qualifying children. Denying the credit to households with no qualifying children accounts for 16
percent of the $3.9 billion reduction in the cost of the credit. The affluence tests, which consist of
the modified AGI provision and the expansion of the definition of disqualified income, account for
39 percent of the reduction. The last three provisions explain the remaining 45 percent of the
decrease in the cost of this credit.

Most of the benefits of the credit go to households with income’ less than $20,000. Under
present law, 74 percent of the benefits of the credit go to households with income below $20,000.
While the changes made to the credit by the conference agreement would reduce the total cost of the
credit, a greater percentage of the total benefit would go to households with income less than
$20,000. Under the conference agreement, 83 percent of the benefits from the credit would go to
households with income less than $20,000.

Table 2 contrasts the projected growth in the credit under present law with the growth in the
credit under the conference agreement. Under present law, the credit is projected to increase by 13
percent in fiscal year 1996 and by 8 percent in fiscal year 1997. The growth rate for the next five
years is projected to be approximately 4 percent per year. Legislative changes to the credit enacted
in OBRA 1993 account for the substantial increase in the cost of the program in fiscal years 1996
and 1997. The large increase in the growth rate in fiscal 1996 is mainly due to the increase in the
maximum credit rates for households with children in tax year 1995. The maximum credit rate for
households with one qualifying child increased from 26.3 percent to 34 percent,'° and the maximum:
credit for households with two or more qualifying children rose from 30 percent to 36 percent. For
fiscal 1997, the projected 8-percent growth rate results from the scheduled increase in the maximum
credit for households with two or more qualifying children from 36 percent to 40 percent. Under
the conference committee report, expenditures on the credit are projected to decline by 9.5 percent
in fiscal year 1997 and increase at a rate below 4 percent in the following years.

° See footnote 8 for an explanation of the income concept used throughout the discussion
in this section to classify the tax returns into income categories.

‘© At the same time that the credit rate for individuals with one qualifying child was
increased, the earned income amount was reduced. The combination of the increase in the credit
rate and the reduction in the earned income amount left the maximum credit for individuals with one
qualifying child virtually unchanged in real (inflation-adjusted) dollars. For filing units with earned
income (and AGI) below the earned income amount, however, the increase in the credit rate resulted
in an increase in the size of the credit in real dollars.

18



Table A-1.--Data on Earned Income Credits Claimed, 1975-2000

Number of Refunded
Calendar year families who Total amount portion of Average
to which received of credit credit credit per
credit applies (thousands) (millions) (millions) per family
1975 6,215 $1,250 $900 $201
1976 6,473 1,295 890 200
1977 $,627 1,127 880 200
1978 $,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 3,391 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 13,105 10,589 7,849 808
1992 14,097 13,028 9,959 926
1993 15,117 15,537 12,028 945
19941 17,156 18,666 15,722 1,088
19951 17,376 22,208 19,040 1,278
1996! 17,228 24,031 20,552 1,395
1997! 17,423 24,880 21,270 1,428
1998! 17,581 25,844 22,079 1,470
19991 17,817 26,902 22,807 1,510
2000! 18,061 27,664 23,303 1,532

T Projected

Source: 1975-1993: Internal Revenue Service, Statistics of Income, various years;
1994-2000: Joint Committee on Taxation calculations



Two or more ~ One qualifying

qualifying child--

children—
Credit rate” 36.00% 34.00%
Earned income amount $8,910 $6,340
Maximum credit $3,564 $2,156
First-tier phaseout begins $11,630 $11,630
First-tier phaseout rate 21.06% 15.98%
Second-tier phaseout begins $17,750 $14,850
Second-tier phaseout rate 25.00% 20.00%
Phaseout ends $25,425 $23,055

* Subject to an enhancement factor for individuals with two or more qualifying children.

For years after 1996, the credit rates and the phaseout rates will be the same as in the
preceding table. The dollar values will continue to be indexed, as under present law.

Expand definition of disqualified income

For purposes of the disqualified income test for taxable years beginning after December 31,
1995, net passive income (if greater than zero) is added to the definition of disqualified income.

Deny credit to individuals not authorized to be employed in the United States

Under the conference agreement, individuals are not eligible for the credit if they do not
include their taxpayer identification number (and, if married, their spouse’s taxpayer identification
number) on their tax return. Solely for these purposes and for purposes of the present-law
identification test for a qualifying child, a taxpayer identification number is defined as a social
security number issued to an individual by the Social Security Administration other than a number
issued under section 205(c)(2)(B)(I)(1I) (or that portion of sec. 205(c)(2)(B)(I)(IID) relating to it) of
the Social Security Act (regarding the issuance of a number to an individual applying for or
receiving Federally funded benefits).

Use mathematical or clerical error procedures for certain omissions

If an individual fails to provide a correct taxpayer identification number, such omission will
be treated as a mathematical or clerical error. If an individual who claims the credit with respect to
net earnings from self-employment fails to pay the proper amount of self-employment tax on such

12



Table 5.--
Distribution of Returns Affected by
Denying the EIC to Workers Without Qualifying Children
Under the Conference Agreement,
Tax Year 1996

Income category Returns Amount
Less than $10,000 2,642 $480
$10,000 - $20,000 777 119
$20,000 - $30,000 109 16
$30,000 - $40,000 19 3
$40,000 - $50,000 1 (J
$50,000 - $75,000 0 0
More than $75,000 0 0
Total 3,548 619

Retums are in thousands and amounts are in millions of dollars.
[*] Less than $500,000.

The conference agreement maintains the credit rate for households with two or more
qualifying children at 36 percent and establishes a two-tiered phaseout of the credit. In addition, an
enhancement factor is applied to the earned income of households with two or more qualifying
children. The enhancement factor is designed to increase the credit for low-income households with
two or more qualifying children. The distribution of returns affected by these provisions is shown
in Table 6. Approximately 87 percent of the reduction in the credit due to these provisions comes
from households with income above $20,000. The enhancement factor benefits low-income
households with two or more qualifying children. Without the enhancement factor, 40 percent of
the reduction in the credit from the combination of the two-tier phaseout and maintaining the credit
rate at 36 percent for individuals with two or more qualifying children would come from households
with income below $20,000.

22



For 1996, the parameters are given in the following table (dollar amounts are projections
expressed in 1996 dollars):

Two or more One qualifying No qualifying
qualifying child-- children
children

Credit rate 40.00% 34.00% 7.65%
Earned income amount $8,890 $6,330 $4,220
Maximum credit $3,556 $2,152 $323
Phaseout begins $11,610 $11,610 $5,280
Phaseout rate 21.06% 15.98% 7.65%
Phaseout ends $28,495 $25,078 $9,500

For years after 1996, the credit rates and the phaseout rates will be the same as in the
preceding table. The earned income amount and the beginning of the phaseout range are indexed
for inflation; because the end of the phaseout range depends on those amounts as well as the
phaseout rate and the credit rate, the end of the phaseout range will also increase if there is inflation.

Earned income consists of wages, salaries, tips, other employee compensation, and net
self-employment income. To calculate earned income for purposes of the credit a filing unit must
take into account several sources of income. First, the filing unit must take the amount reported on
line 7 of the Form 1040. This amount is the total of wages, salaries and tips for the filing unit for
the taxable year. Second, the filing unit then subtracts any taxable scholarship or fellowship grants..
Third, the filing unit adds nontaxable earned income. Examples listed in the IRS instructions to the
Form 1040 include these items: basic quarters and subsistence allowances and the value of in-kind
quarters and subsistence received from the U.S. military, housing allowances or the rental value of
a parsonage for clergy, meals and lodging provided for the convenience of the employer, certain
voluntary salary deferrals (e.g., contributions to a 401(k) plan), excludable dependent care benefits,
certain voluntary salary reductions, and excluded combat zone pay.

In the case of a self-employed individual, the self-employment income of the filing unit must
be included. To compute self-employment income, the filing unit adds net profit or loss from
Schedule C, Schedule C-EZ, Schedule F, and Schedule K-] (Form 1065). There are special rules
for ministers and members of religious orders.

A worker with qualifying children may elect to receive the credit on an advance basis by
furnishing an advance payment certificate to his or her employer. For such a worker, the employer
makes an advance payment of the credit at the time wages are paid. The amount of advance

3


Most households receiving the credit under present law would be better off or unaffected
under the conference agreement. On average, these households would have a benefit of $147
compared to present law. The distribution of the changes for credit recipients favorably affected or
unaffected by the conference agreement is presented in Table 12.

Table 12.--
Distribution of the Combined Effect of the
Modification of the EIC and the Child Credit

on EIC Recipients Favorably Affected or Unaffected

Under the Conference Agreement,
Tax Year 1996

Change
Income category Returns in Taxes*
Less than $10,000 3,001 $-4
$10,000 - $20,000 4,132 -489
$20,000 - $30,000 2,568 -713
$30,000 - $40,000 595 -296
$40,000 - $50,000 29 -13
$50,000 - $75,000 7 3
More than $75,000 0 0
Total 10,332 -1,518

Returns are in thousands and changes are in millions of dollars.
*Including refundable portion of the earned income credit

33



Table 2.--
Earned Income Credit Projections
Under Present Law and the Conference Agreement,
Fiscal Years 1995-2000

Fiscal Years

1995 1996 1997 1998 1999 2000
EIC under present law
Total cost ($ millions) 19,775 22,299 24,073 24,928 25,896 26,954
Percent change 12.8% 8.0% 3.6% 3.9% 4.1%
Outlays ($ millions) 16,674 19,116 20,588 21,310 22,115 22,851
Percent change 14.6% 1.7% 3.5% 3.8% 3.3%
EIC after conference
agreement
Total cost ($ millions) 19,775 22,094 19,996 20,618 21,367 22,168
Percent change 11.7% -9.5% 3.1% 3.6% 3.7%
Outlays ($ millions) 16,674 18,961 17,496 18,080 18,711 19,280
Percent change 13.7%  -7.7% 3.3% 3.5% 3.0%

The provisions for the credit contained in the conference agreement, excluding the
compliance-related provisions, would affect 14.5 million households." Because the maximum
earned income to which the credit rate applies and the income level at which the credit begins to
phase out is slightly greater under the conference agreement than under present law, 3.7 million of
the 14.5 million households affected by the conference agreement would receive a slightly larger
credit. The EIC would increase by $7 on average for these households. Over 70 percent of the
reduction in the credit is borne by households with income over $20,000. The distribution of the
changes to the credit is reflected in Table 3.

" The compliance-related provisions contained in the conference agreement are excluded
from the analysis in the remainder of this discussion.

19


St

Table 7a.--

Earned Income Credit and $500 Child Credit
Under the Conference Agreement,
Head of Household with One Child

Tax Year 1996

Federal
Federal | Income Tax Net Change in]
Income Tax } Before Refundable Taxes
Before Credits, EIC Employee's | Employer's | Refundable EIC Change in | Including
Credits, | Conference EIC Present} Conference | Change in | Share FICA | Share FICA | EIC Present | Conference | Refundable | Refiundable
Present Law | Agreement [Child Credit] Law | Agreement | EIC__ {Payroll Taxes|Payrolt Taxes] Law Agreement EIC EIC
| 0] 340 77 7 340) 340 0
. a) 0 680| 153 153| «680 680 0
: =) 0 230 230 1,020 1,020] Om
0 0 0 306 306 1,360] 1,360] sO
a) 0 383 383 1,700] 1,700 0
= x) ee) 459) 459| 2,040 2,040 0
0 0 0 536 536] __-2,152|_ 2,156] 3
0 0 ) 612|_ 612 2,152 2,156) 3
of 0 0 689 689) 2,152 2,156 3
0 ) 765 765 2,152 2,156) 3
0 0 842] 842 2,152 2,156 3
150! 150 918 18 1,940 2,096 157
995] 995 1,630 1,937] 307|
1071 1071 1,320 1,777) 457|
1,148 1,148 1,010 1,511 501
16,000 1,224) 1,224 701 116 460
17,000 1,301 1,301 391 81 420)
18,000 1,050] 1,050 500 1377 1377 81 461 380)
19,000 1,200] 1,200 $00 1,454 1,454) 0 ul im
20,000 1,350 1350 500 1,530 1,530 0 a
21,000 1,500 1,500 300 1,607 1,607 0 0
22,000 1,650 1,650) 500 1,683 1,683 0 0
23,000 1,800 1,800 500] 1,760 1,760 On 0
24,000 1,950 1,950 500 “1,836| 1,836 0 ol
25,000 2,100 2,100 500 1,913 1,913 0. 0
26,000 2,250 2,250 500 0 1,989) 1,989] 0 oO}
27,000 2,400 2,400] 300 0 2,066 2,066 0 _o
28,000 2,550 2,550] 500 0 2,142 2,142 0 0
29,000 2,700 2,700] 500 0 2,219) 2,219 0 _o
30,000 2,850 2,850 500 0 2,295 2,295 of a)
40,000 4,350 4,350 500 0 3,060 3,060 0 Q
50,000 6,741 6,741 500 0 3,825 3,825 0 0

Details may not add to totals due to rounding.


Table 4.--
Distribution of Returns Affected by the Affluence Tests
Under the Conference Agreement,
Tax Year 1996

Returns with Qualifying Children

Income category Returns Amount
Less than $10,000 29 $24
$10,000 - $20,000 462 277
$20,000 - $30,000 806 735
$30,000 - $40,000 353 417
$40,000 - $50,000 64 54
$50,000 - $75,000 19 26
More than $75,000 0 0
Total 1,729 1,533

Returns are in thousands and amounts are in millions of dollars.

Under present law, households without qualifying children cannot receive the credit if the
greater of their earned income or AGI exceeds $9,500 in 1996. Thus, virtually all of the reduction
in the credit due to eliminating the credit for childless workers comes from households with income
below $20,000. This is shown in Table 5.

21


APPENDIX

The Appendix contains tables and charts providing additional information about the earned
income credit.

Table A-1 is based on data from the Internal Revenue Service’s Statistics of Income Division
and shows over the history of the credit the number of families who received the credit, the total
amount of credit claimed, and the portion of the credit in excess of income tax liability. The dollar
amounts are not adjusted for inflation. Information for 1994 through 2000 is a projection by the
staff of the Joint Committee on Taxation.

Table A-2 shows the credit parameters over the history of the credit in dollar amounts
unadjusted for inflation.

Table A-3 converts the information for the earnings limit, the maximum credit, and the

phaseout ranges from Table A-2 into 1995 dollars. It also converts the information on the total
amount of credit and the average credit per family from Table A-1 into 1995 dollars.

34



Vv. ANALYSIS OF THE CHANGES TO THE EIC INCLUDED
IN THE CONFERENCE AGREEMENT

A. Changes to the Earned Income Credit

Under present law, approximately 17.1 million households would receive the earned income
credit for tax year 1996. The cost of this credit would equal approximately $24 billion (see Table
1, below). More than 97 percent of dollars spent on this credit go to households with qualifying
children. Households without qualifying children account for only a small fraction of the cost of
the program but make up approximately 20 percent of the households receiving the credit. The
changes that the conference agreement makes to the credit would reduce the number of households
receiving the credit by 5.3 million; 67 percent of the reduction in the number of EIC returns would
come from individuals with no qualifying children.

16



For individuals with two or more qualifying children, the credit was increased to 30 percent
of the first $8,425 of earned income in 1994. The maximum credit for 1994 was $2,527 and was
reduced by 17.68 percent of earned income (or AGL if greater) in excess of $11,000. The credit rate
increases over time and equals 36 percent for 1995 and 40 percent for 1996 and thereafter. The
phaseout rate is 20.22 percent for 1995 and 21.06 percent for 1996 and thereafter.

OBRA 1993 also extended the credit to individuals with no qualifying children. This credit
for individuals with no qualifying children is available to individuals over age 24 and below age 65.
Finally, OBRA 1993 repealed the supplemental young child credit and the supplemental health
insurance credit.

The implementing legislation for the General Agreements on Tariffs and Trade enacted in
1994 made a number of modifications to the credit. First, it removed from the definition of earned
income in Code section 32(c)(2) any amount received for services provided by an inmate of a penal
institution. Second, it generally made nonresident aliens ineligible to claim the credit. Third, it
deemed that a member of the Armed Forces stationed outside the United States while serving on
extended active duty would satisfy the test that the principal place of abode be within the United
States. Fourth, it required that members of the Armed Forces receive annual reports from the
Department of Defense of earned income (which includes nontaxable earned income such as
amounts received as basic allowances for housing and subsistence). Fifth, it phased in a requirement
that individuals provide a TIN for each qualifying child regardless of the dependent’s age. Ptior to”
the legislation, individuals had to provide a TIN only for qualifying children who attained the age
of one before the close of the individual’s taxable year.

Under Public Law 104-7 (H.R. 831), effective for taxable years beginning after December
31, 1995, an individual is not eligible for the credit if the aggregate amount of disqualified income
(i.e., taxable and tax-exempt interest, dividends, and (if greater than zero) net rent and royalty
income) of the filing unit for the taxable year exceeds $2,350.

Administration’s Budget Proposals

Credit denied to individuals not authorized to be employed in the United States4

Individuals would not be eligible for the credit if they do not include their taxpayer
identification number (and, if married, their spouse’s taxpayer identification number) on their tax
return. Solely for these purposes and for purposes of the present-law identification test for a
qualifying child, a taxpayer identification number would be defined as a social security number
issued to an individual by the Social Security Administration other than a number issued under

* Included the President’s fiscal year 1996 budget proposal and in the President’s December
1995 budget proposal. Also in H.R. 981, “Tax Compliance Act of 1995,” as introduced by
Representatives Gephardt and Gibbons (by request) on February 16, 1995, and in S. 453, “Tax
Compliance Act of 1995,” as introduced by Senators Daschle and Moynihan on February 16, 1995.

8


Table 10.

Summary of the Combined Effect of the
Modification of the EIC and the Child Credit on
EIC Recipients
Under the Conference Agreement,

Tax Year 1996

Returns unaffected or better off: 10.3 million
Returns worse off: 6.8 million
Without qualifying children: 3.5 million
With qualifying children: 3.3 million
Affected by the affluence tests: 1.6 million
Ttemize deductions: 0.3 million
Have more dependents
than qualifying children: 0.6 million
Have a qualifying child not
eligible for the child credit: 0.6 million
Receive the dependent
care credit: 0.2 million
Total Returns: 17.1 million

31



87

Table 7d.--

Earned Income Credit and $500 Child Credit
Under the Conference Agreement,
Joint Return with Two Children

Tax Year 1996

Federal Income Net Change in|
Federal Income] Tax Before Refundable ‘Taxes
AGI= | Tax Before | Credits, BIC Employee's | Employer's | Refundable BIC Change in} Including
Eamed | Credits, | Conference EIC Present | Conference | Change in | Share FICA | Share FICA | EIC Present | Conference | Refundable | Refundable
Income_| Present Law | Agreement _|Child Credit] Law | Agreement | __EIC__| Payroll Taxes| Payroll Taxes| Law Agreement BIC EIC
__ of of 00 400 TI 7400 400] 0
a) _of 800) 153 153 800) soo]
of oo 1,200) er) 230 1,200 1,200 __o
t) 0 1,600 306 306] ‘1,600 1,600 0
of of of 383 383 2,000] 2,000 0
“8 _ of eo 459 459 2,400 2,400 0
ol of. ol” 536 536 2,800 2,800 __o
t) ) 0 "612 612 3,200[ 3,200 __o
r) ° of. 689 689 3,556) 3,564 8
0 ot fy 765 765 3,556) 3,564] 8
x) ~ of =) 342 842 3,556 3,564| 8
=) 0 918 o18 3,474] 3,486) 2
of 8 995 995 3,263 3,275 2
ol. 0 1071 1,071 3,053 3,065; 12
15,000 0 Ol 0 1,148 1148 2,842 2,854) 12
| "16,000 0 0 @ 1,224 1,224 2,631 2,644 12
17,000 Is 15 15 1,301 1,301 2,406; 2,433 27
18,000 165 165 165 1,377 1377 2,045 2,124 8
19,000 31s 315 315 1,454 1,454 1,685 1,784 100)
20,000 465] 465 465 1,530) 1,530 1,324 1445| 12
21,000 615 613 615 1,578 1,607| 1,607 963 1,106 143
22,000 765 765| 765 1,368 1,683 1,683 603 856 253
23,000 915 oS nS 1,157 1,760 1,760 242 606 364
24,000 1,065 1,065 1,000 947 1,836 1,836 0
25,000 1,215 1,215] 1,000 36 1,913 1,913 )
| ~ 26,000 1,365 1,365 1,000 525 1,989 1,989 f)
27,000 1,515 1,515 1,000] 315 2,066 2,066 0
28,000 1,665 1,665 1,000 104 2,142 2,142 0
29,000 1815[ 1,815 1,000 0 2,219) 2,219 of
30,000 1,965 1,965 1,000 0 2,295| 2,295 t)
40,000 3,465; 3,465 1,000 t) 3,060] 3,060 0
50,000 4,965| 4965 1,000 0 3,825 3,825 0

Details may not add to totals due to rounding.


To satisfy the identification test, individuals must include on their tax return the name and
age of each qualifying child. For returns filed with respect to tax year 1995, individuals must
provide a taxpayer identification number (TIN) for all qualifying children who were born on or
before October 31, 1995. For returns filed with respect to tax year 1996, individuals must provide
TINs for all qualifying children born on or before November 30, 1996. For returns filed with respect
to tax year 1997 and all subsequent years, individuals must provide TINs for all qualifying children,
regardless of their age. An individual’s TIN is generally that individual’s social security number.
Some individuals are exempt from social security taxes because of their religious beliefs. These
individuals do not have a social security number; instead, the Internal Revenue Service
administratively assigns them a taxpayer identification number.

The residence test requires that a qualifying child must have the same principal place of
abode as the taxpayer for more than one-half of the taxable year (for the entire taxable year in the
case of a foster child), and that this principal place of abode must be located in the United States.
For purposes of determining whether a qualifying child meets the residence test, for any period
during which a member of the Armed Forces is stationed outside the United States while serving on
extended active duty, the member is not subject to the requirement that the principal place of abode
for a qualifying child and the member be in the United States.

Nonresidents and the credit

The credit may be claimed by an individual meeting the above requirements if the individual
is a U.S. citizen or a resident alien.

Section 7701(b) defines a resident alien for income tax purposes. Aliens who do not meet
this definition are nonresident aliens, For income tax purposes, an individual is generally considered
a resident if the individual:

(1) has entered the United States as a lawful permanent U.S. resident (the “green card
test”), or

(2) is present in the United States for 31 or more days during the current calendar
year and has been present in the United States for 183 or more days during a three-year
period weighted toward the present year (the “substantial presence test”). (An individual
who is present in the United States for fewer than 183 days and establishes that he or she has
a closer connection with a foreign country than with the United States is generally not
subject to tax as a resident alien on account of the substantial presence test.)

Individuals who are nonresident aliens for any portion of the taxable year are not eligible to
claim the credit for taxable years beginning after December 31, 1994, unless an election under Code
section 6013(g) or (h) is in effect for the taxable year.

Under section 6013(g), a nonresident alien who is married to an individual who is either a
citizen or resident alien of the United States at year end may elect to be treated as a resident for the


payment allowable in a taxable year is limited to 60 percent of the maximum credit available to an
individual with one qualifying child.

In order to claim the credit, an individual must either have a qualifying child or meet other
requirements. A qualifying child must meet a relationship test, an age test, an identification test, and
a residence test.

In order to claim the credit without a qualifying child, an individual must not be a dependent
and must be over age 24 and under age 65. In addition, the individual’s principal place of abode
must be located in the United States for more than one-half of the taxable year. For purposes of this
test, a member of the Armed Forces stationed outside the United States on extended active duty is
considered to be maintaining a principal place of abode in the United States.

Qualifying children

Under the relationship and age tests, an individual (or a married couple) is eligible for the
credit with respect to another person only if that other person: (1) is a son, daughter, or adopted
child (or a descendant of a son, daughter, or adopted child); a stepson or stepdaughter; or a foster
child of the individual (a foster child is defined.as a person whom the individual cares for as the
individual’s child; it is not necessary to have a placement through a foster care agency); (2) is under
the age of 19 at the close of the taxable year (or is under the age of 24 at the end of the taxable year
and was a full-time student during the taxable year), or is permanently and totally disabled; and (3)
shares the same place of abode as the person claiming the credit for more than one-half the year (the
entire year for foster children). Also, if the qualifying child is married at the close of the year, the
individual may claim the credit for that child only if the individual may also claim that child as a
dependent. Individuals who are married (as defined in Code sec. 7703) may claim the credit only
if they file a joint return.

In addition to the above criteria, two “tiebreaker” rules apply:

(1) If more than one individual may claim the credit (if any) with respect to any
qualifying child, then only the individual with the highest AGI may claim the credit with
respect to the child. For example, assume a hypothetical household consisting of a
grandmother, mother (age 25), and child (age 2). Both the grandmother and the mother are
eligible to claim the credit with respect to the child. In this case, however, only the
individual with the higher AGI is eligible to claim the credit (assuming the other
Tequirements are met).

(2) An individual who is himself or herself a qualifying child may not claim the
credit. If in the above example, the mother is age 17 (instead of age 25), then she is a
qualifying child of the grandmother. In this case, only the grandmother could claim the
credit, with respect to her own child (mother, age 17) and her grandchild (child, age 2).


Table 1.—
Distribution of the Earned Income Credit”
Under Present Law and the Conference Agreement,
Tax Year 1996

Present Law ‘onference Agreement
Income category® Returns Amount Returns Amount
Less than $10,000 5,665 $6,190 3,019 $5,688
$10,000 - $20,000 5,882 11,548 5,058 10,920
$20,000 - $30,000 4,440 5,298 3,476 3,310
$30,000 - $40,000 1,045 837 292 158
$40,000 - $50,000 83 68 8 9
$50,000 - $75,000 25 32 5 2
More than $75,000 0 0 0 0
Total 17,140 23,970 11,858 20,094

Returns are in thousands and amounts are in millions of dollars.

The provisions in the conference agreement, excluding the compliance-related provisions,
would reduce the total cost of the credit by $3.9 billion in 1996. These provisions would (1) deny
the credit to households with no qualifying children, (2) use modified AGI to phase out the credit,
(3) expand the definition of disqualified income, (4) maintain the maximum credit rate for
households with two or more qualifying children at 36 percent, (5) use a two-tiered phaseout for the
credit, and (6) apply an enhancement factor to the earned income of filing units with two or more

7 All of the tables in this section and in the Appendix reflect the updated estimates of the
budget baselines released by the Congressional Budget Office on December 12, 1995. Those
estimates revised downward the projections of credit usage in future years, in part because of
Administration actions to improve compliance with credit rules.

* For this table and subsequent tables in this section, the income concept used to place tax
returns into income categories is AGI plus: (1) tax-exempt income, (2) employer contributions for
heath and life insurance, (3) employer share of FICA tax, (4) workers’ compensation, (5) nontaxable
social security benefits, (6) insurance value of Medicare benefits, (7) alternative minimum tax
preference items, and (8) excluded income of U.S. citizens living abroad. Returns with negative
income are included neither in any of the income categories nor in the total.

17


I. LEGISLATIVE HISTORY OF THE EARNED INCOME CREDIT

Legislative Background

The credit (Code sec. 32) was enacted in 1975 as a means of targeting tax relief to working
low-income individuals with children, providing relief from the social security payroll tax for these
individuals, and improving incentives to work. As originally enacted,° the credit equaled 10 percent
of the first $4,000 of earned income (i.e., a maximum credit of $400). The credit began to be phased
out for filing units with earned income (or AGI, if greater) above $4,000, and was entirely phased
out for filing units with income of $8,000.

The Revenue Act of 1978 increased the maximum credit to $500 (10 percent of the first
$5,000 of earned income). Also, the income level at which the phaseout began was raised to $6,000,
with a complete phaseout not occurring until an income level of $10,000. The Deficit Reduction
Act of 1984 increased the maximum credit to $550 (11 percent of the first $5,000 of earned income)
and the credit was phased out beginning at $6,500 of income and ending at $11,000.

The Tax Reform Act of 1986 increased the maximum credit to $800 (14 percent of the first
$5,714 of earned income), beginning in 1987. The maximum credit was reduced by 10 cents for
each dollar of earned income (or AGI, if greater) in excess of $9,000 ($6,500 in 1987). These
$5,714 and $9,000 amounts (stated above in 1985 dollars) were indexed for inflation.

The Omnibus Budget Reconciliation Act of 1990 (OBRA 1990) substantially increased the
maximum amount of the basic credit and added an adjustment to reflect family size. OBRA 1990
also created two additional credits as part of the credit: the supplemental young child credit and the
supplemental health insurance credit. Both of these supplemental credits used the same base as the
basic credit.

OBRA 1990 also modified the definition of individuals eligible for the credit. Under prior
law, individuals were required to file a joint return or file as a head of household or surviving spouse
in order to be eligible for the credit. OBRA 1990 generally broadened the set of eligible individuals
and set out uniform requirements for qualifying children. The definition of “qualifying child”
enacted in OBRA 1990 is described in the present-law section.

The Omnibus Budget Reconciliation Act of 1993 (OBRA 1993) expanded the credit in
several ways. For individuals with one qualifying child, the credit was increased to 26.3 percent of
the first $7,750 of earned income in 1994. For 1995 and thereafter, the credit rate was increased to
34 percent. In 1995, the earned income amount is $6,160 (this is a $6,000 base in 1994, adjusted
for inflation). The phaseout rate for 1994 and thereafter is 15.98 percent.

3 Table A-2 in the Appendix shows the parameters of the credit over its history.

7


Table 6.--
Distribution of Returns Affected by the Changes to the Credit Rate,
the Credit Phaseout, and the Enhancement Factor
Under the Conference Agreement,

Tax Year 1996
Income category Returns Amount
Less than $10,000 6 $1
$10,000 - $20,000 1,708 230
$20,000 - $30,000 3,784 1,174
$30,000 - $40,000 947 307
$40,000 - $50,000 77 21
$50,000 - $75,000 17 5
More than $75,000 0 0
Total 6,539 1,739

Returns are in thousands and amounts are in millions of dollars.

B. Interaction Between the EIC Changes and the $500 Child Tax Credit

For EIC recipients with qualifying children, the $500 per child tax credit may offset the
changes in the EIC. In 1996, the standard deduction is expected to be $5,900 for individuals filing
as head of household and $6,700 for joint filers. Each personal exemption will provide a $2,550
deduction from AGI. Hence, a single parent with two dependents who claims the standard deduction
will pay income taxes on income only in excess of $13,550 in 1996. Joint filers with two
dependents taking the standard deduction will not begin to pay income taxes until AGI exceeds
$16,900. Since the $500 child credit contained in the conference agreement can only be used to
offset income taxes, maintaining the credit rate at 36 percent for households with two or more
qualifying children could adversely affect households with low income when compared with present
law. The enhancement-factor adjustment increases the earned income of households with two or
more qualifying children by 10/9ths for the purpose of calculating the EIC. The enhancement factor
is reduced for households with income above $14,000 for individuals filing as head of household
and $17,000 for joint filers. The enhancement factor is intended to ensure that most households with
two children will not be affected adversely by the changes to the EIC compared to present law.
Tables 7a-7d present the changes in income taxes, payroll taxes, and net change in taxes (including
any refundable EIC) for hypothetical households under the conference agreement. These examples
assume that (1) the households take the standard deduction, (2) the qualifying children are eligible
for the child credit, (3) the qualifying children are the households’ only dependents, (4) the

23



PRESENT LAW AND ANALYSIS
RELATING TO THE EARNED INCOME CREDIT
AND THE CHILD TAX CREDIT
AS CONTAINED IN THE H.R. 2491 CONFERENCE AGREEMENT

Prepared by the Staff
of the
JOINT COMMITTEE ON TAXATION
December 14, 1995

JCX-57-95



I. DESCRIPTION OF CONFERENCE AGREEMENT REGARDING THE
EARNED INCOME CREDIT

Deny eligibility for individuals without qualifying children

In order to claim the credit, an individual must have a qualifying child.

Modify definition of adjusted gross income used for phasing out the credit

The conference agreement modifies the definition of AGI used for phasing out the credit by
including certain nontaxable income and by disregarding certain losses. The nontaxable items
included are:

(1) tax-exempt interest,

(2) social security benefits not subject to income tax,

(3) nontaxable distributions from pensions, annuities, and individual retirement
arrangements (but only if not rolled over into similar vehicles during the
applicable rollover period), and

(4) child support payments received pursuant to a divorce or separation instrument,
but only in excess of $6,000.

The losses disregarded are:

(1) net capital losses (if greater than zero),

(2) net losses from sole proprietorships (other than in farming),
(3) net losses from sole proprietorships in farming,

(4) net losses from other trades and businesses,

(5) net losses from nonbusiness rents and royalties,

(6) net losses from trusts and estates, and

(7) net operating losses.

Credit rate for individuals with two or more qualifying children

The conference agreement provides that the credit rate for individuals with two or more
qualifying children is maintained at 36 percent for 1996 and future years. The base to which this
rate is applied, however, is changed for some individuals. In general, the maximum amount of the
credit an eligible individual with two or more qualifying children may claim is determined by
multiplying an enhancement factor times the credit rate times the filing unit’s earned income up to
the earned income amount.

For married couples filing joint returns for whom earned income (or modified AGI, if
greater) is less than or equal to $17,000, the enhancement factor is 10/9ths. For married couples
filing joint returns for whom earned income (or modified AGI, if greater) is greater than $21,000,
the enhancement factor is 1. For married couples filing joint returns for whom earned income (or

10


section 205(c)(2)(B)()(ID (or that portion of 205(c)(2)(B)()(ID) relating to it) of the Social Security
Act (regarding the issuance of a number to an individual applying for or receiving Federally funded
benefits). Thus, if an individual obtained a social security number solely because that individual is
an applicant for, or a recipient of, Federally funded benefits, the individual would be ineligible to
claim the credit.

Use mathematical or clerical error procedures for certain omissions*

If an individual fails to provide a correct taxpayer identification number, such omission
would be treated as a mathematical or clerical error. Thus, any notification that the individual owes
additional tax because of that omission would not be treated as a notice of deficiency. If an
individual who claims the credit with respect to net earnings from self-employment fails to pay the
proper amount of self-employment tax on such net earnings, the failure would be treated as a
mathematical or clerical error for purposes of the amount of credit allowed.

Credit deni individuals with ntial unearned income®

An individual would not be eligible for the credit if the aggregate amount of interest and
dividends includible in his income for the taxable year exceeds $2,500. For taxable years beginning
after 1996, the $2,500 limit would be indexed for inflation with rounding to the nearest multiple of
$50.
Effective date

The Administration proposals would be effective for taxable years beginning after December
31, 1995.

5 Included in the President’s December 1995 budget proposal. This provision, absent the
portion relating to self-employment taxes, was included in the President’s fiscal year 1996 budget
proposal and also in H.R. 981, “Tax Compliance Act of 1995,” as introduced by Representatives
Gephardt and Gibbons (by request) on February 16, 1995, and in S. 453, “Tax Compliance Act of
1995,” as introduced by Senators Daschle and Moynihan on February 16, 1995.

§ Public Law 104-7 (H.R. 831) enacted a similar provision with more stringent limits.

9


Table 9.--

Distribution of the Combined Effect of the
Modification of the EIC and the Child Credit on
EIC Recipients Not Affected by the Affluence Tests
Under the Conference Agreement,

Tax Year 1996

Recipients with Children

Change
Income catego Returns in Taxes*
Less than $10,000 2,800 $-4
$10,000 - $20,000 4,345 -406
$20,000 - $30,000 3,479 -439
$30,000 - $40,000 672 -226
$40,000 - $50,000 18 -7
$50,000 - $75,000 6 0
More than $75,000 0 0
Total 11,320 -1,081

Retums are in thousands and changes are in millions of dollars
*Including refundable portion of the eamed income credit

Most households (10.3 million) receiving the credit under present law would be better off
or unaffected under the conference agreement. The remaining 6.8 million EIC recipients would be
adversely affected by the combined impact of the EIC changes and the child credit contained in the
conference agreement. Over half of these households do not have qualifying children. Of the 3.2
million households with qualifying children that would be adversely affected by the changes to the
credit, 1.6 million are affected by the affluence tests, 0.3 million itemize rather than choosing the
standard deduction, 0.6 million have more dependents than qualifying children, 0.6 million have
qualifying children that are not eligible for the child credit, and 0.2 million claim the dependent care
credit. Ninety percent of the 6.8 million households adversely affected by the combined effect of
the EIC changes and the child credit would not pay more in income taxes to the federal government;
instead, they would receive a smaller refundable EIC. Some of those households adversely affected
would nevertheless receive an EIC in 1996 and thereafter that was the same as or in excess of the
EIC they received in 1995. A summary of the effects that the changes in the EIC and child credit
made by the conference agreement would have on present-law EIC recipients is shown in Table 10.

30



Not all households receiving the EIC meet the assumptions stipulated in the examples in
Tables 7a through 7d. Table 8 shows the effect on households receiving the EIC when the changes
in that credit are combined with the $500 child credit.

Table 8.--
Distribution of the Combined Effect of the
Modification of the EIC and the Child Credit on

EIC Recipients
Under the Conference Agreement,
Tax Year 1996
All Recipients Recipients with Children
Change Change
Income category Returns in Taxes* Returns in Taxes*
Less than $10,000 5,673 $503 3,024 $21
$10,000 - $20,000 5,886 3 5,105 -116
$20,000 - $30,000 4,443 344 4,334 328
$30,000 - $40,000 1,049 114 1,030 111
$40,000 - $50,000 83 28 82 28
$50,000 - $75,000 25 24 25 24
More than $75,000 0 0 0 0
Total 17,159 1,016 13,600 397

Returns are in thousands and changes are in millions of dollars.
*Including refundable portion of the earned income credit

When the changes to the EIC under the conference agreement are combined with the $500
child credit, the average detriment to an EIC recipient is $59. For households with qualifying
children, the average detriment is $29. Many households with qualifying children are affected by
the affluence tests. If the households affected by the affluence tests are not included; then
households with qualifying children benefit by an average of $95. Table 9 shows the distributional
effect of these change for households that have qualifying children and that are not affected by the
affluence tests.

29



entire year. The election applies to the year for which it is made and all subsequent years until
terminated. The election will be suspended, however, if neither spouse is a U.S. citizen or resident
at any time during a taxable year.

Under section 6013(h), an individual who (1) is a nonresident alien at the beginning of the
year and a resident alien at the end of the year and (2) is married to an individual who is either a
citizen or resident of the United States at the end of the year may elect to be treated as a resident for
the entire year. Thus, this election can be made by a foreign married couple who arrive in the United
States during the taxable year and who are resident aliens at year end.

Mathematical or clerical errors

The IRS may summarily assess additional tax due as a result of a mathematical or clerical
error without sending the taxpayer a notice of deficiency and giving the taxpayer an opportunity to
petition the Tax Court. Where the IRS uses the summary assessment procedure for mathematical
or clerical errors, the taxpayer must be given an explanation of the asserted error and a period of 60
days to request that the IRS abate its assessment. The IRS may not proceed to collect the amount
of the assessment until the taxpayer has agreed to it or has allowed the 60-day period for objecting
to expire. If the taxpayer files a request for abatement of the assessment specified in the notice, the
IRS must abate the assessment. Any reassessment of the abated amount is subject to the ordinary
deficiency procedures. The request for abatement of the assessment is the only procedure a taxpayer
may use prior to paying the assessed amount in order to contest an assessment arising out of a
mathematical or clerical error. Once the assessment is satisfied, however, the taxpayer may file a
claim for refund if he or she believes the assessment was made in error.

Return preparer penalti

An income tax return preparer is subject to a penalty of $250 if any part of an understatement
of tax on a return or refund claim is due to the return preparer taking a position for which there was
not a realistic possibility of the position being sustained. The return preparer must have known (or
reasonably should have known) of the unrealistic position and not disclosed that position. In
addition, an income tax return preparer is subject to a penalty of $1,000 if any part of an
understatement of tax on a return or refund claim is due to the return preparer’s willful attempt in
any manner to understate tax or to the return preparer’s negligent or intentional disregard of rules
and regulations. An income tax return preparer is also subject to a penalty of $50 for each failure
to (1) furnish a copy of a return or refund claim to the taxpayer, (2) sign the return or refund claim,
(3) furnish his or her identifying number, (4) furnish certain copies or lists of returns or refund
claims, or (5) file certain information returns regarding his or her employees. In addition, tax return
preparers who endorse or negotiate checks made to taxpayers pay a penalty of $500 for each check
endorsed or cashed.


Table 3.--

Distribution of Returns Affected by the
Changes to the EIC Not Relating to Compliance
Under the Conference Agreement,

Tax Year 1996

Returns Affected

Income category Returns Amount
Less than $10,000 3,588 $502
$10,000 - $20,000 5,398 628
$20,000 - $30,000 4,398 1,977
$30,000 - $40,000 1,040 679
$40,000 - $50,000 82 59
$50,000 - $75,000 25 30
More than $75,000 0 0
Total 14,531 3,876

Returns are in thousands and amounts are in millions of dollars.

Tables 4 through 6 present the distribution of returns affected by the EIC provisions
contained in the conference agreement. Table 4 shows the distribution of returns affected by the
affluence tests. As expected, the affluence tests mainly affect households with income above
$20,000. Approximately 80 percent of the reduction in the credit from these provisions is from
households with income greater than $20,000.

20



Table A-2.--Earned Income Credit Parameters, 1975-1996
(dollar amounts unadjusted for inflation)

Minimum
income for Phaseout range:
Calendar year Credit maximum Maximum Phaseout Beginning Ending
rate credit credit rate income income
1995:
No children 7.65% $4,100 $314 7.65% $5,130 $9,230
Ong.child 34.00 6,160 2,094 15.98 11,290 24,396
Two children 36.00 8,640 3,110 20.22 11,290 26,673
1996:
No children 7.65 4,220 323 7.65 5,280 9,500
One child 34.00 6,330 2,152 15.98 11,610 25,078
Two children 40.00 8,890 3,556 21.06 11,610 28,495

Source: Compiled by staff of the Joint Committee on Taxation


Table A-3.—-Earned Income Credit Parameters, 1975-1995 in 1995 Dollars

i 3

Adjusted to 1995 dollars by CPI-U

Minimum Total
income for Phaseout range amount Average

Calendar maximum Maximum Beginning Ending of credit credit per
year credit credit income income (millions) _per family
1975 $11,352 $1,135 $11,352 $22,704 $3,548 $570
1976 10,734 1,073 10,734 21,467 3,475 537
1977 10,078 1,008 10,078 20,157 2,840 504
1978 9,367 937 9,367 18,734 2,454 473
1979 10,516 1,052 12,619 21,031 4,316 606
1980 9,265 926 11,118 18,530 3,680 530
1981 8,399 840 10,078 16,797 3,212 479
1982 7911 791 9,493 15,822 2,808 440
1983 7,665 766 9,198 15,330 2.752 343
1984 7,348 735 8,817 14,695 2,407 378
1985 7,095 780 9,224 15,609 2,963 399
1986 6,966 766 9,055 15,324 2,799 391
1987 8,172 1,144 9,301 20,742 4,558 605
1988 8,054 1,128 12,700 23,975 7,610 683
1989 8,004 1,121 12,609 23,814 8,121 694
1990 7,956 1,113 12,535 23,673 8,093 641
199] 11,871 906

One child 8,004 1,336 12,612 23,822

Two children 8.004 1,384 12,612 23,822
1992 14,178 1,008

One child 8.184 1.441 12,885 24,345

Two children 8.184 1,506 12,885 24,345
1993 16,417 999

One child 8.189 1515 12,891 24,356

Two children 8.189 1,597 12,891 24,356
1994 20,242 1.121

No children 4.121 315 5,151 9,272

One child 7,985 2.100 11,333 24,474

Two children 8.680 2.605 11,333 26,062
1995 23,310 1,265

No children 4.100 314 5,130 9,230

One child 6.160 2,094 11,290 24,396

Two children 8.640 3.110 11,290 26,673

Source: Joint Committee on Taxation calculations



97

Table 7b.--
Earned Income Credit and $500 Child Credit
Under the Conference Agreement,
Head of Household with Two Children
Tax Year 1996

Federal Income| Net Change in
Federal Income] Tax Before Refundable Taxes
Tax Before | Credits, EIC Employee's | Employer's | Refundable EIC Change in | Including
Credits, | Conference EIC Present | Conference | Change in | Share FICA | Share FICA | EIC Present | Conference | Refundable | Refundable
Present Law | Agreement_| Child Credit Agreement |__EIC__| Payroll Taxes| Payroll Taxes|___Law Agreement EIC EIC
9 9 77 71 400 400] ol
of 0 153 153] 800 00) 0 ol
en) _) 230 230 1,200 1,200 0 Q
t) 0 306 306) _1,600) 1,600) 0 __9
 ) 383 383 2,000 2,000 0 a
a) a) 459 459 2,400 2,400 0 0
ol 0 536 536 2,800 Or)
0 0) 612 612 3,200 Cn)
- ol. 0 689 689 3,564, 8 8
ol x) 765 765|_ 3,556 3,564 8 3
i) en) [ 842 342 3,556 3,564 s| 8
a) nnn) ol 3,474 2 918 918 3,474) 3,486 2 12
0 ol 3,263 12 995 995] 3,263 3.275| 2 “+1
68] 88 3,053 3,065 2 1071 Lo 2,985, "3,065 80 80]
15,000 218 218 218 2,842 2,765 7 1,148 1,148 2,625 2,765 iat “141
16,000 368 368 368 2,631 2,465 7166 1,224 1,224 2,264 2,465 202 202
17,000 518 518 518 2,421 2,166] 255 1,301 1,301 1,903 2,166 262 "_-262
18,000 668) 668) 668 2,210) 1,856 354 1377 1,377 1,543 1,856 313 313
19,000 318 818 818 2,000 1,606 “393 1,454 1,454) 1,182 1,606 424| ~424
20,000 968 968 968 1,789 1,356 433 1,530 1,530 822 1,356 335 _-535|
21,000 1118 1118 1,000 1,578 1,106 42 1,607 1,607 461 Se
22,000 1,268 1,268 1,000 1,368 856 “512 1,683 1,683 100 389 488 488
23,000 1418 1,418 1,000 1,157 606| “551 1,760 1,760) 0 189 189 449
24,000 1,568 1,568 1,000 947 356 590 1,836 1,836 0 0 110)
| 25,000 1718 1,718 1,000 736 106 -630| 1,913 19i3[ 0
26,000 1,868 1,868 1,000 325] -525 1,989 1,989 a) 0
27,000 2,018| 2,018 1,000 315 0 “315 2,066 2,066 oo
28,000 2,168 2,168 1,000 104] 0 “104 2,142 2,142 0 0 of
29,000 2318] . 2318 1,000 o 0 0 2,219) 2,219 0 of a
30,000 2,468 2,468) 1,000 0 0 0 2,295 2,295| q oof
40,000 3,968 3,968 1,000 0 0 0 3,060) 3,060 a) )
$0,000 6,027 6,027 1,000 o 0 0 3,825 3,825, 0 0 0

Details may not add to totals due to rounding


I, DESCRIPTION OF PRESENT-LAW EARNED INCOME CREDIT PROVISIONS

In general

Certain eligible low-income workers are entitled to claim a refundable credit on their income
tax return. The amount of the credit an eligible individual may claim depends upon whether the
individual has one, more than one, or no qualifying children and is determined by multiplying the
credit rate by the filing unit’s earned income up to an earned income amount. The maximum amount
of the credit is the product of the credit rate and the earned income amount. For filing units with
earned income (or adjusted gross income (AGI), if greater) in excess of the beginning of the
phaseout range, the maximum credit amount is reduced by the phaseout rate multiplied by the
amount of eared income (or AGI, if greater) in excess of the beginning of the phaseout range. For
filing units with earned income (or AGI, if greater) in excess of the end of the phaseout range, no
credit is allowed.

For taxable years beginning after December 31, 1995, an individual is not eligible for the
credit if the aggregate amount of “disqualified income” of the filing unit for the taxable year
exceeds $2,350. Disqualified income is the sum of:

qd) interest (taxable and tax-exempt),
(2) dividends, and
(3) _ net rent and royalty income (if greater than zero).

The parameters for the credit depend upon the number of qualifying children the individual
claims. For 1995, the parameters are as follows:

Two or more One qualifying No qualifying
qualifying child— children--
children--

Credit rate 36.00% 34.00% 7.65%
Earned income amount $8.640 $6,160 $4,100
Maximum credit $3,110 $2,094 $314
Phaseout begins $11,290 $11,290 $5,130 ©
Phaseout rate 20.22% 15.98% 7.65%
Phaseout ends $26,673 $24,396 $9,230

iS)


net earings, the failure will be treated as a mathematical or clerical error for purposes of the amount
of credit allowed.

Increase return preparer penalties
The conference agreement doubles the civil penalties applicable to income tax return
preparers. The conferees encourage the Secretary of the Treasury to use the maximum feasible

review process to insure that originators of electronic income tax returns involving the credit comply
with the law.

Effective date

The provision is effective for taxable years beginning after December 31, 1995.

13


obtain their 1995 child credit. Under this procedure, the IRS is directed to issue a form on which
taxpayers can file for their 1995 child credit following the completion of the normal tax return filing
season (i.e., after April 15, 1996). The IRS is directed to mail a notice to taxpayers on or before
February 1, 1996.

The text of the notice will read as follows: “The Balanced Budget Act of 1995 was recently
passed by the Congress. The Act’s child tax credit allows taxpayers to reduce their taxes by $500
per child. The credit is effective October 1, 1995. You may wish to check with your employer
about changing your tax withholding to take immediate advantage of the credit to which you are
entitled for the current tax year. In addition, the Internal Revenue Service will be sending you a
form in June of this year which you may use to claim the credit to which you are entitled for the
period from October 1 through December 31, 1995 ($125 per child for 1995). In order to obtain
your 1995 credit, you should file this form by August 15, 1996. Your refund will be sent to you
sometime after October 1, 1996.”

Taxpayers will be directed to file their requests for their 1995 child credit on or before
August 15, 1996. The IRS is directed to begin issuing checks to taxpayers entitled to the 1995 child
credit on October 1, 1996.

In the case where a taxpayer’s 1995 income tax liability had been reduced by a refundable
credit, the amount of the 1995 child credit that is allowable would be calculated as if the taxpayer
had been able to claim the 1995 child credit at the time that the taxpayer filed his or her 1995 income
tax return. For example, suppose a taxpayer had a 1995 income tax liability of $110 prior to the
application of a $1,000 refundable tax credit. The refundable credit would reduce the income tax
liability to zero and a refund of $890 would be paid to the taxpayer. If the taxpayer has one
qualifying child for the 1995 portion of the child credit, the taxpayer may receive an additional $110
tefund, since he would have been able to use $110 of the $125 of 1995 child credit to offset his or
her 1995 income tax liability, had the child credit been available on the 1995 income tax return.

The amount of the 1995 child credit will be treated as an overpayment of taxes for purposes
of the appropriation of funds to pay the credit amounts.

Effective date

The provision is effective for taxable years beginning after December 31, 1995.

15



INTRODUCTION

This document,’ prepared by the staff of the Joint Committee on Taxation, provides a
description of the present-law earned income credit, its legislative history, a description of the
provisions related to that credit and the child tax credit in the H.R. 2491 conference agreement,” and
an analysis of the effects of those conference agreement provisions.

Part I of the document is a description of the present law, Part II is a legislative history of
the earned income credit, Part III describes the conference agreement regarding that credit, Part IV
describes the conference agreement regarding the child tax credit and Part V is an analysis of the
effects of the child tax credit and the changes to the earned income credit contained in the
conference agreement. The Appendix provides certain additional data relating to the earned income
credit.

’ This document may be cited as follows: Present Law and Analysis Relating to the Earned

Income Credit and the Child Tax Credit as Contained in the H.R. 2491 Conference Agreement
(JCX-57-95), December 14, 1995.

? The H.R. 2491 conference agreement (see H.Rept. 104-350, November 16, 1995) was
vetoed by President Clinton on December 6, 1995.

1


Table A-2.--Earned Income Credit Parameters, 1975-1996
(dollar amounts unadjusted for inflation)

Minimum
income for Phaseout range:
Calendar year Credit maximum Maximum Phaseout Beginning Ending
rate credit credit rate income income
1975-78 10.00% $4,000 $400 10.00% $4,000 $8,000
1979-84 10.00 5,000 500 12.50 6,000 10,000
1985-86 11.00 5,000 550 12.22 6,500 11,000
1987 14.00 6,080 851 10.00 6,920 15,432
1988 14.00 6,240 874 10.00 9,840 18,576
1989 14.00 6,500 910 10.00 10,240 19,340
1990 14.00 6,810 953 10.00 10,730 20,264
1991:
One child 16.70 7,140 + 1,192 11.93 11,250 21,250
Two children 17.30 7,140 1,235 12.36 11,250 21,250
1992:
One child 17.60 7,520 1,324 12.57 11,840 22,370
Two children 18.40 7,520 1,384 13.14 11,840 22,370
1993:
One child 18.50 7,750 * 1,434 13.21 12,200 23,050
Two children 19.50 7,750 1,511 13.93 12,200 23,050
1994:
No children 7.65 4,000 306 7.65 5,000 9,000
One child 26.30 7,750 2,038 15.98 11,000 23,755
Two children 30.00 8,425 2,528 17.68 11,000 25,296


households do not receive any other tax credits, and (5) the households are not affected by the
affluence tests.

Under these assumptions, a household would benefit under the conference agreement if the
household has one qualifying child and income above $6,330 or the household has two qualifying
children and income above $8,890. Other households with one or two qualifying children would
have no change in taxes under the conference agreement if the five conditions outlined above apply.

Also, a comparison between the EIC and the FICA payroll taxes is shown in Tables 7a-7d.
Under both present law and the conference agreement, households with one qualifying child and
income less than $12,810 will receive an EIC greater than the employee’s and employer’s share of
FICA taxes. For households with two or more qualifying children, the EIC will exceed the
employee’s and employer’s share of FICA taxes if the household’s income is less than $16,500.

24



CONTENTS

INTRODUCTION .........00..0 0.000 e eee ee

I. DESCRIPTION OF PRESENT-LAW EARNED INCOME CREDIT
PROVISIONS ...... 00.00 ee

I. LEGISLATIVE HISTORY OF THE EARNED INCOME CREDIT .....

Ill. DESCRIPTION OF CONFERENCE AGREEMENT REGARDING
THE EARNED INCOME CREDIT ..........0. 00.0 e cece eee ees

IV. DESCRIPTION OF CONFERENCE AGREEMENT REGARDING
THE CHILD TAX CREDIT... 0... eee ene

V. ANALYSIS OF THE CHANGES TO THE EIC INCLUDED
IN THE CONFERENCE AGREEMENT ................---0.000--

A. Changes to the Earned Income Credit ................0. 0000 eee
B. Interaction Between the EIC Changes and the $500 Child Credit ......

APPENDIX |. 2.0 cette eee ee

Table A-1.--Data on Earned Income Credits Claimed, 1975-2000
Table A-2.--Earned Income Credit Parameters, 1975-1996
(dollar amounts unadjusted for inflation)
Table A-3.--Earned Income Credit Parameters, 1975-1995,
in 1995 Dollars

10

14

16

16
23

34


Table 11 shows the distribution of the 6.8 million EIC recipients adversely affected by the
combined effect of the EIC changes and the child credit contained in the conference agreement.

Table 11.—

Distribution of the Combined Effect of the
Modification of the EIC and the Child Credit
on EIC Recipients Adversely Affected
Under the Conference Agreement,

Tax Year 1996

All Recipients Recipients with Children

Change Change

Income category Returns in Taxes* Returns in Taxes*
Less than $10,000 2,672 $506 31 $26
$10,000 - $20,000 1,753 493 976 374
$20,000 - $30,000 1,875 1,057 1,765 1041
$30,000 - $40,000 455 409 435 406
$40,000 - $50,000 53 41 53 41
$50,000 - $75,000 18 27 18 27
More than $75,000 0 0 0 0
Total 6,826 2,533 3,278 1,914

Returns are in thousands and changes are in millions of dollars.
*Including refundable portion of the eared income credit

32



Table 7c.--

Earned Income Credit and $500 Child Credit
Under the Conference Agreement,
Joint Return with One Child
Tax Year 1996

L7

Federal Net Change in]
Federal | Income Tax Refiundable Taxes
Income Tax. {Before Credits, BIC Employee's | Employer's | Refiindable EIC Change in | Including
Before Credits,] Conference EIC Present] Conference | Change in | Share FICA | Share FICA | EIC Present | Conference | Refundable | Refundable
Present Law | Agreement [Child Credit] Law | Agreement | __FIC [Payroll Taxes| Payroll Taxes|__Law Agreement EIC EIC
0 340 0 77 7 340] 340
0 680 0 153] «153 __ 680 680
__o ~ 1,020) o| 230 230 1,020 1,020
0 0 1360[ (306 306 1,360 1,360
ol a 1700| 383 383 1,700 1,700
0 On 2,040) 0 459) 459 2,040 2,040
| “of 2,156] 3] «S36 536 2,152 2,156
ol. ol 2,156 3 612 612 2,152 2,156
0 On 2,156 3 689) 689) 2,152 2,156
ol 2,156) 3 765 765 2,152 2,156 4
11,000 0 2,156 3 842 842] 2,152 2,156
12,000 ) 2,096 7 91 918 2,090 2,096
13,000 0 1,937 7 995 995| 1,930 1,937
14,000 ) 1777 7 1071 L071 1,770] 1,777
15,000 98] 98 98 16 1 1,148 1,148 1,513 1,611
16,000 248 248 248 141 -40 1,224 1,224 1,203] 1411
17,000 398 398 398 12u 80! 1,301 1,301 893 1211
18,000 548 548 500 L011 =120 1377 1,377| 584 964
19,000 698 698 300 ail =160 1,454 1,454] 274 614
20,000 848 848 500 6il -200 1,530 1,530 Q 264
21,000 998 998 500 alt 241 1,607 1,607 Q 0
22,000 1,148 1,148 500 2 281 1,683 1,683 0 al
23,000 1,298 1,298 500 332 u 2321 1,760 1,760 0 a
24,000 1,448 1,448 500 172 0 2172 1,836 1,836 0 0
25,000 1,598 1,598 500 12| 0 “12 1,913 1,913 _o 0
26,000 1,748 1,748 500 0 0 0 1989| 1,989 _o Q
27,000 1,898 1,898 500 0) o 0 2,066 2,066] 0 0
28,000 2.048 2,048 500) 0 0 0 2,142 2,142 @ “0
29,000 2,198] 2,198 500 0 0 0 2,219 2,219 0
30,000 2,348 2,348) 500 0 oO 2,295| 2,295 0 |
40,000 3,848 3,848 500 0 0 of” 3,060 3,060) 0 an)
50,000 5,348 5,348 500) 0 0 0 3,825 3,825, 0 0

Details may not add to totals due to rounding.


modified AGI, if greater) is greater than $17,000 but less than or equal to $21,000, the enhancement
factor is ratably reduced from 10/9ths to 1. For example, a married couple filing a joint return with
an earned income (and modified AGI) of $18,000 has an income one-fourth [= ($18,000 -
$17,000)/($21,000 - $17,000)] of the way into the ratable reduction. Thus, the enhancement factor
for this couple is 13/12ths [= (10/9) - (1/4)((10/9) - 1)]. The $17,000 and $21,000 amounts are
indexed for inflation after 1996.

For unmarried individuals for whom earned income (or modified AGI, if greater) is less than
or equal to $14,000, the enhancement factor is 10/9ths. For unmarried individuals for whom earned
income (or modified AGI, if greater) is greater than $18,000, the enhancement factor is 1. For
unmarried individuals for whom eared income (or modified AGI, if greater) is greater than $14,000
but less than or equal to $18,000, the enhancement factor is ratably reduced from 10/9ths to 1. For
example, an unmarried individual with an earned income (and modified AGI) of $16,500 has an
income five-eighths [= ($16,500 - $14,000)/($18,000 - $14,000)] of the way into the ratable
reduction. Thus, the enhancement factor for this individual is 25/24ths [= (10/9) - (5/8)((10/9) - 1)].
The $14,000 and $18,000 amounts are indexed for inflation after 1996.

The conferees do not intend that individuals will have to do the above calculations to
determine enhancement factors; these rules will be reflected in the credit tables provided with the
tax return materials.

Phaseout of the credit

The conference agreement increases the phaseout rate of the credit for filing units with
earned income (or modified AGI, if greater) in excess of the beginning of the second-tier phaseout.
For individuals with two or more qualifying children, the second-tier phaseout begins at $17,750 and
the phaseout rate for income in excess of that threshold is 25 percent. For individuals with one
qualifying child, the second-tier phaseout threshold begins at $14,850 and the phaseout rate for
income in excess of that threshold is 20 percent. The beginning of these second-tier phaseouts is
indexed for inflation after 1996. The phaseout rate applied to income between the beginning of the
present-law phaseout and the beginning of the new, second-tier phaseout is the same as would apply
under present law for 1996 and future years. With these changes, the parameters of the credit for
1996 will be as follows:

11


IV. DESCRIPTION OF CONFERENCE AGREEMENT REGARDING
THE CHILD TAX CREDIT

In general

The conference agreement allows taxpayers a nonrefundable tax credit of $500 for each
qualifying child under the age of 18 (as of the close of the calendar year in which the taxpayer’s
taxable year begins). The amount of the credit is not indexed for inflation.

To be a qualifying child, an individual has to satisfy a relationship test and a dependency test.
An individual satisfies the relationship test if the individual is a son or daughter of the taxpayer, a
descendant of a son or daughter of the taxpayer, a stepson or stepdaughter of the taxpayer, or an
adopted child of the taxpayer. An adopted child includes a child who is legally adopted or who is
placed with the taxpayer by an authorized placement agency for adoption by the taxpayer. A foster
child also satisfies the relationship test if, for the taxpayer’s entire taxable year, the foster child (1)
is a member of the taxpayer’s household and (2) has as his principal place of abode the home of the
taxpayer.

An individual satisfies the dependency test if the individual is a dependent of the taxpayer
with respect to whom the taxpayer is entitled to claim a dependency deduction. For this purpose,
the term “dependent” does not include an individual who is a resident of a country contiguous to the
United States unless (1) that individual is an adopted child of a taxpayer who is a U.S. citizen or
national and (2) for the taxpayer’s entire taxable year, the individual is a member of the taxpayer’s
household and has as his principal place of abode the home of the taxpayer.

Except in the case of a taxable year closed by reason of the taxpayer’s death, the credit is not
allowable in the case of a taxable year covering a period of less than 12 months.

Income phaseout

For taxpayers with AGI in excess of certain thresholds, the allowable child credit is reduced
by $25 for each $1,000 of AGI (or fraction thereof) in excess of the threshold. Thus, the size of the
phaseout range is proportional to the number of qualifying children. For married taxpayers filing
joint returns, the threshold is $110,000. For taxpayers filing single or head of household returns, the
threshold is $75,000. For married taxpayers filing separate returns, the threshold is $55,000, These
thresholds are not indexed for inflation.

1995 credit amounts

The credit is effective October 1, 1995. The portion of the child credit that is effective for
the period from October 1, 1995, through December 31, 1995, will be provided to taxpayers through
a special procedure. The Internal Revenue Service has raised significant concerns about making the
credit available through the normal return filing process for the 1995 income tax return. In light of
these concerns, the conferees have directed the IRS to use a special procedure to help taxpayers

14