in 1987 when deductibility was restricted for
higher-income taxpayers who were covered by an employer-
provided pension. The number of taxpayers claiming a deductible
IRA contribution jumped from 3.4 million in 1981 to 12.0
million in 1982 and to 15.5 million in 1986. In 1987, only 7.3
million taxpayers reported deductible contributions. Since
then, the number has continued to fall (see table 16-7).

     TABLE 16-7.--USE OF DEDUCTIBLE IRAs FROM 1980 TO 1992
------------------------------------------------------------------------
                                              Number of tax
                                                 returns      Total IRA
                    Year                      deducting IRA   deductions
                                              contributions  (billions)
                                                (millions)
------------------------------------------------------------------------
1980........................................           2.6          $3.4
1981........................................           3.4           4.8
1982........................................          12.0          28.3
1983........................................          13.6          32.1
1984........................................          15.2          35.4
1985........................................          16.2          38.2
1986........................................          15.5          37.8
1987........................................           7.3          14.1
1988........................................           6.4          11.9
1989........................................           5.8          10.8
1990........................................           5.2           9.9
1991........................................           4.7           9.0
1992p.......................................           4.3           8.2
------------------------------------------------------------------------
p=Preliminary.

Source: Internal Revenue Service, Statistics of Income, 1981 to 1992.

    Upper-income taxpayers facing higher marginal tax rates
receive more benefit per dollar of IRA deduction than do lower-
income taxpayers facing lower marginal tax rates. When IRAs
were available to all workers the percentage of taxpayers
contributing to an IRA was substantially higher among taxpayers
with higher income. For example, in 1985, 13.6 percent of
taxpayers with AGI between $10,000 and $30,000 contributed to
an IRA compared with 74.1 percent of taxpayers with AGI between
$75,000 and $100,000.
    The decline in IRA use between 1985 and 1990 among those
with AGI between $10,000 and $30,000 appears to be larger than
the reduction required by the change in law, since the
restrictions on deductible contributions apply only to a small
fraction of taxpayers with AGI below $30,000.
    Eligibility percentages and the real value of the IRA
contribution limits decrease over time because present law does
not index the contribution limits or the income eligibility
limits for inflation. For example, the real value of a $2,000
contribution has declined more than 30 percent since 1986
because of inflation.
    Congress established IRAs to allow workers not covered by
employer pension plans to have tax-advantaged retirement
saving. Nonetheless, since 1981 IRA participation rates have
been higher among those covered by an employer-provided pension
plan than those without one, and many of those who are not
covered by a pension plan do not contribute to an IRA. For
example, in 1987, 10 percent of full-time private-sector
earners without pension coverage contributed to an IRA, while
15 percent of those with coverage contributed.\8\
---------------------------------------------------------------------------
    \8\John R. Woods, ``Pension Coverage Among Private Wage and Salary
Workers: Preliminary Findings From the 1988 Survey of Employee
Benefits,'' Social Security Bulletin, 52:10 (October 1989), p. 9.
---------------------------------------------------------------------------

     EXCLUSION OF SOCIAL SECURITY AND RAILROAD RETIREMENT BENEFITS

Legislative history

    Social Security benefits.--The exclusion from gross income
for Social Security benefits was not initially established by
statute. Prior to the Social Security Amendments of 1983, the
exclusion was based on a series of administrative rulings
issued by the Internal Revenue Service in 1938 and 1941.\9\
---------------------------------------------------------------------------
    \9\See I.T. 3194, 1938-1 C.B. 114, I.T. 3229, 1938-2 C.B. 136, and
I.T. 3447, 1941-1 C.B. 191.
---------------------------------------------------------------------------

    Under the Social Security Amendments of 1983, a portion of
the Social Security benefits paid to higher income taxpayers is
included in gross income. The Congress stated that Social
Security benefits are in the nature of benefits received under
other retirement systems, which are subject to taxation to the
extent they exceed a worker's nondeductible contributions, and
that taxing a portion of Social Security benefits improves tax
equity by treating more equally all forms of retirement income
and other income that is designed to replace wages. In 1993,
the Omnibus Budget Reconciliation Act increased the amount of
benefits subject to tax for some benefit recipients but did not
increase the number of beneficiaries who pay tax on benefits.
    Railroad retirement benefits.--The exclusion from gross
income of benefits paid under the railroad retirement system
was enacted in the Railroad Retirement Act of 1935. A portion
of the benefits payable under the railroad retirement system
(generally, tier 1 benefits) is equivalent to Social Security
benefits. The tax treatment of tier 1 railroad retirement
benefits was modified in the Social Security Amendments of 1983
to conform to the tax treatment of Social Security benefits.
Other railroad retirement benefits are taxable in the same
manner as employer-provided retirement benefits. The
Consolidated Omnibus Budget Reconciliation Act of 1985 provided
that tier 1 benefits are taxable in the same manner as Social
Security benefits only to the extent that Social Security
benefits otherwise would be payable. Other tier 1 benefits are
taxable in the same manner as all other railroad retirement
benefits.

Explanation of provision

    For taxpayers whose ``modified adjusted gross income''
exceeds certain limits, a portion of Social Security and tier 1
railroad retirement benefits is included in taxable income.
``Modified adjusted gross income'' is adjusted gross income
plus interest on tax-exempt bonds plus 50 percent of Social
Security and tier 1 railroad retirement benefits. A two-tier
structure applies. The base tier is $25,000 for unmarried
individuals and $32,000 for married couples filing joint
returns, and zero for married persons filing separate returns
who do not live apart at all times during the taxable year. The
amount of benefits includible in income is the lesser of (1) 50
percent of the Social Security and tier 1 railroad retirement
benefits, or (2) 50 percent of the excess of the taxpayer's
combined income over the base amount.
    The second tier applies to taxpayers with ``modified
adjusted gross income'' of at least $34,000 (unmarried
taxpayers) or $44,000 (married taxpayers filing joint returns).
For these taxpayers, the amount of benefits includible in gross
income is the lesser of (1) 85 percent of Social Security
benefits, or (2) the sum of 85 percent of the amount by which
modified adjusted gross income exceeds the second-tier
thresholds, and the smaller of the amount included under prior
law or $4,500 (unmarried taxpayers) or $6,000 (married
taxpayers filing jointly). The portion of tier 1 railroad
retirement benefits potentially includible in taxable income
under the above formula is the amount of benefits the taxpayer
would have received if covered under Social Security. Pursuant
to section 72(r) of the Internal Revenue Code of 1986, all
other benefits payable under the railroad retirement system are
includible in income when received to the extent they exceed
employee contributions.

Effect of provision

    About 15 percent of all Social Security recipients pay
taxes on their benefits. A large percentage of any current
Social Security recipient's benefit does not constitute a
return of the recipient's contributions (which were originally
made with after-tax dollars).
    The tax expenditure per tax return from the exclusion is
generally greater for those with incomes above $40,000 than for
those with incomes below $40,000. This is related to the
likelihood that higher income retirees were generally higher
income individuals during their working years who were more
likely to be eligible for the maximum benefit. The tendency for
the tax expenditure per return to rise with income would be
greater in the absence of the partial taxation of Social
Security benefits.

 EXCLUSION OF EMPLOYER CONTRIBUTION FOR MEDICAL INSURANCE PREMIUMS AND
                              MEDICAL CARE

Legislative history

    In 1943, the Internal Revenue Service (IRS) ruled that
employer contributions to group health insurance policies were
not taxable to the employee. Employer contributions to
individual health insurance policies, however, were declared to
be taxable income in an IRS revenue ruling in 1953.
    Section 106 of the Internal Revenue Code, enacted in 1954,
reversed the 1953 IRS ruling. As a result, employer
contributions to all accident or health plans generally are
excluded from taxable income. Under section 105 of the Internal
Revenue Code, benefits received under an employer's accident or
health plan generally are not included in the employee's
income.
    In the Revenue Act of 1978, Congress added section 105(h)
to tax the benefits payable to highly compensated employees
under a self-insured medical reimbursement plan if the plan
discriminated in favor of highly compensated employees.

Explanation of provision

    Gross income of an employee generally excludes employer-
provided coverage under an accident or health plan. The
exclusion applies to coverage provided to former employees,
their spouses, or dependents. Amounts excluded include those
received by an employee for personal injuries or sickness if
the amounts are paid directly or indirectly to reimburse the
employee for expenses incurred for medical care. However, this
exclusion does not apply in the case of amounts paid to a
highly compensated individual under a self-insured medical
reimbursement plan if the plan violates the nondiscrimination
rules of section 105(h).
    Present law permits employers to prefund medical benefits
for retirees. Postretirement medical benefits may be prefunded
by the employer in two basic ways: (1) through a separate
account in a tax-qualified pension plan (sec. 401(h)); or (2)
through a welfare benefit fund (secs. 419 and 419A). Generally,
the amounts contributed are excluded from the income of the
plan or participants. Although amounts held in a section 401(h)
account are accorded tax-favored treatment similar to assets
held in a pension trust, the benefits provided under a section
401(h) account are required to be incidental to the retirement
benefits provided by the plan. Amounts contributed to welfare
benefit funds are subject to certain deduction limitations
(secs. 419 and 419A). Additionally, the fund is subject to
income tax relating to any set-aside to provide postretirement
medical benefits.

Effect of provision

    The exclusion for employer-provided health coverage
provides an incentive for compensation to be furnished to the
employee in the form of health coverage, rather than in cash
subject to current taxation.
    For example, an employer designing a compensation package
for an employee would be indifferent between paying the
employee one dollar in cash and purchasing one dollar's worth
of health insurance for the employee.\10\ Because the employee
is likely to pay federal and state income taxes and payroll
taxes on cash compensation and no tax on health insurance
contributions made on his behalf, the employee would likely
prefer that some compensation be in the form of health
insurance. Employees subject to tax at the highest marginal tax
rates have the greatest incentive to receive compensation in
nontaxable forms.
---------------------------------------------------------------------------
    \10\To the extent the employer bears a portion of the payroll tax,
the employer may actually prefer to provide compensation through health
insurance (which is not subject to payroll tax).
---------------------------------------------------------------------------

    The tax preference that the exclusion provides is
substantial and has resulted in widespread access to health
care. A majority of the population now receives health
insurance as a consequence of their own employment or of a
family member's employment. In 1993, for 59 percent of the
population employment-based health insurance was the primary
source of health coverage, while 6 percent purchased insurance
privately, 13 percent received Medicare benefits, and 8 percent
received Medicaid benefits. Fifteen percent of the population
had no health insurance.\11\
---------------------------------------------------------------------------
    \11\The Congressional Budget Office. The Tax Treatment of
Employment-Based Health Insurance. (Washington, D.C.) March 1994. p. 7.
---------------------------------------------------------------------------

    Health coverage through employer-based plans tends to be
more prevalent in the manufacturing sector of the economy,
among medium and large firms, and for more highly paid workers,
especially those over the age of 30. (See Table 16-8).
    Despite the widespread use of employer-provided health
plans, the problem of access has worsened over the last 1\1/2\
decades. In 1980, 11 percent of the population had no health
insurance. This has risen steadily to the 15 percent of the
population without insurance in 1993.

TABLE 16-8.--PRIMARY SOURCE OF HEALTH INSURANCE FOR WORKERS UNDER AGE 65, BY DEMOGRAPHIC CATEGORY, 1992
----------------------------------------------------------------------------------------------------------------
                                                             Percentage distribution by source of insurance
                                             Number of ---------------------------------------------------------
                 Category                     workers      Own      Other                   Public         No
                                            (millions)  employer  employer  Individual  insurance\1\   insurance
                                                                              policy
----------------------------------------------------------------------------------------------------------------
All workers...............................      107.3       60.2      14.8        7.6          2.3         15.2
Industry:
    Agriculture...........................        2.6       24.2      14.2       25.2          3.4         33.0
    Construction..........................        6.3       45.5      14.2        9.7          2.4         28.2
    Finance...............................        7.3       65.7      15.9        7.9          1.1          9.5
    Government............................        5.3       83.8       8.3        1.9          1.5          4.5
    Manufacturing.........................       19.1       76.9       8.0        3.2          1.2         10.7
    Mining................................        0.6       81.1       6.0        3.0          1.1          8.7
    Retail trade..........................       16.1       42.4      18.4       10.6          3.8         24.9
    Services:
        Professional......................       26.2       62.1      19.6        7.0          2.3          8.9
        Other.............................       11.4       39.0      18.7       12.1          3.9         26.2
    Transportation........................        7.9       77.1       7.5        4.7          1.0          9.6
    Wholesale trade.......................        4.5       67.2      13.4        6.3          1.5         11.6
Wage rate\2\:
    Below $5.00...........................        9.0       21.6      18.3       12.0          9.9         38.2
    $5.00 to $9.99........................       36.9       53.7      17.5        6.2          2.8         19.8
    $10.00 to $14.99......................       24.2       76.0      11.5        3.9          0.8          7.7
    $15.00 or more........................       23.7       84.9       8.2        2.9          0.3          3.7
Family income as percentage of poverty
 level:
    Under 100.............................        6.5       16.4       2.8       12.8         15.7         52.3
    100 to 199............................       15.4       43.4       9.3        9.2          4.9         33.2
    200 to 299............................       19.7       58.2      14.9        7.9          1.5         17.5
    300 and over..........................       65.7       69.1      17.2        6.6          0.5          6.6
Firm size (number of employees):
    Fewer than 10.........................       21.2       24.6      24.6       19.9          3.2         27.7
    10 to 24..............................        9.3       46.4      18.4        9.5          3.3         22.4
    25 to 99..............................       13.7       57.5      14.6        5.9          2.6         19.4
    100 to 499............................       15.2       69.4      12.6        4.1          2.2         11.7
    500 to 999............................        6.0       74.8      11.7        3.6          1.6          8.4
    1,000 or more.........................       41.7       76.9      10.2        3.3          1.6          8.0
Age (years):
    Under 30..............................       26.7       51.9      11.4        8.6          3.4         24.6
    30 to 39..............................       33.5       61.4      15.9        5.9          2.3         14.5
    40 to 49..............................       26.8       64.1      17.2        6.8          1.5         10.3
    50 to 64..............................       20.2       64.2      14.1       10.0          1.5         10.2
----------------------------------------------------------------------------------------------------------------
\1\Public insurance includes Medicaid, Medicare, and coverage provided by the Department of Veterans Affairs.
\2\``Wage'' is the hourly wage for hourly employees and earnings per week divided by hours worked for nonhourly
  employees. The figures exclude individuals for whom an hourly wage could not be determined.

Note.--These estimates are CBO estimates based on the March 1992 Current Population Survey.

Source: The Congressional Budget Office. ``The Tax Treatment of Employer-Based Health Insurance.'' (Washington,
  D.C.) March 1994. p. 9.

                            CAFETERIA PLANS

Legislative history

    Under present law, compensation generally is includible in
gross income when received. An exception applies if an employee
may choose between cash and certain employer-provided
nontaxable benefits under a cafeteria plan.
    Prior to 1978 the Employee Retirement Income Security Act
of 1974 provided that an employer contribution made before
January 1, 1977, to a cafeteria plan in existence on June 27,
1974, was required to be included in an employee's gross income
only to the extent that the employee actually elected taxable
benefits. If a plan did not exist on June 27, 1974, the
employer contribution was to be included in income to the
extent the employee could have elected taxable benefits. The
Revenue Act of 1978 set up permanent rules for plans that offer
an election between taxable and nontaxable benefits.
    The Deficit Reduction Act of 1984 (P.L. 98-369) clarified
the types of employer-provided benefits that could be provided
through a cafeteria plan, added a 25-percent concentration
test, and required annual reporting to the IRS by employers.
    The Tax Reform Act of 1986 also modified the rules relating
to cafeteria plans in several respects.

Explanation of provision

    A participant in a cafeteria plan (section 125) is not
treated as having received taxable income solely because the
participant had the opportunity to elect to receive cash or
certain nontaxable benefits. In order to meet the requirements
of section 125, the plan must be in writing, must include only
employees (including former employees) as participants, and
must satisfy certain nondiscrimination requirements.
    In general, a nontaxable benefit may be provided through a
cafeteria plan if the benefit is excludable from the
participant's gross income by reason of a specific provision of
the Code. These include employer-provided health coverage,
group-term life insurance coverage, and benefits under
dependent care assistance programs. A cafeteria plan may not
provide qualified scholarships or tuition reduction,
educational assistance, miscellaneous employer-provided fringe
benefits, or deferred compensation except through a qualified
cash or deferred arrangement.
    If the plan discriminates in favor of highly compensated
individuals regarding eligibility to participate, to make
contributions or to receive benefits under the plan, then the
exclusion does not apply. For purposes of these
nondiscrimination requirements, a highly compensated individual
is an officer, a shareholder owning more than 5 percent of the
employing firm, a highly compensated individual determined
under the facts and circumstances of the case, or a spouse or
dependent of the above individuals.

Effects of provision

    The optimal compensation of employees (in a tax planning
sense) would require that employers and employees arrive at the
compensation package that provides the largest after-tax
benefit to the employee at minimum after-tax cost to the
employer.\12\ Both the potential taxation of compensation
provided to employees and the deductibility of compensation
provided by the employer would be considered. If only income
taxes were considered, employers would be indifferent between
the payment of $1 in salary or wages and the payment of $1 in
fringe benefits to an employee, because both types of
compensation are fully deductible. When the employer payments
for FICA and FUTA taxes are considered, the employer might
actually find it less costly to compensate an employee with a
dollar's worth of fringe benefit not subject to FICA and FUTA
taxes rather a dollar of wage or salary payments that have
these taxes assessed on them.
---------------------------------------------------------------------------
    \12\This analysis follows that contained in Myron Scholes and Mark
Wolfson, ``Taxes and Business Strategy: A Planning Approach,''
Prentice-Hall, 1992; see especially chapter 10.
---------------------------------------------------------------------------

    The employee, however, would prefer to be compensated in
the form that provides the highest after-tax value. An
additional dollar of salary or wage paid to the employee will
be subject to tax. If a fringe benefit is excludable from the
employee's income, the employee pays no tax on receipt of the
benefit. Consequently, the employee receives greater
compensation via this fringe benefit. This differential
treatment of salary or wage payments and excludable fringe
benefits implies that compensation packages designed to
minimize the joint tax liability of employers and employees
could include substantial amounts of excludable fringe
benefits.
    Employees may have different preferences about the
allocation of their compensation. For example, an employee with
no dependents may place little value on employer-provided life
insurance. Cafeteria plans permit employees some discretion as
to the provided benefits, and will tend to be preferred to
benefit plans where all employees of the firm receive the
identical benefit package.
    Cafeteria plans are a growing part of compensation plans,
particularly for larger employers. The Bureau of Labor
Statistics estimated that in 1991, 36 percent of employees at
large and medium sized firms were eligible for flexible
benefits and/or reimbursement accounts. This figure has grown
from an estimated 5 percent in 1986.\13\ Smaller firms
generally do not offer cafeteria plans to their workers. For
example, in 1992, only 14 percent of the workers in small,
private establishments (non-farm establishments with fewer than
100 employees) were eligible to participate in a cafeteria
plan. The lower figure for smaller firms reflects in part the
less generous fringe benefit packages provided by smaller
firms.
---------------------------------------------------------------------------
    \13\The source for these data is ``Employee Benefits in Medium and
Large Firms, 1991'', Bureau of Labor Statistics, Department of Labor,
(May, 1993) and ``Employee Benefits in Small Private Establishments,
1992'', Bureau of Labor Statistics, Department of Labor, (forthcoming).
---------------------------------------------------------------------------

    Like any income exclusion, the exclusion from gross income
for cafeteria plan benefits can lead to inequities in the tax
system. Employees with the same total compensation can have
taxable incomes that are substantially different because of the
form in which compensation is received. The exclusion for
cafeteria plan benefits also may be used in some cases to avoid
the 7.5 percent of AGI floor on deductible medical expenses.
The use of cafeteria plans reduces the after-tax cost of health
care to employees using these plans, which could cause these
employees to purchase an unnecessarily large amount of health
care services. Overutilization increases health care costs.\14\
On the other hand, cafeteria plans could encourage employers to
increase the share of premiums, copayments, and deductibles
paid by employees, resulting in increased employee awareness of
the costs of their health plans. This incentive could result in
reduced health care costs.
---------------------------------------------------------------------------
    \14\See, for instance, ``A Study of Cafeteria Plans and Flexible
Spending Accounts,'' U.S. Department of Health and Human Services, July
1985.
---------------------------------------------------------------------------

                     HEALTH CARE CONTINUATION RULES

Legislative history

    The Consolidated Omnibus Budget Reconciliation Act of 1985
added sections 106(b), 162(i)(2), and 162(k) to the Internal
Revenue Code under which certain group health plans are
required to offer health coverage to certain employees and
former employees, as well as to their spouses and dependents.
Parallel requirements were added to title I of the Employee
Retirement Income Security Act of 1974 and the Public Health
Services Act. If an employer failed to satisfy the health care
continuation rules, the employer was denied a deduction for
contributions to its group health plans and highly compensated
employees were required to include in taxable income the
employer-provided value of the coverage received under such
plans.
    The Technical and Miscellaneous Revenue Act of 1988 made
several changes to the health care continuation rules. Sections
106(b), 162(i)(2), and 162(k) were repealed and replaced by
section 4980B. Section 4980B imposes an excise tax on the
employer or other responsible party who fails to satisfy the
rules instead of denying deductions and the exclusion.

Explanation of provision

    The health care continuation rules in section 4980B require
that an employer provide qualified beneficiaries with the
opportunity to participate for a specified period in the
employer's health plan after that participation otherwise would
have terminated.
    The qualifying events that may trigger rights to
continuation coverage are: (1) the death of the employee, (2)
the voluntary or involuntary termination of the employee's
employment (other than by reason of gross misconduct), (3) a
reduction of the employee's hours, (4) the divorce or legal
separation of the employee, (5) the employee becoming entitled
to benefits under Medicare, and (6) a dependent child of the
employee ceasing to be a dependent under the employer's plan.
The maximum period of continuation coverage is 36 months,
except in the case of termination of employment or reduction of
hours for which the maximum period is 18 months. The 18-month
period is extended to 29 months in certain cases involving the
disability of the qualified beneficiary. Certain events, such
as the failure by the qualified beneficiary to pay the required
premium, may trigger an earlier cessation of the continuation
coverage.
    A beneficiary has a prescribed period of time during which
to elect continuation coverage after the employee receives
notice from the plan administrator of the right to continuation
coverage.

                     EXCLUSION OF MEDICARE BENEFITS

Legislative history

    The exclusion from income of Medicare benefits has never
been expressly established by statute. A 1970 IRS ruling, Rev.
Rul. 70-341, 1970-2 C.B. 31, provided that the benefits under
Part A of Medicare are not includible in gross income because
they are disbursements made to further the social welfare
objectives of the Federal Government. The Internal Revenue
Service relied on a similar ruling, Rev. Rul. 70-217, 1970-1
C.B. 13, with respect to the excludability of Social Security
disability insurance benefits in reaching this conclusion. (For
background on the exclusion of Social Security benefits, see
above.) Rev. Rul. 70-341 also held that benefits under Part B
of Medicare are excludable as amounts received through accident
and health insurance (though the subsidized portion of Part B
also may be excluded under the same theory applicable to the
exclusion of Part A benefits).

Explanation of provision

    Benefits under Part A and Part B of Medicare are excludable
from the gross income of the recipient. In general, Part A pays
for certain in-patient hospital care, skilled nursing facility
care, home health care, and hospice care for eligible
individuals (generally the elderly and the disabled). Part B
covers certain services of a physician and other medical
services for elderly or disabled individuals who elect to pay
the required premium.

                   DEDUCTIBILITY OF MEDICAL EXPENSES

Legislative history

    An itemized deduction for unreimbursed medical expenses
above a specified floor has been allowed since 1942. From 1954
through 1982, the floor under the medical expense deduction was
3 percent of the taxpayer's adjusted gross income (``AGI''); a
separate floor of 1 percent of AGI applied to expenditures for
medicine and drugs.
    In the Tax Equity and Fiscal Responsibility Act of 1982
(TEFRA), the floor was increased to 5 percent of AGI (effective
for 1983 and thereafter) and was applied to the total of all
eligible medical expenses, including prescription drugs and
insulin. TEFRA made nonprescription drugs ineligible for the
deduction and eliminated the separate floor for drug costs.
    The Tax Reform Act of 1986 increased the floor under the
medical expense deduction to 7.5 percent of AGI, beginning in
1987.

Explanation of provision

    Individuals who itemize deductions may deduct amounts they
pay during the taxable year, if not reimbursed by insurance or
otherwise, for medical care of the taxpayer and of the
taxpayer's spouse and dependents, to the extent that the total
of such expenses exceeds 7.5 percent of AGI (sec. 213).
    Medical care expenses eligible include (1) health insurance
(including after-tax employee contributions to employer health
plans); (2) diagnosis, treatment, or prevention of disease, or
for the purpose of affecting any structure or function of the
body; (3) transportation primarily for and essential to medical
care; (4) lodging away from home primarily for and essential to
medical care, up to $50 per night; and (5) prescription drugs
and insulin.
    Expenses paid for the general improvement of health, such
as fees for exercise programs, are not eligible for the
deduction unless prescribed by a physician to treat a specific
illness. A deduction is not allowed for cosmetic surgery or
similar procedures that do not meaningfully promote the proper
function of the body or treat disease. However, such expenses
are deductible if the cosmetic procedure is necessary to
correct a deformity arising from a congenital abnormality, an
injury resulting from an accident, or disfiguring disease.
    Medical expenses are not subject to the general limitation
on itemized deductions applicable to taxpayers with adjusted
gross incomes above a certain limit ($111,800 for 1994 and
adjusted annually for inflation).

Effect of provision

    The Code allows taxpayers to claim an itemized deduction if
unreimbursed medical expenses absorb a substantial portion of
income and thus adversely affect the taxpayer's ability to pay
taxes. In order to limit the deduction to extraordinary medical
expenses, medical expenses are deductible only to the extent
that they exceed 7.5 percent of the taxpayer's AGI.
    Table 16-9 shows the effect on medical expense deductions
of the increases in the floor on medical deductions. In the
absence of those increases, one would have expected the number
of taxpayers claiming the deduction and the average deduction
claimed to have increased because of inflation of medical
costs. However, increasing the floor should reduce the number
of taxpayers claiming the deduction and should increase the
average deduction claimed because many taxpayers with
relatively modest expenses no longer qualify while taxpayers
with large expenses continue to qualify. The average deduction
claimed has increased substantially, from $769 in 1980 to
$4,420 in 1992. Both increases in the floor (to 5 percent in
1983 and to 7.5 percent in 1987) substantially reduced the
number of taxpayers claiming deductions.

   TABLE 16-9.--TAX RETURNS CLAIMING DEDUCTIBLE MEDICAL AND DENTAL
                         EXPENSES, 1980-92
------------------------------------------------------------------------
                                          Returns claiming medical and
                                                 dental expenses
                       Total number of ---------------------------------
        Year            returns filed      Number of        Deductible
                        (in millions)     returns (in      expenses (in
                                           millions)        billions)
------------------------------------------------------------------------
1980.................             93.2             19.5            $15.0
1981.................             95.4             21.4             17.9
1982.................             95.3             22.0             21.7
1983.................             96.3              9.7             18.1
1984.................             99.4             10.7             21.5
1985.................            101.7             10.8             22.9
1986.................            103.0             10.5             25.1
1987.................            107.0              5.4             17.2
1988.................            109.7              4.8             18.0
1989.................            112.1              5.1             20.9
1990.................            113.7              5.1             21.5
1991.................            114.7              5.3             23.7
1992.................           p106.3             p5.0            p22.1
------------------------------------------------------------------------
p=Preliminary.

Source: Internal Revenue Service, ``Statistics of Income,'' various
  years.

    Taxpayers in higher tax-rate brackets receive more of a
benefit from each dollar of deductible medical expense than do
taxpayers in lower tax-rate brackets. However, because the
floor automatically rises with a taxpayer's income, higher-
income taxpayers are able to deduct a smaller amount (if any)
of medical expenses above their floor than are lower-income
taxpayers incurring the same aggregate amount of medical
expenses.
    In 1994, 4,877,000 taxpayers are expected to claim the
itemized deduction for medical expenses. Of that number, 60
percent have incomes of $50,000 or less. (See Table 16-10.)

    TABLE 16-10.--DISTRIBUTION OF ITEMIZED DEDUCTIONS FOR MEDICAL
                           EXPENSES, 1994
------------------------------------------------------------------------
                                         Returns      Amount
       Income class (thousands)        (thousands)  (millions)   Average
------------------------------------------------------------------------
0 to $10.............................           15         $3       $191
$10 to $20...........................          247         82        333
$20 to $30...........................          742        293        395
$30 to $40...........................        1,021        470        460
$40 to $50...........................          896        502        561
$50 to $75...........................        1,312      1,038        791
$75 to $100..........................          413        638      1,545
$100 to $200.........................          206        502      2,444
$200 and over........................           26        265    10,173
                                      ----------------------------------
      Total..........................        4,877      3,793       778
------------------------------------------------------------------------
Source: Joint Committee on Taxation.

                        EARNED INCOME TAX CREDIT

Legislative history

    The earned income tax credit (Code sec. 32) was enacted in
1975.
    Generally, the credit equals a specified percentage of
wages up to a maximum dollar amount. The maximum amount applies
over a certain income range and then diminishes to zero over a
specified phaseout range. The income ranges and percentages
have been revised several times since original enactment,
expanding the credit. (See Table 16-11.)
    In 1987, the credit was indexed for inflation. In 1990 and
1993, the expansions of the credit were quite large. In 1990,
auxiliary credits were added for very young children and for
health insurance premiums paid on behalf of a qualifying child.
These were repealed in 1993. Also in 1993, the group eligible
for the credit was expanded to include childless workers.

                       TABLE 16-11.--EARNED INCOME TAX CREDIT PARAMETERS, 1975-94
----------------------------------------------------------------------------------------------------------------
                                                               Minimum                          Phaseout range
                                                               income              Phaseout --------------------
                Calendar year                   Credit rate      for     Maximum     rate
                                                (percent)\2\   maximum   credit   (percent)  Beginning   Ending
                                                               credit                          income    income
----------------------------------------------------------------------------------------------------------------
1975-78......................................         10        $4,000      $400      10.00     $4,000    $8,000
1979-80......................................         10         5,000       500      12.50      6,000    10,000
1981-84......................................         10         5,000       500      12.50      6,000    10,000
1985-86......................................         11         5,000       550      12.22      6,500    11,000
1987.........................................         14         6,080       851      10.00      6,920    15,432
1988.........................................         14         6,240       874      10.00      9,840    18,576
1989.........................................         14         6,500       910      10.00     10,240    19,340
1990.........................................         14         6,810       953      10.00     10,730    20,264
1991:
    One child................................         16.7       7,140     1,192      11.93     11,250    21,250
    Two children.............................         17.3       7,140     1,235      12.36     11,250    21,250
1992:
    One child................................         17.6       7,520     1,324      12.57     11,840    22,370
    Two children.............................         18.4       7,520     1,384      13.14     11,840    22,370
1993:
    One child................................         18.5       7,750     1,434      13.21     12,200    23,050
    Two children.............................         19.5       7,750     1,511      13.93     12,200    23,050
1994:
    One child................................         26.3       7,750     2,038      15.98     11,000    23,750
    Two children.............................         30.0       8,425     2,528      17.86     11,000    25,300
1996:\1\\2\
    One child................................         34.0       6,160     2,094      15.98     11,290    24,395
    Two children.............................         40.0       8,900     3,560      21.06     11,620    28,524
----------------------------------------------------------------------------------------------------------------
\1\Projection.
\2\Credit rates and phaseout rates remain the same for all years after 1996. Income amounts are indexed for
  inflation.

Source: Joint Committee on Taxation.

Explanation of provision

    Eligibility.--The EITC is available to low-income working
taxpayers. Three separate schedules apply.
    Taxpayers with one qualifying child may claim a credit in
1994 of 26.3 percent of their earnings up to $7,750, resulting
in a maximum credit of $2,038. The maximum credit is available
for those with earnings between $7,750 and $11,000. At $11,000
of earnings the credit begins to phase down at a rate of 15.98
percent of the amount of earnings above that amount. The credit
is phased down to $0 at $23,753 of earnings. In 1995, the
credit rate for a one-child family is 34.0 percent; the maximum
credit begins at $6,160 of earnings and applies up to $11,290;
the phase down rate continues to be 15.98 percent, resulting in
a $0 credit at $24,395.
    Taxpayers with more than one qualifying child may claim a
credit in 1994 of 30.0 percent of earnings up to $8,425,
resulting in a maximum credit of $2,528. The maximum credit is
available for those with earnings between $8,425 and $11,000.
At $11,000 of earnings the credit begins to phase down at a
rate of 17.68 percent of earnings above that amount. The credit
is phased down to $0 at $25,300 of earnings. In 1995, the
credit rate for a family with more than one qualifying child is
36.0 percent; the maximum credit begins at $8,650; the phase-
down rate is 20.22 percent of earnings above $11,290, resulting
in a $0 credit at $26,690. In 1996, the credit rate is 40.0
percent; the maximum credit begins at $8,900 and applies up to
$11,620; the phase-down rate is 21.06, resulting in a $0 credit
at $28,525.
    Taxpayers with no qualifying children may claim a credit if
they are over age 25 and below age 65. The credit is 7.65
percent of earnings up to $4,000, resulting in a maximum credit
of $306. The maximum is available for those with incomes
between $4,000 and $5,000. At $5,000 of earnings, the credit
begins to phase down at rate of 7.65 percent of earnings above
that amount, resulting in a $0 credit at $9,000.
    All income thresholds are indexed for inflation annually.
    In order to be a qualifying child, an individual must
satisfy a relationship test, a residency test, and an age test.
The relationship test requires that the individual be a child,
stepchild, a descendent of a child, or a foster or adopted
child of the taxpayer. The residency test requires that the
individual have the same place of abode as the taxpayer for
more than half the taxable year. This household must be located
in the United States. The age test requires that the individual
be under 19 (24 for a full-time student) or be permanently and
totally disabled.
    Refundability and advance payment.--The EITC is the only
refundable tax credit; i.e., if the amount of the credit
exceeds the taxpayer's Federal income tax liability, the excess
is payable to the taxpayer as a direct transfer payment.
    Under an advance payment system (available since 1979),
eligible taxpayers may elect to receive the benefit of the
credit in their periodic paychecks, rather than waiting to
claim a refund on their return filed by April 15 of the
following year. In 1993, Congress required that the IRS begin
to notify eligible taxpayers of the advance payment option.
After two years, the Secretary of Treasury is required to
report on the effect of notification on participation.
    Interaction with means-tested programs.--The treatment of
the EITC for purposes of AFDC and food stamp benefit
computations has varied since inception of the credit. When
enacted in 1975, the credit was not considered income in
determining AFDC and food stamp benefits, and the credit could
not be received on an advance basis. From January 1979 through
September 1981, the credit was treated as earned income when
actually received.
    From October 1981 to September 1984, the amount of the
credit was treated as earned income and was imputed to the
family even though it may not have been received as an advance
payment. Pursuant to the Deficit Reduction Act of 1984, the
credit was treated as earned income only when received, either
as an advance payment or as a refund after conclusion of the
year.
    Under the Family Support Act of 1988, States generally were
required to disregard any advance payment or refund of the EITC
when calculating AFDC eligibility or benefits. However, the
credit was counted against the gross income eligibility
standard (185 percent of the State need standard) for both
applicants and recipients.
    OBRA 1990 specified that, effective January 1, 1991, the
EITC was not to be taken into account as income (for the month
in which the payment is received or any following month) or as
a resource (for the month in which the payment is received or
the following month) for determining the eligibility or amount
of benefit for AFDC, Medicaid, SSI, food stamps, or low-income
housing programs.

Effect of provision

    Eighteen million taxpayers are expected to take advantage
of the EITC in 1994 (see Table 16-12). Their claims are
expected to total $19.6 billion, 84 percent of which will be
refunded as direct payments to these families. When the credit
is fully phased in in 1996, 18.7 million families are expected
to take advantage of the credit. Their claims are expected to
total $25.1 billion. As table 16-12 also shows, two-thirds of
the tax relief or direct spending from the EITC accrues to
single parents who file as heads of households.
    Table 16-13 shows the total amount of earned income credit
received for each of the calendar years since the inception of
the program, the number of recipient families, the amount of
the credit received as refunded payments, and the average
amount of credit received per family.

                TABLE 16-12.--DISTRIBUTION OF TAX EXPENDITURES: EARNED INCOME TAX CREDIT
                                    [Number in thousands; amount in millions]
----------------------------------------------------------------------------------------------------------------
                                                         Joint returns     Head of household      All returns
                                                     -------------------- and single returns -------------------
              Income class (thousands)                                   --------------------
                                                       Number    Amount    Number    Amount    Number    Amount
----------------------------------------------------------------------------------------------------------------

                                                      1994

----------------------------------------------------------------------------------------------------------------
$0 to $10...........................................     1,044     1,029     5,040     4,124     6,084     5,153
$10 to $20..........................................     2,003     3,291     4,233     6,473     6,236     9,764
$20 to $30..........................................     2,330     2,002     2,620     2,193     4,950     4,194
$30 to $40..........................................       443       296       264       182       707       478
$40 to $50..........................................        53        32         6         6        59        39
$50 to $75..........................................        21        16         2         4        23        20
$75 to $100.........................................     (\1\)     (\2\)     (\1\)     (\2\)     (\1\)     (\2\)
$100 to $200........................................  ........  ........  ........  ........  ........  ........
$200 and over.......................................  ........  ........  ........  ........  ........  ........
                                                     -----------------------------------------------------------
    Total...........................................     5,893     6,665    12,166    12,982    18,059    19,647
Percent distribution by type of return..............      32.6      30.8      67.4      69.2     100.0     100.0

----------------------------------------------------------------------------------------------------------------

                                                      1996

----------------------------------------------------------------------------------------------------------------
$0 to $10...........................................       970     1,164     4,480     4,259     5,450     5,423
$10 to $20..........................................     1,780     3,796     4,237     7,824     6,017    11,620
$20 to $30..........................................     2,438     3,162     2,950     3,398     5,388     6,560
$30 to $40..........................................       970       727       700       584     1,670     1,312
$40 to $50..........................................       114        92        16        13       129       105
$50 to $75..........................................        33        31         3         6        36        37
$75 to $100.........................................         3         2     (\1\)     (\2\)         3         2
$100 to $200........................................     (\1\)     (\2\)  ........  ........     (\1\)     (\2\)
$200 and over.......................................  ........  ........  ........  ........  ........  ........
                                                     -----------------------------------------------------------
    Total...........................................     6,305     8,974    12,387    16,084    18,692    25,058
Percent distribution by type of return..............      33.7      35.8      66.3      64.2       100      100
----------------------------------------------------------------------------------------------------------------
\1\Less than 500 returns.
\2\Less than $500,000.

Source: Joint Committee on Taxation.

                             TABLE 16-13.--EARNED INCOME TAX CREDIT 1975-96
----------------------------------------------------------------------------------------------------------------
                                                              Number of
                                                               families      Total     ``Refunded''
                                                                 who       amount of    portion of     Average
           Calendar year to which credit applies               received      credit      credit\1\    credit per
                                                                credit     (millions)   (millions)      family
                                                             (thousands)
----------------------------------------------------------------------------------------------------------------
1975.......................................................        6,215       $1,250          $900         $201
1976.......................................................        6,473        1,295           890          200
1977.......................................................        5,627        1,127           880          200
1978.......................................................        5,192        1,048           801          202
1979.......................................................        7,135        2,052         1,395          288
1980.......................................................        6,954        1,986         1,370          286
1981.......................................................        6,717        1,912         1,278          285
1982.......................................................        6,395        1,775         1,222          278
1983.......................................................        7,368        1,795         1,289          224
1984.......................................................        6,376        1,638         1,162          257
1985.......................................................        7,432        2,088         1,499          281
1986.......................................................        7,156        2,009         1,479          281
1987.......................................................        8,738        3,931         2,930          450
1988.......................................................       11,148        5,896         4,257          529
1989.......................................................       11,696        6,595         4,636          564
1990.......................................................       12,612        6,928         5,303          549
1991\2\....................................................       13,105       10,589         7,849          808
1992\3\....................................................       13,433       12,434         9,625          926
1993\3\....................................................       14,004       13,239        10,883          945
1994\3\....................................................       18,059       19,647        16,549        1,088
1995\3\....................................................       18,411       22,806        19,220        1,239
1996\3\....................................................       18,692       25,058        21,026        1,341
----------------------------------------------------------------------------------------------------------------
\1\This is the portion of the credit that exceeds tax liability. It is treated as a budget outlay because it is
  a direct payment to the beneficiary.
\2\Preliminary.
\3\Projection.

Source: Joint Committee on Taxation.

            EXCLUSION OF PUBLIC ASSISTANCE AND SSI BENEFITS

Legislative history

    While there is no specific statutory authorization, a
number of revenue rulings under Code section 61 have held
specific types of public assistance payments are excludable
from gross income. Revenue rulings generally exclude Government
transfer payments from income because they are considered to be
general welfare payments. Taxing benefits provided in kind,
rather than in cash, would require valuation of these benefits,
which could create administrative difficulties.

Explanation of provision

    The Federal Government provides tax-free public assistance
benefits to individuals either by cash payments or by provision
of certain goods and services at reduced cost or free of
charge. Cash payments come mainly from the Aid to Families with
Dependent Children (AFDC) and Supplemental Security Income
(SSI) programs. In-kind payments include food stamps, Medicaid,
and housing assistance. None of these payments are subject to
income tax.

                       DEPENDENT CARE TAX CREDIT

Legislative history

    Under section 21 of the Internal Revenue Code, taxpayers
are allowed an income tax credit for certain employment-related
expenses for dependent care. The Internal Revenue Code of 1954
provided a deduction to gainfully employed women, widowers, and
legally separated or divorced men for certain employment-
related dependent care expenses. The deduction was limited to
$600 per year and phased out for families with incomes between
$4,500 and $5,100.
    The Revenue Act of 1964 made husbands with incapacitated
wives eligible for the dependent care deduction and raised the
threshold for the income phaseout from $4,500 to $6,000.
    The Revenue Act of 1971 (1) made any individual who
maintained a household and was gainfully employed eligible for
the deduction, (2) modified the definition of a dependent, (3)
raised the deduction limit to $4,800 per year, (4) increased
from $6,000 to $18,000 the income level at which the deduction
began to phase out, (5) allowed the deduction for household
services in addition to direct dependent care, and (6) limited
the deduction with respect to services outside the taxpayer's
household.
    The Tax Reduction Act of 1975 increased from $18,000 to
$35,000 the income level at which the deduction began to be
phased out.
    The Tax Reform Act of 1976 replaced the deduction with a
nonrefundable credit. This change broadened eligibility to
those who do not itemize deductions and provided relatively
greater benefit to lower-income taxpayers. In addition, the Act
eased the rules related to family status and simplified the
computation.
    In the Economic Recovery Tax Act of 1981, Congress provided
a higher ceiling on creditable expenses, a larger credit for
lower-income individuals, and modified rules relating to care
provided outside the home.
    The Family Support Act of 1988 reduced to 13 the age of a
child for whom the dependent care credit may be claimed,
reduced the amount of eligible expenses by the amount of
expenses excludible from that taxpayer's income under the
dependent care exclusion, and disallowed the credit unless the
taxpayer reports on his or her tax return the correct name,
address, and taxpayer identification number (generally, an
employer identification number or a Social Security number) of
the dependent care provider.

Explanation of provision

    A taxpayer may claim a nonrefundable credit against income
tax liability for up to 30 percent of a limited amount of
employment-related dependent care expenses. Eligible
employment-related expenses are limited to $2,400 if there is
one qualifying dependent or $4,800 if there are two or more
qualifying dependents. Generally, a qualifying individual is a
dependent under the age of 13 or a physically or mentally
incapacitated dependent or spouse.
    Employment-related dependent care expenses are expenses for
the care of a qualifying individual incurred to enable the
taxpayer to be gainfully employed, other than expenses incurred
for an overnight camp. For example, amounts paid for the
services of a housekeeper generally qualify if such services
are performed at least partly for the benefit of a qualifying
individual; amounts paid for a chauffeur or gardener do not
qualify.
    Expenses that may be taken into account in computing the
credit generally may not exceed an individual's earned income
or, in the case of married taxpayers, the earned income of the
spouse with the lesser earnings. Thus, if one spouse is not
working, no credit generally is allowed. Also, the amount of
expenses eligible for the dependent care credit is reduced,
dollar for dollar, by the amount of expenses excludible from
that taxpayer's income under the dependent care exclusion
(discussed below).
    The 30-percent credit rate is reduced, but not below 20
percent, by 1 percentage point for each $2,000 (or fraction
thereof) of adjusted gross income (AGI) above $10,000. Because
married couples are required to file a joint return to claim
the credit, a married couple's combined AGI is used for
purposes of this computation.

Effect of provision

    From 1976 to 1992, the number of families who claimed the
dependent care credit increased from 2.7 to 5.5 million, the
aggregate amount of credits claimed increased from $0.5 billion
to $2.3 billion, and the average amount of credit claimed per
family increased from $206 to $423 (see table 16-14). In 1994,
6.1 million families are expected to claim an average credit of
$435, for a total of $2.7 billion.
    Changes made in the Family Support Act of 1988 generally
reduced the attractiveness of the dependent care credit,
resulting in the dramatic drop in utilization of the credit
that occurred in 1989. The number of families who claimed the
credit dropped by about one-third and the amount of credit
claimed declined by over $1.373 billion. The average credit
claimed, though, remained relatively constant.
    Most of the dependent care credit is claimed by families
filing joint returns.
    Preliminary data for 1992 from the Internal Revenue Service
show that about 15 percent of the benefit from the credit
accrues to families with AGI of less than $20,000; about 48
percent to families with AGI between $20,000 and $50,000; and
about 36 percent to families with AGI above $50,000.\15\
---------------------------------------------------------------------------
    \15\The Internal Revenue Service. SOI Bulletin. Volume 13, number
2. Fall 1993. p. 30.
---------------------------------------------------------------------------

        TABLE 16-14.--DEPENDENT CARE TAX CREDIT, 1976-94
------------------------------------------------------------------------
                                      Number of
                                       returns     Aggregate    Average
                                       claiming    amount of    credit
           Calendar year              dependent     credit      claimed
                                        credit      claimed   per return
                                     (thousands)  (millions)
------------------------------------------------------------------------
1976...............................        2,660        $548         206
1977...............................        2,910         521         179
1978...............................        3,431         654         191
1979...............................        3,833         793         207
1980...............................        4,231         956         226
1981...............................        4,578       1,148         251
1982...............................        5,004       1,501         300
1983...............................        6,367       2,051         322
1984...............................        7,456       2,649         351
1985...............................        8,417       3,127         372
1986...............................        8,950       3,398         380
1987...............................        8,520       3,438         404
1988...............................        9,023       3,813         423
1989...............................        6,028       2,440         405
1990...............................        6,144       2,549         415
1991\1\............................        5,380       2,285         425
1992\1\............................        5,498       2,324         423
1993\2\............................        5,717       2,450         428
1994\2\............................        6,121       2,662         435
------------------------------------------------------------------------
\1\Preliminary.
\2\Projection.

Source: Joint Committee on Taxation.

             EXCLUSION FOR EMPLOYER-PROVIDED DEPENDENT CARE

Legislative history

    The value of certain employer-provided dependent care is
excluded from the employee's gross income. The Economic
Recovery Tax Act of 1981 added this exclusion (section 129) and
amended Code sections 3121(a)(18) and 3306(b)(13) to exclude
such employer-provided dependent care from wages for purposes
of the Federal Insurance Contributions Act (FICA) and the
Federal Unemployment Tax Act (FUTA). The Tax Reform Act of 1986
modified the nondiscrimination rules and limited the exclusion
to $5,000 a year ($2,500 in the case of a separate return by a
married individual). The Family Support Act of 1988 required
the amount of employer-provided dependent care excluded from
the taxpayer's income to reduce, dollar for dollar, the amount
of expenses eligible for the dependent care credit.

Explanation of provision

    Amounts paid or incurred by an employer for dependent care
assistance provided to an employee generally are excluded from
the employee's gross income if the assistance is furnished
under a program meeting certain requirements. These
requirements include that the program be described in writing,
satisfy certain nondiscrimination rules, and, provide for
notification to all eligible employees. The type of dependent
care eligible for the exclusion is the same as the type of
expenses eligible for the dependent care credit.
    The dependent care exclusion is limited to $5,000 per year
except that a married taxpayer filing a separate return may
exclude only $2,500. Amounts excluded from gross income
generally are excludible from wages for employment tax
purposes.

Effect of provision

    The exclusion provides an incentive to taxpayers with
expenses for dependent care to seek compensation in the form of
dependent care assistance rather than in cash subject to
taxation. This incentive is of greater value to employees in
higher tax brackets.
    Many employees covered by the exclusion for employer-
provided dependent care also are eligible to use the dependent
care tax credit. While the limitations on the exclusion and the
credit differ, the credit generally is less valuable than the
exclusion for taxpayers who are above the 15-percent tax
bracket.
    According to a survey of private firms with 100 or more
workers conducted by the Department of Labor, nearly one-tenth
of full-time workers at these firms were eligible for child
care benefits provided by the employer in the form of on-site
or near-site child care facilities or through direct
reimbursement of employee expenses.\16\ A more prevalent form
of providing dependent care benefits is through reimbursement
accounts, which may cover other nontaxable fringe benefits,
such as out-of-pocket health care expenses, in addition to
dependent care. Slightly over one-third of full-time employees
at large and medium sized firms were eligible for such accounts
in 1991.
---------------------------------------------------------------------------
    \16\The source of these data is ``Employee Benefits in Medium and
Large Firms, 1991,'' Bureau of Labor Statistics, Department of Labor,
May 1993.
---------------------------------------------------------------------------

                        TARGETED JOBS TAX CREDIT

Legislative history

    Congress enacted the targeted jobs tax credit (Code sec.
51) in the Revenue Act of 1978. A taxpayer is eligible to claim
the credit if the taxpayer employs individuals who receive
payments under means-tested transfer programs, economically
disadvantaged (as measured by family income), or are disabled.
    The targeted jobs credit was subsequently extended with
certain modifications several times. The credit is scheduled to
expire for individuals hired after December 31, 1994.

Explanation of provision

    The targeted jobs tax credit is available to employers on
an elective basis for hiring individuals from nine targeted
groups. The targeted groups are: (1) vocational rehabilitation
referrals, (2) economically disadvantaged youths aged 18
through 22, (3) economically disadvantaged Vietnam-era
veterans, (4) Supplemental Security Income (SSI) recipients,
(5) general assistance recipients, (6) economically
disadvantaged cooperative education students aged 16 through
19, (7) economically disadvantaged former convicts, (8) Aid to
Families with Dependent Children (AFDC) recipients and Work
Incentive (WIN) registrants, and (9) economically disadvantaged
summer youth employees aged 16 or 17. Targeted group membership
must be certified.
    An individual is a member of an economically disadvantaged
family if the designated local agency determines that the
family had an income during the previous 6-month period that,
when annualized, would be 70 percent or less of the Bureau of
Labor Statistics lower living standard income level. These
income levels vary by geographic region, with the highest
levels generally applying to metropolitan areas in the
Northeast and the lowest levels generally applying to
nonmetropolitan areas in the Southeast.
    The credit generally is equal to 40 percent of the first
$6,000 of qualified first-year wages paid to a member of a
targeted group. Thus, the maximum credit generally is $2,400
per individual. With respect to economically disadvantaged
summer youth employees, however, the credit is equal to 40
percent of up to $3,000 of wages, for a maximum credit of
$1,200.
    The credit is not available for wages paid to a targeted
group member unless the individual either (1) is employed by
the employer for at least 90 days (14 days in the case of
economically disadvantaged summer youth employees) or (2) has
completed at least 120 hours of work performed for the employer
(20 hours in the case of economically disadvantaged summer
youth employees). Also, the employer's deduction for wages must
be reduced by the amount of the credit. A taxpayer may not
claim the credit for wages paid to a targeted-group individual
who performs the same or substantially similar services as an
employee participating in or affected by a strike or lockout.

Effect of provision

    The targeted jobs tax credit serves as a subsidy to the
employer for hiring targeted group members. For example, the
targeted jobs credit would provide an effective subsidy of
about 18 percent of the first-year wages of a full-time
employee hired at the minimum wage ($4.25 per hour) by a
corporate employer.\17\ In 1991, almost three-quarters of all
certifications were for economically disadvantaged youths age
18 to 22 (52.4 percent) or AFDC recipients and WIN registrants
(21.0 percent).
---------------------------------------------------------------------------
    \17\Assume a corporation hired a member of a targeted group full-
time at the minimum wage of $4.25 an hour. Wage payments to the
employee would be $8,500 and the credit to the employer would be
$2,400. The employer's actual subsidy is smaller however, because he
must reduce his deduction for wages paid by the amount of the credit.
At a 35 percent tax rate, this results in $840 of additional tax. Thus,
the net subsidy would be $1,560. This is 18 percent of the $8,500 wage
cost.
---------------------------------------------------------------------------

 EXCLUSION OF WORKERS' COMPENSATION AND SPECIAL BENEFITS FOR DISABLED
                              COAL MINERS

Legislative history

    Workers' compensation.--Workers' compensation benefits
generally are not taxable under section 104(a)(1) of the
Internal Revenue Code of 1986. Workers' compensation benefits
are treated as Social Security benefits to the extent that they
reduce Social Security benefits received (see above). This
exclusion from gross income was first codified in the Revenue
Act of 1918. The Ways and Means Committee report for that Act
suggests that such payments were not subject to tax even prior
to the 1918 Act.
    Benefits for disabled coal miners.--Payments made to coal
miners or their survivors for death or disability resulting
from pneumoconiosis (black lung disease) under the Federal Coal
Mine Health and Safety Act of 1969 (as amended) are excluded
from gross income. Payments made as a result of claims filed
before December 31, 1972, originally were excluded from Federal
income tax by the Federal Coal Mine Health and Safety Act of
1969. Later payments are excluded from gross income because
they are considered to be in the nature of workers'
compensation (Rev. Rul. 72-400, 1972-2 C.B. 75).

Explanation of provision

    Workers' compensation.--Gross income does not include
amounts received as workers' compensation for personal injuries
or sickness. This exclusion also applies to benefits paid under
a workers' compensation act to a survivor of a deceased
employee.
    Benefits for disabled coal miners.--Benefits for disabled
coal miners (black lung benefits) are not includible in gross
income.
    There are two types of black lung programs. The first
involves Federal payments to coal miners and their survivors
due to death or disability, payable for claims filed before
July 1, 1973 (December 31, 1973, in the case of survivors).
This program provided total annual payments of around $850
million to approximately 200,000 beneficiaries in 1991.\18\
---------------------------------------------------------------------------
    \18\Social Security Bulletin, various issues.
---------------------------------------------------------------------------

    The second program requires coal mine operators to insure
payment of black lung benefits for claims filed on or after
July 1, 1973 (December 31, 1973, in the case of survivors) in a
federally mandated workers' compensation program. Benefits
include medical treatment as well as cash payments. These
benefits are paid from a trust fund financed by an excise tax
on coal production if there is no responsible operator (an
operator for whom the miner worked for at least one year) or if
the responsible operator is in default. This program provided
total annual payments of around $610 million to approximately
156,550 claimants in 1986.\19\
---------------------------------------------------------------------------
    \19\Department of Labor, Employment Standards Administration,
``Annual Report on Administration of Black Lung Benefits Act During
Calendar Year 1986,'' January 1989, tables 3 and 6.
---------------------------------------------------------------------------

        ADDITIONAL STANDARD DEDUCTION FOR THE ELDERLY AND BLIND

Legislative history

    From 1954 through 1986, an additional personal exemption
was allowed for a taxpayer or a spouse who was 65 years or
older at the close of the year. An additional personal
exemption also was allowed for a taxpayer or a spouse who was
blind.
    The Tax Reform Act of 1986 repealed the additional personal
exemption for the elderly and blind and replaced it with an
additional standard deduction amount. These additional standard
deduction amounts are adjusted for inflation.

Explanation of provision

    The additional standard deduction amount for the elderly or
the blind is $750 in 1994 for an elderly or a blind individual
who is married (whether filing jointly or separately) or is a
surviving spouse, and $1,500 for such an individual who is both
elderly and blind. The additional amount is $950 for a head of
household who is elderly or blind ($1,900, if both), and for a
single individual (i.e., an unmarried individual other than a
surviving spouse or head of household) who is elderly or blind.
    The definitions of elderly and blind status have not been
changed since 1954. An elderly person is an individual who is
at least 65 years of age. Blindness is defined in terms of the
ability to correct a deficiency in distance vision or the
breadth of the area of vision. An individual is blind only if
central vision acuity is not better than 20/200 in the better
eye with correcting lenses, or if visual acuity is better than
20/200 but is accompanied by a limitation in the fields of
vision such that the widest diameter of the visual field
subtends an angle no greater than 20 degrees.

Effect of provision

    The additional standard deduction increases the tax
threshold for elderly and blind taxpayers. For example, the
additional amount is $1,500 for two elderly individuals filing
a joint return, raising the tax threshold in 1994 from $11,250
to $12,750.
    In 1994, about 11.9 million taxpayers are expected to claim
the extra standard deduction. Of those, 9.4 million are
expected to benefit from the additional deductions. (The others
are expected to itemize their deductions.) About 70 percent of
the 9.4 million beneficiaries have incomes of less than
$40,000.

      TAX CREDIT FOR THE ELDERLY AND CERTAIN DISABLED INDIVIDUALS

Legislative history

    The present tax credit for individuals who are age 65 or
over, or who have retired on permanent and total disability,
was enacted in the Social Security Amendments of 1983 (Code
sec. 22). This credit replaced the previous credit for the
elderly, which had been enacted in the Tax Reform Act of 1976.
Prior to that provision, the tax law provided a retirement
income credit, which initially was enacted in the Internal
Revenue Code of 1954.

Explanation of provision

    Individuals who are age 65 or older may claim a
nonrefundable income tax credit equal to 15 percent of a base
amount. The credit also is available to an individual,
regardless of age, who is retired on disability and who was
permanently and totally disabled at retirement. For this
purpose, an individual is considered permanently and totally
disabled if he or she is unable to engage in any substantial
gainful activity by reason of any medically determinable
physical or mental impairment that can be expected to result in
death, or that has lasted or can be expected to last for a
continuous period of not less than 12 months. The individual
must furnish proof of disability to the IRS.
    The maximum base amount is $5,000 for unmarried elderly or
disabled individuals and for married couples filing a joint
return if only one spouse is eligible; $7,500 for married
couples filing a joint return with both spouses eligible; or
$3,750 for married couples filing separate returns. For a
nonelderly, disabled individual the initial base amount is the
lesser of the applicable specified amount or the individual's
disability income for the year. Consequently, the maximum
credit available is $750 (15 percent of $5,000), $1,125 (15
percent of $7,500), or $562.50 (15 percent of $3,750).
    The maximum base amount is reduced by the amount of certain
nontaxable income of the taxpayer, such as nontaxable pension
and annuity income or nontaxable Social Security, railroad
retirement, or veterans' nonservice-related disability
benefits. In addition, the base amount is reduced by one-half
of the taxpayer's AGI in excess of certain limits: $7,500 for a
single individual, $10,000 for married taxpayers filing a joint
return, or $5,000 for married taxpayers filing separate
returns. These computational rules reflect that the credit is
designed to provide tax benefits to individuals who receive
only taxable retirement or disability income, or who receive a
combination of taxable retirement or disability income plus
Social Security benefits that generally are comparable to the
tax benefits provided to individuals who receive only Social
Security benefits (including Social Security disability
benefits).

Effect of provision

    In 1991, $57 million in elderly and disabled credit was
claimed. The utilization rate and average credit granted has
been relatively stable since the credit was modified by the
Social Security Amendments of 1983, as shown in table 16-15.

 TABLE 16-15.--CREDIT FOR THE ELDERLY AND DISABLED, 1976-94\1\
------------------------------------------------------------------------
                                    Number of
                                     families
                                       who         Total       Average
                                     received    amount of    credit per
                                      credit       credit      return
                                   (thousands)  (millions)

------------------------------------------------------------------------
Calendar year:
    1976.........................        1,011         $206         $204
    1977.........................          569           93          163
    1978.........................          689          145          210
    1979.........................          607          132          217
    1980.........................          562          135          240
    1981.........................          474          124          262
    1982.........................          483          131          271
    1983.........................          423          116          275
    1984.........................          475          107          225
    1985.........................          460          106          230
    1986.........................          430           86          200
    1987.........................          354           67          189
    1988.........................          357           69          193
    1989.........................          320           65          202
    1990.........................          342           63          183
    1991\1\......................          280           54          193
    1992\1\......................          281           67          238
    1993\2\......................          208        \2\62          298
    1994\2\......................          158        \2\32          203
------------------------------------------------------------------------
\1\Preliminary.
\2\Projection.

Source: Joint Committee on Taxation.

                  TAX EXPENDITURES RELATED TO HOUSING

                         OWNER-OCCUPIED HOUSING

Legislative history

    Deductibility of mortgage interest.--Prior to the Tax
Reform Act of 1986, all interest payments on indebtedness
incurred for personal use (e.g., to purchase consumption goods)
were deductible in computing taxable income. The 1986 Act
amended section 163(h) of the Internal Revenue Code to disallow
deductions for all personal interest except for interest on
indebtedness secured by a first or second home.
    In the Omnibus Budget Reconciliation Act of 1987, Congress
further restricted the deductibility of mortgage interest. Only
two classes of interest were distinguished as deductible:
interest on acquisition indebtedness and interest on home
equity indebtedness. Acquisition indebtedness, defined as
indebtedness secured by a residence and used to acquire or
improve the residence by which it is secured, was limited to
$1,000,000 ($500,000 in the case of a married individual filing
a separate return). Home equity indebtedness, defined as any
nonacquisition indebtedness secured by a residence (for
example, a home equity loan), was limited to the lesser of (1)
$100,000 ($50,000 for married taxpayers filing separately) or
(2) the excess of the fair market value of the residence over
the acquisition indebtedness.
    Deferral of capital gains from sale of principal
residence.--Prior to 1951, capital gains on housing were taxed
when realized. This treatment was consistent with the tax
treatment of other capital assets. In 1951, Congress added
section 112(n) to the Internal Revenue Code of 1939, permitting
capital gains from the sale of a principal residence to be
deferred (rolled over) as long as a new principal residence was
purchased within the 24-month period beginning 12 months before
the date of sale of the old residence and ending 12 months
after the sale of the old residence. When capital gains are
rolled over, the basis of the newly purchased house must be
reduced by the amount of deferred gains. This rollover period
had been extended twice and now is 24 months before and 24
months after the sale of the old residence.
    Exclusion of capital gains for certain taxpayers.--In the
Revenue Act of 1964, Congress introduced section 121 of the
Internal Revenue Code of 1954, which permitted a one-time
exclusion of all or part of the gain on the sale of a principal
residence by older individuals. This exclusion was limited to
homeowners who had lived in the property as a principal
residence for 5 out of the last 8 years before the property's
sale or exchange. Furthermore, full exclusion was permitted
only for houses that sold for $20,000 or less.
    The parameters of this exclusion have been modified and
expanded a number of times. Currently, the one-time exclusion
is allowed to taxpayers 55 or older for capital gain up to
$125,000 if they have lived in the property as a principal
residence for 3 of the past 5 years.

Explanation of provisions

    Homeowners may deduct a number of expenses related to
housing as itemized deductions in computing taxable income.
These include payments of interest on qualified residence debt,
certain interest on home equity loans, certain payments of
points (i.e., up-front interest payments) on the purchase of a
house, and payments of real property taxes. Interest on
acquisition debt of $1,000,000 or less is fully deductible, as
is any interest on debt secured by a residence that was
incurred on or before October 13, 1987. Interest on home equity
indebtedness of $100,000 is fully deductible for regular tax
purposes, as long as the total amount of debt (acquisition plus
home equity indebtedness) does not exceed the fair market value
of the house. Interest on home equity indebtedness exceeding
$100,000 (and incurred after October 13, 1987) or exceeding the
difference between the fair market value of the home and the
acquisition indebtedness is not deductible. Interest paid on
home equity loans is generally not deductible in computing the
alternative minimum tax.
    Capital gains from the sale of residences generally are
subject to tax when realized, unless one of two conditions is
met. First, capital gains are not taxed if a new residence of
equal or greater value is purchased or constructed within a
period 24 months before to 24 months after the first residence
is sold. If the price of the new residence is less than the
selling price of the old residence (less any selling expenses)
then the difference between the two prices must be recognized
as a gain. The basis of the new residence must be reduced by
the amount of the excluded gain.
    Second, taxpayers age 55 or older may exclude once in their
lifetime up to $125,000 ($62,500 for married taxpayers filing
separately) of capital gain on the sale of a principal
residence.

Effects of provision

    The Tax Code has provided favorable treatment for housing
consumption in a number of ways. Two of the largest subsidies
are that the imputed rental value of owner-occupied housing is
not taxed and that capital gains generated by investment in
housing are given favorable tax treatment. The annual economic
net return to an investment in owner-occupied housing consists
of the rental value of the home plus any capital gains (or
losses) on the house (whether realized or not), less the
interest paid on mortgage debt outstanding and costs of repairs
and maintenance. Because the tax system does not include the
imputed value of homeowners' rent in gross income, this part of
the return is untaxed.
    However, because the rental value of homes is difficult to
measure, the tax expenditures estimated are only for
deductibility of mortgage interest and property taxes, the
deferral of capital gains, and the exclusion of capital gains
for taxpayers older than 55.
    In the President's budget submission for fiscal year 1995,
the Administration estimates forgone revenue from tax
expenditures.\20\ The fiscal year 1995 revenue loss from the
deductibility of mortgage interest on owner-occupied housing is
projected to be $54.8 billion; from the deferral of capital
gains on homes sales, $14.6 billion; and the one-time exclusion
of capital gains on home sales for people age 55 and older,
$5.0 billion. Preliminary tax return information for 1992
indicates that 27 million taxpayers claimed the deduction for
mortgage interest. Data are not yet available on how many
claimed the one-time exclusion. (It is not possible to identify
how many taxpayers deferred tax on home sales because
homeowners do not have to report gain to the IRS until it is
realized.)
---------------------------------------------------------------------------
    \20\Analytical Perspectives, Budget of the United States
Government, Fiscal Year 1995. p. 77.
---------------------------------------------------------------------------

    This favorable treatment of owner-occupied housing may
affect both the home ownership rate and the share of total
investment in housing in the United States.
    Homeownership.--The traditional view has been that the tax
system encourages homeownership. Consider an investor who buys
a house for $100,000 that could be rented for $10,000 per year.
Excluding tax considerations, that investor would be equally
well off purchasing a $100,000 bond that paid $10,000 per year
in interest, and renting a similar house for $10,000. However,
the investor who purchases the house pays no tax on the return
to the investment (the $10,000 per year in imputed rent),
whereas the investor who rents and purchases a bond pays tax on
the $10,000 of interest.
    Such preferential treatment may benefit neighborhoods
because it encourages homeownership and home improvement. The
United States has maintained a high rate of homeownership--64
percent of all American households own the homes they live in.
Some feel that the tax preferences may be larger than necessary
to maintain high rates of home ownership.
    Investment in housing.--The tax advantages for owner-
occupied housing encourage people to invest in homes instead of
taxable business investments. This shift may lead to a
relatively low rate of investment in business assets in the
United States. One study suggested that housing capital is 25
percent higher and other capital is 12 percent lower than it
would be if tax policy provided equal treatment for all forms
of capital.\21\ Currently, about one-third of net private
investment goes into owner-occupied housing, so even a modest
shift of investment to other assets could have sizable effects.
---------------------------------------------------------------------------
    \21\See Edwin S. Mills, ``Dividing up the Investment Pie: Have We
Overinvested in Housing?'', Philadelphia Business Review, March-April
1987, 13-23.
---------------------------------------------------------------------------

                       LOW-INCOME HOUSING CREDIT

Legislative history

    The low-income rental housing tax credit was first enacted
in the Tax Reform Act of 1986. The Omnibus Budget
Reconciliation Act of 1989 substantially modified the credit.
The Omnibus Budget Reconciliation Act of 1993 modified the
credit and made it permanent.

Explanation of provision

    A tax credit may be claimed by owners of residential rental
property used for low-income rental housing. The credit is
claimed annually, generally for a period of 10 years. New
construction and rehabilitation expenditures for low-income
housing projects are eligible for a maximum 70 percent present
value credit, claimed annually for 10 years. The acquisition
cost of existing projects that meet the substantial
rehabilitation requirements and the cost of newly constructed
projects receiving other Federal subsidies are eligible for a
maximum 30 percent present value credit, also claimed annually
for 10 years. These credit percentages are adjusted monthly
based on an Applicable Federal Rate.
    The credit amount is based on the qualified basis of the
housing units serving the low-income tenants. A residential
rental project will qualify for the credit only if (1) 20
percent or more of the aggregate residential rental units in
the project are occupied by individuals with 50 percent or less
of area median income, or (2) 40 percent or more of the
aggregate residential rental units in the project are occupied
by individuals with 60 percent or less of area median income.
These income figures are adjusted for family size. Maximum
rents that may be charged families in units on which a credit
is claimed depend on the number of bedrooms in the unit. The
rent limitation is 30 percent of the qualifying income of a
family deemed to have a size of 1.5 persons per bedroom (e.g.,
a two-bedroom unit has a rent limitation based on the
qualifying income for a family of three).
    Credit eligibility also depends on the existence of a 30-
year extended low-income use agreement for the property. If
property on which a low-income housing credit is claimed ceases
to qualify as low-income rental housing or is disposed of
before the end of a 15-year credit compliance period, a portion
of the credit may be recaptured. The 30-year extended use
agreement creates a State law right to enforce low-income use
for an additional 15 years after the initial 15-year recapture
period.
    In order for a building to be a qualified low-income
building, the building owner generally must receive a credit
allocation from the appropriate credit authority. An exception
is provided for property that is substantially financed with
the proceeds of tax-exempt bonds subject to the State's
private-activity bond volume limitation. The low-income housing
credit is allocated by State or local government authorities
subject to an annual limitation for each State based on State
population. The annual credit allocation per State is $1.25 per
resident.

Effect of provision

    Comprehensive data from tax returns concerning the low
income housing tax credit currently are unavailable. However,
table 16-16 presents data from a survey of State credit
allocating agencies. These data indicate that allocation of the
available credit rose from approximately 20 percent in 1987,
the initial year of credit availability, to nearly complete
allocation in 1989, but allocation subsequently fell to 65
percent in 1990. There are several reasons why the 1990
experience may not be indicative of the long-term use of the
credit. First, 1990 was the first year following substantial
modification to the credit, including the requirement of an
additional low-income commitment beyond the credit compliance
period. The substantial modification may be expected to delay
some use of the credit. Moreover, the initial allocative
authority for 1990 was limited to $0.9375 per capita per State
rather than the $1.25 per capita per State for 1987-89. While
the Omnibus Budget Reconciliation Act of 1990 restored 1990
credit authority to $1.25 per capita per State, the restoration
occurred late in the calendar year and the reaction of
allocation agencies and investors may have been delayed. In
addition, 1990 was marked by a general economic slowdown in the
real estate industry. On the other hand, the 1991 and 1992 data
on credit authority reflect credits unallocated or returned
from prior years carried over to 1991 and 1992.

TABLE 16-16.--ALLOCATION OF THE LOW INCOME HOUSING CREDIT, 1987-92
------------------------------------------------------------------------
                                                              Percentage
                Years                  Authority   Allocated   allocated
                                      (millions)  (millions)   (percent)
------------------------------------------------------------------------
1987................................      $313.1       $62.9        20.1
1988................................       311.5       209.8        67.4
1989................................       314.2       307.2        97.8
1990................................       317.7       213.1        67.0
1991\1\.............................       497.3       400.6        80.6
1992\1\.............................       476.8       332.7        70.0
------------------------------------------------------------------------
\1\Increased authority includes credits unallocated from prior years
  carried over to the current year.

Source: Survey of State allocating agencies.

 THE EFFECT OF TAX EXPENDITURES ON THE INCOME AND TAXES OF THE ELDERLY
                              AND THE POOR

    Table 16-17 presents values of the personal exemptions,
standard deductions, additional standard deductions for the
elderly and the blind, and taxable income brackets for 1990 to
2000. The figures for 1995 to 2000 are based on Congressional
Budget Office projections.

                              TABLE 16-17.--PERSONAL EXEMPTIONS, STANDARD DEDUCTIONS, AND TAXABLE INCOME BRACKETS
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                    Projected
                                    1990       1991       1992       1993       1994   -----------------------------------------------------------------
                                                                                           1995       1996       1997       1998       1999       2000
--------------------------------------------------------------------------------------------------------------------------------------------------------
Personal exemptions............     $2,050     $2,150     $2,300     $2,350      2,450      2,500      2,550      2,650      2,750      2,800      2,900
Standard deductions:
    Joint......................      5,450      5,700      6,000      6,200      6,350      6,550      6,750      6,950      7,150      7,350      7,600
    Single.....................      3,250      3,400      3,600      3,700      3,800      3,900      4,050      4,150      4,300      4,400      4,550
    Head of household..........      4,750      5,000      5,250      5,450      5,600      5,750      5,900      6,100      6,300      6,500      6,700
Additional standard deductions
 for elderly/blind:
    Joint (each individual)....        650        650        700        700        750        750        800        800        850        850        900
    Single/head of household...        800        850        900        900        950        950      1,000      1,000      1,050      1,100      1,100

    Taxable Income Brackets
Joint returns:
    15 percent rate ends at....     32,450     34,000     35,800     36,900     38,000     39,000     40,150     41,350     42,650     44,000     45,350
    28 percent rate ends at....     78,400     82,150     86,500     89,150     91,850     94,300     97,050    100,000    103,100    106,300    109,600
    31 percent rate ends at....  .........  .........  .........    140,000    140,000    143,700    147,900    152,350    157,100    161,950    167,000
    36 percent rate ends at....  .........  .........  .........    250,000    250,000    256,600    264,100    272,100    280,550    289,250    298,200
Single returns:
    15 percent rate ends at....     19,450     20,350     21,450     22,100     22,750     23,350     24,050     24,750     25,550     26,350     27,150
    28 percent rate ends at....     47,050     49,300     51,900     53,500     55,100     56,550     58,250     60,000     61,850     63,750     67,750
    31 percent rate ends at....  .........  .........  .........    115,000    115,000    118,000    121,500    125,150    129,050    133,050    137,150
    36 percent rate ends at....  .........  .........  .........    250,000    250,000    256,600    264,100    272,100    280,550    289,250    298,200
Heads of households:
    15 percent rate ends at....     26,050     27,300     28,750     29,600     30,500     31,300     32,200     33,200     34,200     35,250     36,350
    28 percent rate ends at....     67,200     70,450     74,150     76,400     78,700     80,800     83,150     85,700     88,350     91,100     93,900
     31 percent rate ends at...  .........  .........  .........    127,500    127,500    130,850    134,700    138,750    143,050    147,500    152,050
    36 percent rate ends at....  .........  .........  .........    250,000    250,000    256,600    264,100    272,100    280,550    289,250    298,200
--------------------------------------------------------------------------------------------------------------------------------------------------------
Note.--The 39.6 percent rate begins at $250,000 (for 1993 and 1994), regardless of filing status. This income threshold is indexed for inflation
  beginning in 1995. The amounts shown in the table as the end points for the 36 percent bracket are also the beginning points for the 39.6 percent
  bracket.

Source: Congressional Budget Office.

          HYPOTHETICAL TAX CALCULATIONS FOR SELECTED FAMILIES

    Table 16-18 presents examples of tax liabilities for
hypothetical taxpayers. The table presents 1994 Federal income
and payroll tax burdens. The worker is assumed to bear both the
employer and employee shares of FICA tax (7.65 percent for
each). Taxpayers claim the earned income tax credit, if
eligible, and they claim the standard deduction. They do not
itemize. Income sources are listed in the table's footnotes for
each example.

  TABLE 16-18.--EXAMPLES OF FEDERAL INCOME AND PAYROLL TAX LIABILITIES OF HYPOTHETICAL TAXPAYERS, 1994
----------------------------------------------------------------------------------------------------------------
                                                                                             Overall    Overall
                                                             Income                          average    marginal
                          Income                              tax      FICA tax  Total tax     tax        tax
                                                           liability  liability  liability   rate\1\    rate\1\
                                                                                            (percent)  (percent)
----------------------------------------------------------------------------------------------------------------
Joint filer--3 exemptions:\2\
    $10,000..............................................    -$2,038     $1,530      -$508       -4.7       14.2
    $30,000..............................................      2,445      4,590      7,035       21.8       28.1
    $50,000\12\..........................................      4,898      7,650     12,548       23.3       40.2
    $100,000\13\.........................................     15,402     10,042     25,444       24.2       30.5
Head of household--2 personal exemptions:\2\
    $10,000..............................................     -2,038      1,530       -508       -4.7       14.2
    $30,000..............................................      2,865      4,590      7,455       23.1       28.1
    $50,000\12\..........................................      5,863      7,650     13,513       25.1       40.2
    $100,000\13\.........................................     17,063     10,042     27,105       25.8       33.4
Elderly couple filing joint return:
    $10,000\3\...........................................          0          0          0        0.0     \6\0.0
    $30,000\4\...........................................        788          0        788        2.6    \7\15.0
    $50,000\5\...........................................      4,688      1,530      6,218       12.2       40.0
Elderly single filer:
    $10,000\8\...........................................          0          0          0        0.0     \6\0.0
    $30,000\9\...........................................      2,389          0      2,389        8.0   \11\22.5
    $50,000\10\..........................................      8,712      3,060     11,772       22.8       40.2
----------------------------------------------------------------------------------------------------------------
\1\The average tax rate is total tax liability divided by income plus the employer share of FICA. The marginal
  rate computations also count the employer share of FICA tax as income to the employee (for both payroll and
  income tax purposes). Unless otherwise noted, all calculations assume the taxpayer takes the standard
  deduction rather than itemized deductions.
\2\Assumes one child, one earner, and all income is wage income.
\3\All income is Social Security.
\4\$12,000 is Social Security, $12,000 is a taxable pension and $6,000 is taxable interest.
\5\Same as above plus additional $10,000 of taxable interest and $10,000 of wages.
\6\If the marginal dollar of income is assumed to consist of wage income, the marginal tax rate would be 14.2
  percent. This represents the FICA tax liability on this income.
\7\If the marginal dollar of income is assumed to consist of wage income, the marginal tax rate would be 28.1
  percent, representing both the income tax liability and the FICA tax liability on this income.
\8\$7,500 is Social Security, $2,500 is taxable pension.
\9\$7,500 is Social Security, $7,500 is taxable pension, $15,000 is taxable interest.
\10\Same as above plus $20,000 of wages.
\11\If the marginal dollar of income is assumed to consist of wage income, the marginal tax rate would be 35.1
  percent, representing both the income tax liability (22.5 percent marginal rate reflects the inclusion of 50
  cents of Social Security benefits as taxable for each additional dollar of AGI) and the FICA tax liability on
  this income.
\12\Assumes taxpayer claims itemized deductions of $10,000.
\13\Assumes taxpayer claims itemized deductions of $20,000.

Source: Joint Committee on Taxation.

                      TAX TREATMENT OF THE ELDERLY

    Present law contains several provisions that reduce, or in
some cases eliminate, the burden of Federal income tax on
senior citizens. These provisions are: the exemption from
income taxation of some or all of an individual's Social
Security benefits; a tax credit for certain taxpayers who do
not receive substantial Social Security income; and an
additional standard deduction for taxpayers age 65 and older.
These are described in detail in preceding portions of this
section.
    As a result of these favorable tax provisions, the tax
threshold (the level of income, excluding Social Security, at
which tax liability is incurred) for elderly taxpayers is well
above the poverty level. For example, in 1994, a single elderly
individual with $5,000 in Social Security benefits can have up
to $7,200 in other income without incurring tax liability (or
total income of $12,200). An elderly married couple filing
jointly with $5,000 in excluded Social Security benefits has a
tax threshold of $13,500 (or total income of $18,500). Table
16-19 displays similar information for other years and for
varying amounts of Social Security benefits.
    The combination of these tax provisions ensures that an
estimated 43 percent of elderly individuals will have no tax
liability for 1994 (see table 16-20).

   TABLE 16-19.--INCOME TAX THRESHOLDS FOR ELDERLY INDIVIDUALS,\1\
                     SELECTED YEARS, 1988-2000
------------------------------------------------------------------------
                               Amount of Social Security income
   Year and filing   ---------------------------------------------------
       status             Zero        $2,500       $5,000       $7,500
------------------------------------------------------------------------
1988:
    Single..........        9,633        7,967        5,700        5,700
    Joint...........       15,067       13,400       11,733       10,100
1990:
    Single..........        9,900        8,233        6,100        6,100
    Joint...........       15,567       13,900       12,233       10,850
1991:
    Single..........       10,100        8,433        6,400        6,400
    Joint...........       15,867       14,200       12,533       11,300
1992:
    Single..........       10,367        8,700        6,800        6,800
    Joint...........       16,333       14,667       13,000       12,000
1993:
    Single..........       10,467        8,800        6,950        6,950
    Joint...........       16,533       14,867       13,200       12,300
1994:\2\
    Single..........       10,633        8,967        7,200        7,200
    Joint...........       16,833       15,167       13,500       12,750
1995:\2\
    Single..........       10,733        9,067        7,350        7,350
    Joint...........       17,033       15,367       13,700       13,050
1996:\2\
    Single..........       10,900        9,233        7,600        7,600
    Joint...........       17,300       15,633       13,967       13,450
1997\2\:
    Single..........       11,033        9,367        7,800        7,800
    Joint...........       17,587       15,900       14,233       13,850
1998\2\:
    Single..........       11,233        9,567        8,100        8,100
    Joint...........       17,900       16,233       14,567       14,350
1999\2\:
    Single..........       11,367        9,700        8,300        8,300
    Joint...........       18,100       16,433       14,767       14,650
2000\2\:
    Single..........       11,533        9,867        8,550        8,550
    Joint...........       18,467       16,800       15,133      15,200
------------------------------------------------------------------------
\1\The tax threshold is the amount of adjusted gross income (excluding
  Social Security) at which tax liability begins. Table assumes
  taxpayers are 65 or older, are not blind, and receive no tax-exempt
  disability benefit, annuity, or pension income other than Social
  Security income.
\2\Estimated.

Source: Congressional Budget Office.

                DISTRIBUTION OF FAMILY INCOME AND TAXES

    Table 16-20 presents estimates of the distribution of
families and individuals by the Federal individual income tax
rate brackets for calendar year 1995. This allows for
comparison of data about the elderly to data about other types
of families and about the total population. As shown in the
bottom panel, slightly over 28 million families pay no Federal
income taxes. There are slightly over 54 million families with
134 million individuals who are in the 15 percent bracket.
These families on average had income of approximately $35,000
and paid Federal taxes of $2,315 per family. There are
approximately 4 million families who face marginal income tax
rates of 31 percent or above.
    Table 16-21 is a more complicated version of table 6. It
illustrates for various types of wage-earners the additional
(marginal) Federal tax these wage-earners will pay if they earn
one more dollar of wages. For purposes of this table, marginal
tax rates include both Federal income and payroll taxes. The
majority of single wage earners have income between $20,000 and
$30,000 per year and face marginal tax rates of 20.0 to 24.9
percent.

      TABLE 16-20.--DISTRIBUTION OF FAMILIES AND PERSONS BY MARGINAL FEDERAL INCOME TAX RATE, 1995
                                  [Number of families and persons in thousands]
----------------------------------------------------------------------------------------------------------------
                                                      Families               Persons              Families
                                               -----------------------------------------------------------------
                                                                                             Average    Average
          Marginal tax rate (percent)                                                        pre-tax    Federal
                                                  Number    Percent     Number    Percent     income     income
                                                                                              ($)\1\    tax ($)
----------------------------------------------------------------------------------------------------------------
Families with children:
    0.........................................      8,944       24.0     34,161       23.4      9,830     -1,152
    15........................................     20,023       53.6     78,719       53.9     41,785      2,445
    28........................................      7,214       19.3     28,405       19.5     89,984      9,979
    31........................................        639        1.7      2,551        1.8    165,775     26,437
    36........................................        262        0.7      1,018        0.7    238,058     44,553
    39.6......................................        265        0.7      1,099        0.8    703,165    198,206
                                               -----------------------------------------------------------------
      Total...................................     37,346      100.0    145,952      100.0     51,626      5,132
                                               =================================================================
Families with aged head:
    0.........................................     10,831       48.6     15,564       43.4     14,099         -1
    15........................................      8,193       36.7     14,273       39.8     35,260      1,757
    28........................................      2,564       11.5      4,786       13.3     77,171      9,814
    31........................................        421        1.9        709        2.0    138,572     22,574
    36........................................        184        0.8        359        1.0    245,045     50,011
    39.6......................................        106        0.5        203        0.6    975,682    221,219
                                               -----------------------------------------------------------------
      Total...................................     22,298      100.0     35,895      100.0     37,932      3,659
                                               =================================================================
Other families:
    0.........................................      8,248       16.4     10,871       13.4      5,937        -88
    15........................................     25,593       51.0     41,371       51.1     30,261      2,391
    28........................................     14,163       28.2     24,789       30.6     69,274      8,690
    31........................................      1,403        2.8      2,388        3.0    130,708     21,393
    36........................................        470        0.9        977        1.2    241,126     52,271
    39.6......................................        295       0.60        631        0.8    861,466    212,503
                                               -----------------------------------------------------------------
      Total...................................     50,173      100.0     81,026      100.0     46,952      5,997
                                               =================================================================
All families:
    0.........................................     28,023       25.5     60,595       23.1     10,334       -394
    15........................................     53,809       49.0    134,363       51.1     35,310      2,315
    28........................................     23,941       21.8     57,980       22.1     76,360      9,199
    31........................................      2,463        2.2      5,648        2.2    141,150     22,903
    36........................................        916        0.8      2,354        0.9    241,034     49,609
    39.6......................................        665        0.6      1,933        0.7    816,659    208,203
                                               -----------------------------------------------------------------
      Total...................................    109,817      100.0    262,873      100.0     46,710      5,228

----------------------------------------------------------------------------------------------------------------
\1\Excluding corporate income taxes and employer paid Social Security and U.I. taxes.

Source: Congressional Budget Office.

                            TABLE 16-21.--DISTRIBUTION OF EARNERS BY INCOME AND MARGINAL TAX RATES ON WAGES,\1\ 1995
                                                     [In thousands of earners, tax rates in percent]
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                 Income in thousands of 1995 dollars
                  Marginal tax rate                  ------------------------------------------------------------------------------------------    All
                                                         <10      10-20     20-30     30-40     40-50     50-75    75-100    100-200    200+     incomes
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                            All earners ages 21-64 without Social Security benefits

                                                     ---------------------------------------------------------------------------------------------------
Less than 0.........................................     2,842       341        43         6         3         0         0         0         0     3,236
0 to 4.9............................................     1,414        46        14         0         0         0         0         0         0     1,474
5.0 to 9.9..........................................     4,822     1,155       184        31         8         4         2         0         0     6,206
10.0 to 14.9........................................         0         0         0         0         0         0         0         0         0         0
15.0 to 19.9........................................       755       102        13         2        12       135         2         0         0     1,022
20.0 to 24.9........................................     2,705    12,079    14,124    12,001    10,825     8,097        46         0         0    59,877
25.0 to 29.9........................................         0     1,844       354         7        38     1,103     1,686       819         0     5,850
30.0 to 34.9........................................     1,600        55         7       129       152       146       317     1,767         9     4,183
35.0 to 39.9........................................         0     2,081     1,603     3,720     2,463    13,404     7,176     3,316       255    34,018
40.0 to 44.9........................................         0     1,209     2,683        49         6         8         0       177       882     5,014
45.0 to 49.9........................................         0         0         1         0         0        10         0        94       508      613
                                                     ---------------------------------------------------------------------------------------------------
      Total.........................................    14,139    18,912    19,026    15,947    13,507    22,907     9,229     6,173     1,654   121,493
Mean marginal tax rate..............................       5.6      24.4      26.6      25.8      25.1      30.6      34.4      34.9      43.3      25.6
Mean marginal income tax rate.......................      -2.0      16.8      19.0      18.1      17.5      23.4      28.0      30.2      39.9      18.3
Mean marginal Social Security tax rate..............       7.6       7.6       7.6       7.6       7.6       7.3       6.3       4.8       3.4       7.3

                                                     ---------------------------------------------------------------------------------------------------
                                                                                                Single earners

                                                     ---------------------------------------------------------------------------------------------------
Less than 0.........................................     2,005       129        10         4         1         0         0         0         0     2,150
0 to 4.9............................................     1,235        19         6         0         0         0         0         0         0     1,260
5.0 to 9.9..........................................     3,723       380         1         2         0         0         0         0         0     4,107
10.0 to 14.9........................................         0         0         0         0         0         0         0         0         0         0
15.0 to 19.9........................................       563        15         4         1         1         1         0         0         0       583
20.0 to 24.9........................................     2,705    10,466     8,399     1,712       312        42         4         0         0    23,639
25.0 to 29.9........................................         0       328         4         5        27       464        78        14         0       921
30.0 to 34.9........................................     1,600        42         4         0         2       131       314       206         0     2,299
35.0 to 39.9........................................         0     1,291       797     3,689     2,437     1,927        76        80        54    10,351
40.0 to 44.9........................................         0       742       629         3         2         0         0         9        94     1,478
45.0 to 49.9........................................         0         0         0         0         0         0         0         2         0        2
                                                     ---------------------------------------------------------------------------------------------------
      Total.........................................    11,831    13,411     9,854     5,415     2,784     2,565       471       311       147    46,789
Mean marginal tax rate..............................       7.8      24.5      25.1      31.5      34.1      34.2      32.8      34.9      41.1      22.5
Mean marginal income tax rate.......................       0.1      16.9      17.5      23.8      26.5      28.0      30.3      32.8      39.6      15.1
Mean marginal Social Security rate..................       7.6       7.6       7.6       7.6       7.6       6.2       2.5       2.1       1.4       7.5

                                                     ---------------------------------------------------------------------------------------------------
                                                                                                Married earners
                                                     ---------------------------------------------------------------------------------------------------

Less than 0.........................................       837       212        33         3         1         0         0         0         0     1,086
0 to 4.9............................................       180        27         8         0         0         0         0         0         0       214
5.0 to 9.9..........................................     1,099       775       183        29         8         4         2         0         0     2,100
10.0 to 14.9........................................         0         0         0         0         0         0         0         0         0         0
15.0 to 19.9........................................       192        87        10         2        11       135         2         0         0       438
20.0 to 24.9........................................         0     1,613     5,725    10,290    10,512     8,055        42         0         0    36,237
25.0 to 29.9........................................         0     1,516       350         2        11       639     1,608       805         0     4,930
30.0 to 34.9........................................         0        14         3       129       150        15         3     1,561         9     1,884
35.0 to 39.9........................................         0       790       806        31        26    11,477     7,100     3,236       201    23,667
40.0 to 44.9........................................         0       468     2,054        46         4         8         0       169       788     3,537
45.0 to 49.9........................................         0         0         1         0         0        10         0        92       508      611
                                                     ---------------------------------------------------------------------------------------------------
      Total.........................................     2,308     5,500     9,172    10,532    10,724    20,342     8,757     5,862     1,506    74,705
Mean marginal tax rate..............................      -5.2      24.1      28.3      22.8      22.8      30.2      34.4      34.9      43.5      27.5
Mean marginal income tax rate.......................     -12.9      16.5      20.6      15.2      15.1      22.8      27.9      30.0      39.9      20.3
Mean marginal Social Security rate..................       7.6       7.6       7.6       7.6       7.6       7.4       6.5       4.9       3.6       7.2

                                                     ---------------------------------------------------------------------------------------------------
                                                                                             Earners with children

                                                     ---------------------------------------------------------------------------------------------------
Less than 0.........................................     2,591       321        35         6         3         0         0         0         0     2,956
0 to 4.9............................................         0         3         2         0         0         0         0         0         0         5
5.0 to 9.9..........................................     1,165       738        97        26         1         0         0         0         0     2,026
10.0 to 14.9........................................         0         0         0         0         0         0         0         0         0         0
15.0 to 19.9........................................         0         0         0         2         3       133         2         0         0       141
20.0 to 24.9........................................         0       394     3,020     6,914     6,653     6,099        21         0         0    23,101
25.0 to 29.9........................................         0     1,813       351         2        11       487     1,055       474         0     4,193
30.0 to 34.9........................................         0         0         0        24        21         4         4       734         0       788
35.0 to 39.9........................................         0     1,690     1,104        32       141     5,095     3,541     1,480        21    13,104
40.0 to 44.9........................................         0     1,096     2,569        47         6         6         0       102       455     4,282
45.0 to 49.9........................................         0         0         0         0         0         0         0        50       211      260
                                                     ---------------------------------------------------------------------------------------------------
      Total.........................................     3,756     6,055     7,178     7,053     6,839    11,825     4,623     2,839       688    50,856
Mean marginal tax rate..............................     -16.8      28.1      32.2      22.8      22.9      28.5      34.2      34.7      43.7      25.1
Mean marginal income tax rate.......................     -24.4      20.4      24.5      15.1      15.3      21.1      27.9      30.0      40.2      17.9
Mean marginal Social Security rate..................       7.6       7.6       7.6       7.6       7.6       7.3       6.2       4.7       3.4      7.2
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\Marginal tax rates are the combined tax rates on an additional dollar of earnings of the Federal individual income tax and the employee share of the
  Social Security payroll tax (FICA).

Source: Congressional Budget Office tax simulation model.

              FEDERAL TAX TREATMENT OF FAMILIES IN POVERTY

    During the 1970s and early 1980s, inflation gradually
increased the tax burdens of the poor and lowered the real
income level at which a poor family became liable for income
tax. Legislation passed by Congress reversed or slowed this
trend, but in the absence of indexing, inflation during this
period gradually offset these legislative efforts. This trend
can be measured in two ways. One measure is the degree to which
the income at which a poor family begins to pay income taxes
(termed the tax threshold, or alternatively, the tax entry
point) exceeds or falls below the poverty threshold. A second
measure is the actual amount of tax liability incurred by a
family with income at the poverty line.
    Table 16-22 shows the income tax threshold, the poverty
level, and the tax threshold as a percent of the poverty level
for a married couple with two children in selected years since
1959. These figures demonstrate that before 1975 a family of
four was generally liable for Federal income tax if the
family's income was significantly below the poverty line. In
1975, following the enactment of the earned income tax credit
(EITC), a family of four incurred no tax liability until its
income exceeded the poverty threshold by 22 percent. Over the
next decade this margin eroded; by 1984, a poor family of four
incurred income tax liability when its income was 17 percent
below the poverty line.
    Table 16-23 shows the income tax burden and payroll tax
burden of households with incomes at the poverty line for
families of different sizes. This table shows that a family of
four in 1978 had an income tax refund (through the earned
income tax credit) of $134; the refund offset 33 percent of the
family's payroll tax burden of $403. By 1986, a family in the
same situation incurred a positive tax liability of $363.
Combined income and payroll taxes represented 4 percent of
income for a family with income equal to the poverty level in
1978; by 1986, combined income and payroll taxes consumed 10.4
percent of family income.
    The Tax Reform Act of 1986 significantly increased the
income tax entry point for poor families with children from
$9,575 in 1986 to $15,110 in 1988. Because the system was
indexed for inflation, future increases in the Consumer Price
Index will not increase the tax burden for poor families.

 TABLE 16-22.--RELATIONSHIP BETWEEN INCOME TAX THRESHOLD AND POVERTY
 LEVEL FOR A FAMILY OF FOUR, ASSUMING FULL USE OF THE EARNED INCOME TAX
                         CREDIT, 1959-2000
------------------------------------------------------------------------
                                                                 Tax
                                                              threshold
                                    Income tax    Poverty        as a
               Year                 threshold      level      percent of
                                                               poverty
                                                                level
------------------------------------------------------------------------
1959.............................       $2,667       $2,973         89.7
1960.............................        2,667        3,022         88.3
1965.............................        3,000        3,223         93.1
1969.............................        3,000        3,743         80.2
1970.............................        3,600        3,968         90.7
1971.............................        3,750        4,137         90.6
1972.............................        4,300        4,275        100.6
1974.............................        4,300        5,038         85.4
1975.............................        6,692        5,500        121.7
1976.............................        6,892        5,815        118.5
1977.............................        7,520        6,191        121.7
1978.............................        7,533        6,662        113.1
1979.............................        8,626        7,412        116.4
1980.............................        8,626        8,414        102.5
1981.............................        8,634        9,287         93.0
1982.............................        8,727        9,862         88.5
1983.............................        8,783       10,178         86.3
1984\2\..........................        8,783       10,610         82.8
1986.............................        9,575       11,203         85.5
1987.............................       13,288       11,611        114.4
1988.............................       15,110       12,092        125.0
1989.............................       15,656       12,675        123.5
1990.............................       16,296       13,359        122.0
1991.............................       17,437       13,924        125.2
1992.............................       18,548       14,335        129.4
1993.............................       19,187       14,774        129.9
1994\1\..........................       21,098       15,173        139.1
1995\1\..........................       22,372       15,612        143.3
1996\1\..........................       23,710       16,092        147.3
1997\1\..........................       24,463       16,593        147.4
1998\1\..........................       25,239       17,104        147.6
1999\1\..........................       25,966       17,635        147.2
2000\1\..........................       26,797       18,187       147.3
------------------------------------------------------------------------
\1\Estimated.
\2\Effective payroll tax calculated as 6.7 percent for 1984 because in
  this year employees were allowed a payroll tax credit equal to 0.3
  percent of taxable wages.

Note.--Poverty levels used are the Bureau of the Census poverty
  thresholds. These differ from the poverty guidelines used by the
  Office of Management and Budget to determine eligibility for many
  government transfer programs. The poverty levels are for all families,
  not just those with heads under age 65. Tax thresholds represent the
  income level at which a family of 4 making full use of the earned
  income tax credit owes positive income tax. They are based on the
  schedule for a married nonelderly couple filing jointly.

Source: Congressional Budget Office.

    TABLE 16-23.--TAX THRESHOLDS, POVERTY LEVELS, AND FEDERAL TAX AMOUNTS FOR DIFFERENT FAMILY SIZES WITH
    EARNINGS EQUAL TO THE POVERTY LEVEL, ASSUMING FULL USE OF THE EARNED INCOME TAX CREDIT, 1978-2000\1\
----------------------------------------------------------------------------------------------------------------
                                                                             Family size
                                                     -----------------------------------------------------------
                                                         1         2         3         4         5         6
----------------------------------------------------------------------------------------------------------------
Poverty levels:
    1978............................................    $3,311    $4,249    $5,201    $6,662    $7,880    $8,891
    1982............................................     4,900     6,280     7,690     9,862    11,680    13,210
    1984............................................     5,277     6,759     8,276    10,610    12,562    14,211
    1986............................................     5,572     7,138     8,737    11,203    13,259    14,986
    1988............................................     6,024     7,704     9,435    12,092    14,305    16,149
    1990............................................     6,652     8,509    10,419    13,359    15,792    17,839
    1991............................................     6,932     8,865    10,860    13,924    16,456    18,587
    1992............................................     7,143     9,137    11,186    14,335    16,592    19,137
    1993\3\.........................................     7,362     9,417    11,529    14,774    17,101    19,724
    1994\4\.........................................     7,560     9,671    11,840    15,173    17,562    20,255
    1995\4\.........................................     7,779     9,951    12,183    15,612    18,070    20,842
    1996\4\.........................................     8,019    10,257    12,557    16,092    18,626    21,483
    1997\4\.........................................     8,268    10,576    12,948    16,593    19,206    22,151
    1998\4\.........................................     8,523    10,902    13,347    17,104    19,797    22,833
    1999\4\.........................................     8,787    11,241    13,761    17,635    20,412    23,543
    2000\4\.........................................     9,062    11,592    14,192    18,187    21,050    24,279
Income tax threshold:\1\
    1978............................................     3,200     5,200     6,930     7,520     8,183     9,167
    1982............................................     3,300     5,400     8,237     8,727     9,216     9,706
    1984............................................     3,300     5,400     8,315     8,783     9,251     9,719
    1986............................................     3,560     5,830     9,063     9,575    10,086    10,598
    1988............................................     4,950     8,900    13,940    15,110    16,280    17,450
    1990............................................     5,300     9,550    15,066    16,296    17,526    18,756
    1991............................................     5,550    10,000    16,179    17,437    18,616    19,794
    1992............................................     5,900    10,600    17,217    18,548    19,774    21,000
    1993............................................     6,050    10,900    17,841    19,187    20,405    21,624
    1994............................................     7,179    11,250    18,887    21,098    22,222    23,347
    1995\4\.........................................     7,359    11,550    19,387    22,372    23,437    24,501
    1996\4\.........................................     7,583    11,850    19,924    23,710    24,770    25,831
    1997\4\.........................................     7,810    12,250    20,555    24,463    25,565    26,668
    1998\4\.........................................     8,080    12,650    21,208    25,239    26,383    27,527
    1999\4\.........................................     8,288    12,950    21,809    25,966    27,131    28,296
    2000\4\.........................................     8,558    13,400    22,518    26,797    28,004    29,210
Income tax at poverty level:\1\
    1978............................................        16         0      -280      -134       -12         0
    1982............................................       202       106      -134       285       417       491
    1984............................................       226       149        -9       364       478       569
    1986............................................       230       144       -76       363       480       564
    1988............................................       161         0      -874      -648      -427      -243
    1990............................................       203         0      -953      -691      -433      -229
    1991............................................       207         0    -1,192      -905      -591      -328
    1992............................................       187         0    -1,324    -1,053      -711      -422
    1993\3\.........................................       197         0    -1,434    -1,153      -829      -463
    1994\4\.........................................        86         0    -1,904    -1,790    -1,367      -891
    1995\4\.........................................        95         0    -1,952    -2.240    -1,743    -1,183
    1996\4\.........................................        99         0    -2,006    -2,618    -2,085    -1,483
    1997\4\.........................................       104         0    -2,064    -2,694    -2,144    -1,524
    1998\4\.........................................       100         0    -2,127    -2,777    -2,210    -1,570
    1999\4\.........................................       113         0    -2,195    -2,867    -2,282    -1,623
    2000\4\.........................................       114         0    -2,263    -2,953    -2,350    -1,670
Payroll tax at poverty level:
    1978............................................       200       257       315       403       477       538
    1982............................................       328       421       515       661       783       885
    1984\2\.........................................       354       453       555       711       842       953
    1986............................................       398       510       625       801       948     1,071
    1988............................................       452       579       709       908     1,074     1,213
    1990............................................       509       651       797     1,022     1,208     1,365
    1991............................................       530       678       831     1,065     1,259     1,422
    1992............................................       547       699       856     1,098     1,298     1,466
    1993\3\.........................................       563       720       882     1,130     1,308     1,509
    1994\4\.........................................       578       740       906     1,161     1,343     1,550
    1995\4\.........................................       595       761       932     1,194     1,382     1,594
    1996\4\.........................................       613       785       961     1,231     1,425     1,643
    1997\4\.........................................       633       809       991     1,269     1,469     1,695
    1998\4\.........................................       652       834     1,021     1,308     1,514     1,747
    1999\4\.........................................       672       860     1,053     1,349     1,562     1.801
    2000\4\.........................................       693       887     1,086     1,391     1,610     1,857
Combined income and payroll tax at poverty level:
    1978............................................       216       257        35       269       465       538
    1982............................................       530       527       381       946     1,200     1,376
    1984............................................       580       602       546     1,075     1,320     1,521
    1986............................................       628       654       549     1,164     1,428     1,635
    1988............................................       614       579      -165       256       647       970
    1990............................................       712       651      -156       331       775     1,136
    1991............................................       738       678      -362       160       668     1,094
    1992............................................       734       699      -467        45       587     1,044
    1993\3\.........................................       760       720      -552       -22       480     1,046
    1994\4\.........................................       665       740      -998      -629       -24       658
    1995\4\.........................................       690       761    -1,020    -1,046      -361       412
    1996\4\.........................................       712       785    -1,045    -1,387      -660       161
    1997\4\.........................................       736       809    -1,073    -1,425      -675       171
    1998\4\.........................................       752       834    -1,106    -1,468      -695       177
    1999\4\.........................................       785       860    -1,142    -1,518      -721       178
    2000\4\.........................................       808       887    -1,177    -1,562      -739       188
Combined tax as percent of income at poverty level:
    1978............................................       6.5       6.1       0.7       4.0       5.9       6.1
    1982............................................      10.8       8.4       5.0       9.6      10.3      10.4
    1984............................................      11.0       8.9       6.5      10.1      10.5      10.7
    1986............................................      11.3       9.2       6.3      10.4      10.8      10.9
    1988............................................      10.2       7.5      -1.7       2.1       4.5       6.0
    1990............................................      10.7       7.6      -1.5       2.5       4.9       6.4
    1991............................................      10.6       7.6      -3.3       1.1       4.1       5.9
    1992............................................      10.3       7.7      -4.2       0.3       3.5       5.5
    1993\3\.........................................      10.3       7.7      -4.8      -0.2       2.8       5.3
    1994\4\.........................................       8.8       7.7      -8.4      -4.1      -0.1       3.3
    1995\4\.........................................       8.9       7.7      -8.4      -6.7      -2.0       2.0
    1996\4\.........................................       8.9       7.7      -8.3      -8.6      -3.5       0.7
    1997\4\.........................................       8.9       7.7      -8.3      -8.6      -3.5       0.8
    1998\4\.........................................       8.8       7.7      -8.3      -8.6      -3.5      -0.8
    1999\4\.........................................       8.9       7.7      -8.3      -8.6      -3.5       0.8
    2000\4\.........................................       8.9       7.7      -8.3      -8.6      -3.5       0.8
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\1\The table reflects assumptions that all family income consists of wages or salaries, that families of two or
  more include a married couple (rather than an unmarried head of household with one or more dependents), that
  all family members are under age 65, and that families of three or more persons are eligible for the earned
  income tax credit. For families of three or more, the effect of the earned income tax credit is included.
  Negative figures in the table reflect refundability of the earned income tax credit. The poverty level figures
  are for all families, not just those with heads under age 65.
\2\Effective payroll tax is calculated as 6.7 percent for 1984 because in this year employees were allowed a
  payroll tax credit equal to 0.3 percent of taxable wages.
\3\Estimated.
\4\Projected.

Source: Congressional Budget Office.