Encouraging Savings under the Earned Income Tax Credit: A Nudge in the Right Direction
The earned income tax credit (EITC) is the largest tax benefit program for working individuals. The EITC, enacted in 1975, provides substantial tax dollars to the working poor and other low-income taxpayers. The EITC is an effective, nonpartisan credit that provides much needed money to low-income workers. For taxable year 2009, the maximum EITC is $5,657. Unlike many other credits, the EITC is refundable and a taxpayer receives the credit even if the taxpayer lacks a tax liability. However, there are several shortcomings of the current EITC. One big disadvantage of the EITC is that recipients are not encouraged to save or invest the increase in the after-tax income that may result from the receipt of the EITC.
During 2007, 3.6 million or 9.7 percent of people in the United States age 65 or older were below the poverty level, which was statistically higher than the 9.4 percent figure in 2006. The number of people age 65 and over living below the poverty level grew by 200,000 between 2006 and 2007. In light of the number of elderly people living below the poverty level, it is important that everyone saves for retirement. Low-income workers face many challenges to saving for retirement. The barriers to saving include the lack of access to retirement plans. For example, only 34 percent of workers employed in service occupations in the private industry have access to employment retirement plans. The percentage drops to 29 percent for part-time employees.
An important question is whether the EITC should be expanded to further encourage low-income taxpayers to save for retirement to help bridge the asset gap. The article concludes that the EITC should be structured to “nudge” low-income workers to invest in retirement plans and individual retirement accounts (IRAs) to lower the likelihood that they will live below the poverty level at retirement. The article then discusses the importance of saving and the ways in which the government has encouraged lower income workers to accumulate wealth. Because these effects have not succeeded in increasing the savings rate of the working poor, the government must take additional measures to encourage savings by the working poor. This article proposes the adoption of a saving component to the EITC and outlines the importance of automatic contributions in conjunction with the EITC to maximize the success of the saving component. Other scholars have suggested that the EITC be linked to an asset-building policy. However, this is the first article that proposes a detailed plan for its implementation.
Vada W. Lindsey. 2010. "Encouraging Savings under the Earned Income Tax Credit: A Nudge in the Right Direction" ExpressO
Available at: http://works.bepress.com/vada_lindsey/1