Reimagining Tax Administration: Social Programs Through the Tax Code – Workshop 4: Eligibility Rules for EITC/CTC and Other Family Benefit/Anti-Poverty Programs, Part 2

Prior blogs in our series giving an advance look at the Center for Taxpayer Rights’ Reimagining Tax Administration workshop briefs have covered the characteristics of the Earned Income Tax Credit/Advance Child Tax Credit population and the impact of administrative burden on that population’s ability to claim and receive those credits.  You can read the first two blogs here and here.

In Part 1 of this workshop’s coverage, we analyzed whether the eligibility rules for tax benefits targeted to low income households actually fit the characteristics of the target population and whether those rules caused some eligible children not to receive the benefits.  Today we explore what are the risks that might arise in using the tax system to deliver these benefits to that population, how other countries have tried to come up with approaches that minimize that risk, and why, even given the risks, we might still want to run such programs through the tax code. All of the workshop sessions are recorded, and the videos are available here on the Center’s website, along with slide decks and other materials.

Avoiding repayment risks in the Child Tax Credit: Lessons from the UK, Australia, New Zealand, and Canada

Presented by Kathleen Bryant, Legal Research Associate & Chye-Ching Huang, Executive Director, The Tax Law Center, New York University

Refundable credits, particularly those with an advance payment feature and eligibility determined retroactively, can pose a “repayment risk.”  Based on evidence from United Kingdom, Australia, and New Zealand, repayment risks can create program instability and financial hardship.  Taxpayers may be required to pay back some or all of the benefit received due to changes in income or family circumstances. While safe harbors can mitigate some of the financial harm, substantial repayment risk can undermine political and public support for the program.

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Generally, there are three approaches to minimizing repayment risk that have been employed internationally (or proposed in the United States). (More information on avoiding repayment risks internationally can be found here.)

  1. The government can require repayment with some protections in place for taxpayers. This is the case in the United Kingdom, Australia, New Zealand, and the United States (for 2021).

In the United Kingdom between 2003 to 2004 and 2005 to 2006, about one-third of all tax credit awards were overpaid, with income fluctuation accounting for 70% of the overpayments and delays in reporting changes in family circumstances accounting for about 30% of repayment obligations. Requiring repayment created financial hardship for families in the UK: as a result, over 25% of overpaid taxpayers owed the government more than £2,500 and 10% owed the government more than £5,000. Seventy-one percent of overpaid taxpayers reported that the obligation to repay the government caused financial difficulty, with some reporting that they went without basic needs so they could make payments back to the government.

In addition to causing financial hardship, credit repayment obligations in the UK discouraged taxpayers from claiming the credit in future years. Credit repayment debt affected the government as well, creating administrative instability with ineffective fixes. Further, while initially UK had large safe harbors to account for income variation from year to year, these safe harbors were reduced over time.

  1. The government can eliminate income-based repayment obligations but can require reconciliation when family circumstances change. This is the option adopted in Canada.

Unlike that in the UK, the Canadian child tax credit is based on prior year income, meaning that changes in circumstances during the current year do not create repayment obligations during that year. However, if a taxpayer fails to immediately report changes in family circumstances, the delay may cause steep repayment obligations and subsequent financial hardship.

  1. The government can create presumptive eligibility rules, implement a grace period for reporting updates, and allow for an income lookback period to protect against all repayment methods.

The repayment structure proposed by the House Ways & Means Committee in the Build Back Better Act provides another approach to repayment obligations. The proposal includes monthly eligibility, an income “lookback,” and presumptive eligibility with a grace period for reporting changes in income and family circumstances.  (Note that under the proposal, the new caregiver has the responsibility to apply for the monthly credit when the care-giving circumstances change.)  Similar to the UK, New Zealand, and Australia, this proposal includes a safe harbor provision that would cover some or all of the excess, meaning a qualifying taxpayer could be protected from repaying any CTC amount overpaid by the government.  However, the safe harbor only applies to changes in the number of qualifying children, and not to other changes such as change in filing status or income.

While repayment risks associated with refundable credits are a concern, the administrative remedies can a high burden on honest/accurate filers.  Refundable tax credits account for 10% of the tax gap, with EITC constituting only 6% of the tax gap and the CTC/Additional CTC comprising only 2%, yet they receive more negative media attention than other contributors, such as underreporting business income tax (25%). Further, as noted earlier, improper refundable credit payments are reported twice – first as part of the tax gap and then as improper payments. This imbalance in scrutiny leads to adoption of more complex rules which can, in turn, result in more mistakes and overclaims, thereby increasing repayment risk.

District of Columbia Earned Income Tax Credit

Presented by Elena Fowlkes, Program Manager, Office of the Taxpayer Advocate, DC Office of Tax and Revenue

The District of Columbia’s Earned Income Tax Credit (DC EITC) provides an alternate approach to refundable credits that the federal government can study to improve its administration of the EITC and other refundable credits. Although the DC EITC piggybacks off of the federal EITC, the program has been greatly expanded and will continue to grow in the future.

For families with qualifying children, the DC EITC started at 10% of the federal credit in 2001 and increased to 40% in 2009 and more than 75% beginning in 2022. The DC EITC for childless workers has been a particular focus of the DC Council, in response to the DC Tax Revision Commission’s 2014 recommendations, and is more generous than the federal credit.  Specifically, in 2015 the DC EITC not only increased the benefit for childless workers (100% of the federal credit as opposed to the prior 40%) but also raised the Adjusted Gross Income (AGI) threshold above the IRS maximum ($25,833 for DC versus $15,820 for IRS, with ongoing inflation adjustments), to account for the higher cost of living in the District of Columbia.  Further, the DC EITC includes a component for non-custodial parents.  In 2015, after the adoption of the changes for eligible childless workers and non-custodial parents, DC saw an increase of 10,000 claims, or nearly 27%.

The DC EITC is scheduled to expand even further in the coming years. Set at 70% of the federal EITC for Tax Year (TY) 2022, the credit is scheduled to increase to 85% for TY 2025 and 100% of the federal EITC by TY 2026. Additionally, beginning in 2022, 40% of the DC credit will be paid up-front, and the remainder of payments, if over $600, will be paid in eleven monthly installments. Beginning in 2023, all DC EITC refunds over $1,200, including those to childless workers, will be paid out in monthly installments. Recently, DC approved the use of Individual Taxpayer Identification Numbers (ITINs) for taxpayers claiming the DC EITC.

One downside to basing the DC EITC on the federal EITC is that it incorporates all the complexity housed in the federal rules. Moreover, if the IRS disallows the federal EITC as a result of a math error or an audit, DC law requires the DC taxpayer to file an amended return reflecting the IRS disallowance of the EITC.  Further, the DC Department of Revenue can independently audit the taxpayer’s DC return and disallow the DC credit.  Thus taxpayers navigating the complex credit eligibility rules can face a significant repayment risk, as well as the potential administrative burden of two audits.

Issues with Delivering Benefits Through the Tax Code

Presented by Cathy Livingston, Partner, Jones Day

As the foregoing presentations make clear, there are challenges with delivering family benefit and anti-poverty programs through the tax code.  For example:

  • Retrospective filing requirements limit the reach of these programs. Generally, most individuals report their income to the IRS once at the end of each year; thus, the agency must rely on outdated information on income, filing status, and the presence of qualifying children. Moreover, low income individuals are not required to file at all, so the IRS lacks even an annual snapshot of these individuals’ household information. Because these individuals may still be eligible for the credits, they will be forced into an affirmative interaction with the tax agency that would otherwise not be required.
  • Congress and the IRS view the IRS’s primary role as a revenue collector. Many existing definitions and processes reflect this role, which can be difficult to reconcile with benefit administration.
  • The IRS does not have real time information regarding income, marital status, employer health insurance coverage – information that is necessary for targeting benefits more closely to the time of need.
  • Even when a taxpayer may be eligible for a tax refund from a benefit program, the IRS may offset that refund against a past federal tax debt and federal law requires the IRS to offset the refund for certain other outstanding federal and state debts unless a specific exception applies.
  • Finally, there is the culture issue: a lack of resources (or a lack of willingness to dedicate resources) for education and outreach limits the IRS’ ability to reach the most vulnerable taxpayers. Further, the IRS views itself as an enforcement agency; the emphasis on improper payment reporting plays into the IRS enforcement culture.

Given all these challenges, why even attempt to administer social benefits through the tax code?  One answer is found in the U. S. Constitution, Article 1, Section 9, Clause 7, which states that no monies can be drawn on the Treasury except where appropriated.  The impact of this appropriation requirement for discretionary spending is that funds are appropriated on an annual basis and are subject to political winds.  Even with mandatory spending such as appropriated entitlements, they periodically expire (e.g., Children’s Health Insurance Program expired for 114 days between 2017-2018, and is now funded through FY 2023).

To complicate matters further, Congress at times may “disappropriate” funding for provisions it has previously passed.  This happened with the Risk Corridor Payments enacted by the Affordable Care Act (42 USC 18062), which provided for insurers’ net losses attributable to pricing risks to be paid out of program management appropriations.  In 2015, Congress passed a rider to the annual appropriations bill prohibiting use of program management appropriations for this purpose.  In Maine Community Health Options v. United States, 140 S.Ct. 1308 (2020), the U.S. Supreme Court acknowledged the validity of the rider but held that insurers could sue for payment under the Tucker Act and if successful, the obligations would be paid as a debt of the United States.

In recent years, there have been occasions when all or some of the annual appropriations bills have not been enacted by the start of the fiscal year, leading to what is commonly known as a “government shutdown.”  Under 31 USC 1324, certain tax refunds and tax credits are considered “permanent indefinite appropriations” and shall be paid out regardless of a lapse in annual appropriations.   These include credits included in the Internal Revenue Code before 1978 (such as the EITC), as well as the Child Tax Credit and the Premium Tax Credit.

Thus, one motivation for running social benefit programs through the Internal Revenue Code is to avoid the disruptions of the annual appropriations process or disappropriation of entitlement spending.

CONCLUSION: How to Balance the Trade-offs?

As currently structured the IRS is in a difficult position for administering social benefit programs: it is set up to collect the pennies owed.  It is uncomfortable with designing tax procedures that adopt a “rough justice” approach, whereby IRS can show flexibility in administration toward taxpayers who are acting in good faith and are tripped up by the complexity and rigidity of the law.  Moreover, the inflexibility and precise targeting of definitions in current law create repayment risk. 

One way to minimize complexity is to provide a universal benefit.  This approach eliminates gaming. Another approach is utilized in Australia, where the child benefit can be divided between two main carers, with a default set at 50-50, subject to a different division agreed to between the parties.  Such division has the additional benefit of encouraging both parents to be involved with the child.

Canada has adopted a different eligibility rule: the person with primary responsibility for the child’s care is eligible to receive the credit.  This approach maximizes access for families in flux rather than adopting rigid relationship and residency rules.  But it may also require more administrative capacity than the IRS currently allocates to credit administration as well as program navigators. Even without legislative reform, the IRS can learn from other federal agencies and other countries in order to effectively administer social programs.  It needs to increase its administrative capacity, train its staff in social welfare skills, and accept that because it does not have residence or carer information, it must tolerate some improper payments in order to successfully disburse the benefits to the eligible population. (For a discussion of the cultural changes necessary for the IRS to administer social benefit programs, see Workshop VI.)

RECOMMENDATIONS

  1. Eliminate the requirement to include overpayments of the Earned Income Credit and other family-based refundable credits from reporting as improper payments under the IPIA.  (These overpayments are already accounted for in tax gap calculations.)
  2. Absent making the child tax credit universal, Congress should consider adopting a “primary care giver” definition for purposes of determining eligibility for family tax benefits.  Congress should further consider allowing two main carers to receive the tax benefit, to be divided 50-50 unless otherwise agreed to.
  3. If an advance payment mechanism is enacted, Congress should include a reasonable safe harbor provision;  allow a grace period for change-of-circumstances reporting; provide a look-back or income averaging to account for income volatility; authorize the sharing of residency and caring data from state and local agencies; and provide funding for a cross-agency network of navigators that work with beneficiaries of all social benefit programs, including the EITC and CTC.

Reimagining Tax Administration: Social Programs Through the Tax Code – Workshop 4: Eligibility Rules for EITC/CTC and Other Family Benefit/Anti-Poverty Programs, Part I

Prior blogs in our series giving an advance look at the Center for Taxpayer Rights’ Reimagining Tax Administration workshop briefs have covered the characteristics of the Earned Income Tax Credit/Advance Child Tax Credit population and the impact of administrative burden on that population’s ability to claim and receive those credits.  You can read those blogs here and here.

Today’s blog analyzes whether the eligibility rules for tax benefits targeted to low income households actually fit the characteristics of the target population, and whether these eligibility rules leave benefits on the cutting room floor for some otherwise eligible children.  In Part 2 of this workshop brief (to be published tomorrow), we explore the risks that might arise in using the tax system to deliver these benefits to that population, how other countries have tried to come up with approaches that minimize that risk, and why, even given the risks, we might still want to run such programs through the tax code.

All of the workshop sessions are recorded, and the videos are available here on the Center’s website, along with slide decks and other materials. — Nina

Eligibility Rules: Background

Eligibility for the various family benefit and anti-poverty credits is dependent on several factors, including income (e.g., adjusted gross income or earned income), marital and tax filing status, citizenship and residency status, and the number and presence of eligible children. The four-part qualifying child test used for various tax benefit provisions considers the relationship of the child to the taxpayer, where the child resides throughout the year, the age of the child, and (in some cases) the amount of financial support given to the child by the taxpayer. The primary issue regarding tax credit eligibility is whether the adults receiving that benefit have a connection with the child; relationship and residency serve as proxies for determining who cares for and has responsibility for the child.

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Claiming Benefits for a Child

Presented by Elaine Maag, Principal Research Associate, Urban-Brookings Tax Policy Center

Forty percent of all child subsidies come from tax benefits, outstripping traditional benefit programs including Medicaid, Children’s Health Insurance Program (CHIP), and income security programs such as SSI, TANF, Social Security and SNAP.

Chart of federal expenditures on children by category and major programs, 2019.

Due to the difficulty that comes with delivering benefits directly to children, there are several ways in which agencies try to deliver benefits to adults most closely connected to the child:

  • Medicaid and the Children’s Health Insurance Program (CHIP) follows the tax filing relationship;
  • Social Security survivor benefits are provided to the legal representative or designated payee, which may be different from the Medicaid adult;
  • Temporary Assistance for Needy Families (TANF) gives benefits to families regardless of marital status, so the adult can be an unmarried partner living in the household with the child;
  • Supplemental Nutrition Assistance Program (SNAP) grants benefits to those who share meals with the child, which may be the TANF unit or the tax unit; and
  • the Child Tax Credit (CTC) adopts the qualifying child test applied to the dependency exemption (IRC § 151-152).  Unlike the EITC, the CTC/dependency exemption includes a support test.

These different eligibility tests raise the question, in awarding benefits, what criteria should policymakers care about so long as we know the child actually exists?  For example, one goal would be to minimize overlapping claims.  Going beyond the taxable unit so that the benefit can follow the child as the child moves throughout the year could increase duplicate claims, but if the definition is intuitive – e.g., by focusing on providing the benefit to the taxpayer who provides care for the child regardless of the taxpayer’s relationship to the child – overlapping may not be a significant issue.

The existing piecemeal system creates problems for both the applicants and agencies administering the benefits. Confusion arises when the benefit units don’t match.  For example, if an individual is denied benefits under one program’s eligibility rules, that person may be less likely to apply for benefits under another program despite being eligible. Conversely, an individual eligible for benefits under one program might incorrectly claim benefits another program. These mismatches create compliance costs for the agencies.  Further, requiring multiple agencies to determine eligibility for the same households increases administrative costs and applicant burden.

Although there are problems associated with having different eligibility rules for each program, there are also costs associated with creating a uniform eligibility test across all family benefit and anti-poverty programs. First, a uniform definition would create winners and losers – if an individual is ineligible for one program, that individual is ineligible for all programs. Second, while each of these programs is designed to reduce poverty and provide benefits to children, their methods and goals are different. A uniform definition might not coincide with each program’s individual goals.

As discussed in Workshop 2, the tax system’s current test for whether individuals can receive benefits on behalf of children does not adapt to the changing structure of the American family, and thus excludes children and families from receiving much-needed cash benefits. One potential area of focus for policy makers should be to try to determine with whom the child lives and deliver benefits to that household, which could bring a degree of uniformity between the various programs and reduce compliance and learning costs for the taxpayer and administrative costs for the agencies.  (See Workshop 3 for a discussion of administrative burden.)

Social Welfare Considerations of EITC Qualifying Child Noncompliance

Presented by Emily Lin, Financial Economist, Office of Tax Analysis, Department of the Treasury

In Fiscal Year (FY) 2020, according to the IRS, nearly one quarter (24%) of EITC payments, or $16 billion, were made to taxpayers completely or partially ineligible for the credit, with 30% (and half of the dollar amount) of these errors attributable to nonqualifying children. This aggregate data, however, doesn’t provide insight into how to improve administration of the credit or the social welfare loss of noncompliance.  For example, what is the value of an improperly paid EITC dollar, and what is the cost of reducing those errors?  EITC noncompliance is also subject to duplicative reporting, because EITC overclaims are considered elements of the IRS tax gap as well as “improper payments” under Office of Management and Budget (OMB) guidance for the Improper Payments Information Act of 2002 (IPIA).

A summary of EITC errors on Tax Year (TY) 2006 to 2008 returns is shown in the table below.

As shown above, failure to meet the qualifying child test constitutes 30% of returns with EITC errors and over half of dollars incorrectly claimed.  What this data does not provide is answers to the following research questions:

  • Who are the taxpayers incorrectly claiming the EITC?
  • Do they live with the child at all during the year?
  • Do they have a relationship with the child?
  • Why did the correct person not claim the child?
  • What is the social welfare loss and the net revenue loss of the wrong person claiming the credit?

To understand the nature, extent, and impact of EITC errors, the Treasury Department’s Office of Tax Analysis (Treasury) analyzed the IRS National Research Program (NRP) results of a random sample of over 12,000 returns claiming the EITC between 2006 and 2011.  (You can find the study here.) Together with the returns, Treasury analyzed Social Security records and information returns. From the study, Treasury was able to determine the number of improper payments and the amount of money associated with those payments in connection with qualifying child errors.

The charts below summarize the type of qualifying child error in returns incorrectly claiming children for EITC purposes as well as who is making the ineligible claims.

Of the 31.4 million children claimed each year, on average, 4.8 million were claimed in error (based on annual average data above).  Of that 4.8 million children, 3.4 million met the rules relating to children (e.g., the age test).  Thus, 71% of the children claimed in error could be claimed by someone else. This constitutes 38% of all EITC overclaims.

The study further found that in the vast majority of cases, these children met the EITC relationship test with the person incorrectly claiming them on the return.

  • 47% of the children were a son or daughter of the taxpayer;
  • 37% of the children were an other qualifying relative;
  • 15% of the children had lived with the taxpayer at some point during the year; and
  • Only about 12% of the children failed to meet the residency and relationship test.

The researchers then matched the children claimed in error to their non-claiming parents, as follows:

  1. Use Social Security records to identify the non-claiming/non-audited parents of children claimed in error.
  2. Search for the tax and information returns of the non-audited parent. Did this parent file a tax return? Did this parent claim the EITC?
  3. Determine whether the non-audited parent could have claimed the EITC with respect to this child based on income.

Treasury found that for 21% of the children, they could not find Social Security Numbers (SSNs) for any parent (they were deceased, had an ITIN, or were foster parents).  For 20% of the children, the parent on the NRP return was the only parent on record with SSA, and for 19% of the children, they identified one non-audited parent who was not on any return.  Of these latter parents, only 27% had earned income and those who did had very low income.  Thus, 36% or 1.2 million of the children were not claimed by the other parent on a return.  (Only 4% of the children were claimed by both parents – i.e., duplicate claims.)  But could the other parent have claimed the child for EITC?

For Tax Years 2006 through 2011, it appears that 47% (or 0.5 million) of non-claiming parents appeared eligible to claim 0.6 million children.  Of the non-claiming parents who were ineligible to claim the child, in many cases they had already claimed the maximum number of children for EITC purposes, or their income was above the phase-out range for EITC.  Thus, they may have allowed another family member to claim the child.

Treasury then determined the amount of EITC forgone for the sample of 0.6 million children associated with incorrect EITC claims.  The study found that 39% of the $1.449 billion in EITC overclaims could have been claimed by another parent, resulting in $561 million in foregone EITC payments.

Based on this study, the researchers were able to make several conclusions about the nature of improper EITC payments. First, the official EITC improper payment rates overstate the revenue loss to the government because they do not take account of forgone claims. Second, most improperly claimed children are claimed by a relative, not by a stranger or a friend. About 11% of these children are claimed by a relative they live with for all or part of the year, meaning this taxpayer would be eligible to claim the child but for their relationship to the child. Third, the research indicated that while some errors appear to be accidental, most improper payments reflect a credit-maximizing motive. Finally, about 2 million of the 3.4 million children claimed in error could not have been claimed by a tax-filing parent under the current eligibility rules. While some of these children may not be the intended beneficiaries of the credit, more research is necessary to determine the social welfare loss associated with the exclusion of these children.

Reimagining Tax Administration: Social Programs Through the Tax Code – Characteristics of the EITC/Advance CTC Population

In the fall of 2021, the Center for Taxpayer Rights held an online workshop series titled Reimagining Tax Administration: Social Programs Through the Tax Code.  The goal of the series, funded by the Rockefeller Foundation, was to bring together tax professionals, researchers, and administrators not only to understand the current federal tax administration approach to administering social benefits through the tax system but also to explore and discuss alternative approaches.  The Center will be publishing a report based on these workshops, but we thought readers of PT would like to get a preview of this work.

All of the workshop sessions are recorded, and the videos are available here on the Center’s website, along with slide decks and other materials.

Today we are sharing with you the brief from the second workshop in the series.  In 2021, the EITC, Advance CTC and Economic Impact Payments (EIPs) combined were the largest federal program lifting children out of poverty.  This session explores the characteristics of the EITC/CTC population and the implications of those characteristics for administering such major social benefits by the Internal Revenue Service.  Later sessions build on this fundamental information to “reimagine” eligibility rules, administrative burden and due process protections, agency culture and, ultimately, proposals for change.  We’ll be sharing these briefs with PT readers over the rest of this week and beginning of the next, so stay tuned! 

THE SOCIAL SAFETY NET

Presented by Hilary Hoynes, Professor of Economic & Public Policy, Haas Distinguished Chair of Economic Disparities, University of California, Berkeley

Both the Earned Income Tax Credit (EITC) and the Advance Child Tax Credit (Advance CTC) fall within the United States’ social safety net. Programs in the social safety net can be divided into two categories: social insurance programs and public assistance programs. Eligibility for social insurance programs is determined by work history and amounts paid in while working, not on current income. Conversely, eligibility for public assistance programs is determined based on income and, in some instances, assets. Benefits from programs in each category can be given in cash, tax credits or refunds, or in kind, such as health insurance or vouchers. These programs can be administered through a number of systems, including by the Internal Revenue Service through the tax system.

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Who are the disadvantaged and how are social safety net programs helping?

In the United States, children under 18 experience the highest poverty rate at 9.7%, followed closely by older Americans at 9.5% (reduced significantly by Social Security). These rates are higher among Black and Hispanic Americans, female heads of household, and foreign-born non-citizens.

A chart of monthly and annual social safety net participation by program. Medicare, Medicaid, and Social Security are highest.

The largest programs in the social safety net – in terms of participation – are Medicare/Medicaid, Supplemental Nutritional Assistance Program (SNAP), Social Security, and refundable tax credits. Although Social Security pulls more Americans out of poverty than any other anti-poverty program, its effect on children is not as drastic. Refundable tax credits and SNAP are the largest anti-poverty programs for American children. The charts below show this distinction.

Change in number of people in poverty after including each element of public assistance, 2020.
Source: U.S. Census Bureau, Supplemental Poverty Survey 2020, Figure 8
"what if" child poverty rates with the elimination of selected federal programs.
Source: National Academy of Sciences, A Roadmap to Reducing Child Poverty (2019)

Despite the success of these programs in reducing poverty from 11.4% to 9.1% in 2020, child poverty in the United States is higher than the OECD average, and higher than in similarly situated countries after taxes and government benefits. This disparity is due to the following problems:

  • Benefits are not universal. Adults without children and undocumented immigrants are often excluded.
  • Cash is the most useful form of assistance, but many programs provide benefits in non-cash forms.
  • Many programs in the social safety net are conditioned on work, which can be a difficult requirement to meet.
  • The United States spends less as a percentage of GDP on social safety net programs compared to OECD countries, and the child poverty rate remains high after taking into account tax and transfer programs compared to economically similar countries. Taxes and government benefit programs reduced child poverty by only 7% in 2015 (from 27% to 20%). The charts below show the comparison.

Expanding the EITC to include more childfree adults, as well as permanently implementing the Advance CTC, can begin to address these gaps.

CHARACTERISTICS OF THE EITC/CTC POPULATION

Presented by Margot Crandall-Hollick, Specialist in Public Finance, The Congressional Research Service

Background: Why Benefits Are Administered by the Internal Revenue Service

Traditionally, the IRS is a revenue collector. However, because the agency has access to most income and personal information, it is also in the best position to administer benefits to the public. With each tax return, the IRS gains access to the financial and personal information of the filer and any individuals associated with that taxpayer’s return, such as a spouse or any dependents. Additionally, because filing requirements are determined without regard to immigration status, the IRS can collect information on non-citizens and other residents. From tax returns and third party information reporting, the IRS receives information for 86 percent of Americans.  Given this breadth of information, Congress has placed administration of two significant anti-poverty programs, the EITC and the CTC, within the IRS.

There are limits to the IRS’ reach, as some populations have no reason to interact with the IRS and its data collection procedures. The Tax Reform Act of 1986 limited the contact IRS has with the very low-income population by eliminating the need for many in this population to file tax returns. While this measure eliminated a burden, it created challenges for administering benefits to this population, as demonstrated when Congress chose the IRS to administer Economic Impact Payments (EIPs) during the COVID-19 pandemic. Of the 14% of Americans whose information is not available from tax returns, many are older Americans earning only Social Security income. For these individuals, the IRS was able to partner with the Social Security Administration to gather the data it needed to administer EIPs.

To administer benefits to the individuals who do not file tax returns or who are not known to the Social Security Administration (or another federal agency), the IRS has created a series of temporary portals through which nonfilers can provide their information, discussed in workshops 1 and 6.

The Earned Income Tax Credit

Created in 1975, the Earned Income Tax Credit (EITC) has always been conditioned on work, although its eligibility rules have been expanded to consider filing status, number of qualifying children, and income.

The EITC phases in and out based on these factors. The chart below shows the credit amount for 2021, both with and without the expansion for childfree workers under the American Rescue Plan Act:

According to the Congressional Research Service, (CRS) the highest participation, both in terms of percentage of eligible claims made and dollars received, is among taxpayers with more than one qualifying child. In terms of household adjusted gross income, the highest participation rates come from households with AGI between $10,000 and $15,000, and the highest credit amounts are received by families with AGI between $15,000 and $20,000.

Among childless workers, only 65% of eligible taxpayers claim the EITC. This disparity may be because the taxpayer is below the filing threshold discussed in Workshop 1, and the cost of preparing the return is high compared to the amount of the credit – the highest amount a childless worker could receive before the enactment of the American Relief Plan Act (ARPA) was $543, compared to several thousand dollars potentially available for those with children. ARPA expanded the childless worker EITC to $1,502 for Tax Year 2021.

To satisfy the earned-income requirement, a majority of taxpayers reported W-2 income, with some also reporting self-employment income. Regardless of the type of job, about 60% of EITC claimants work multiple jobs throughout the year.

The Child Tax Credit

Like the EITC, eligibility for the Child Tax Credit (CTC) is dependent on number of qualifying children and income. However, the CTC differs from the EITC in that it is not dependent on filing status and, at least for 2021, eligibility does not require earned income – extending eligibility to the 5% of children who live in a household without earned income. The American Rescue Plan Act (ARPA), which eliminated the earned income requirement, also made the credit fully refundable for 2021 and increased the maximum amount an individual can receive — $3,600 for each qualifying child under six and $3,000 for each qualifying child under 17, with half of the credit paid in monthly installments in advance in 2021. The chart below from CRS summarizes the credit for 2021 (and for years not covered by ARPA’s expansion):

Although the exact impact of ARPA is not yet known, CRS has estimated the reach of the Child Tax Credit as well as its effect on the child poverty rate. The graphs below show the estimated increase in the number of families with children benefitting from the credit, both overall and for those in poverty:

In addition to reaching more families and children generally, CRS estimates that the ARPA expansion of the Child Tax Credit will result in a higher credit amount for all families, but especially for families living below the federal poverty line. CRS estimates that nearly 20 million children live in households below 200% of the federal poverty line, 4.7 million of whom live below the poverty line. A detailed breakdown of the expected credit increase by income level is below:

CRS has also predicted the ARPA expansion’s impact across races and ethnicities, with black and Hispanic children experiencing the largest decrease in poverty. For all children, the ARPA expansion is predicted to nearly halve the child poverty rate. Predicted reductions in child poverty rates by race and ethnicity are shown below:

EVOLVING HOUSEHOLD COMPOSITION & IMPLICATIONS FOR CREDIT ADMINISTRATION  

Presented by Elaine Maag, Principal Research Associate, Urban-Brookings Tax Policy Center 

As a result of the COVID-19 pandemic, families already struggling financially faced increased income volatility and food insecurity, missed or delayed healthcare, childcare problems, and an inability to meet basic needs. Both existing programs and new COVID relief programs provide cash or in-kind benefits to address these problems. Historically, the tax system has been taxed with redistributing income through these programs – through taxation of high-income individuals as well as through delivery of safety net benefits. Although there are benefits to using the tax system to administer certain benefits, IRS procedures have not kept up with changing family structures.

Advantages of Using the Tax System to Administer Benefits

 About 40% of benefits for children is administered through the tax system. As discussed above, the IRS has access to information needed to determine eligibility for benefits based on tax returns. Because benefits are claimed when a tax return is filed, there is no additional administrative step necessary – individuals do not need to schedule an appointment or fill out another application to claim tax benefits. Perhaps because these benefits are claimed via a tax return, there is little or no stigma associated with receiving tax benefits, which can serve as a barrier to claiming benefits administered by other agencies.

Disadvantages of Using the Tax System to Administer Benefits

Despite these advantages, there are problems with administering benefits through the tax system. Aid can be administered as transfer benefits or as taxes. Transfer benefits consider the household, can change throughout the year, and are based on need at the time of eligibility determination. Conversely, taxes are based on taxable unit (legal relationships), are usually constant throughout the year, and eligibility is determined after the tax year ends. Benefits as taxes do not always provide assistance directly to the individual who needs it most and when it is needed most.

The rigidity of the tax system prevents some from receiving benefits when needed – both in terms of timing and eligibility. With the exception of the Advance Child Tax Credit in 2021, the IRS provides cash assistance in one lump sum several months after the eligibility period ends. This approach does not help individuals who lose or change their jobs throughout the year, as aid is delivered after the hardship is experienced. Additionally, Congress has provided strict and unrealistic eligibility based on legal relationship. Despite a changing social landscape, the IRS uses a traditional family model when determining eligibility for tax credits. These rules prevent 300,000 children from receiving benefits from the IRS because the households in which they live do not reflect the legal definitions required for credit eligibility.

The current tax code is based on a traditional familiy composition of childbearing/rearing within marriage, married parents, and low divorce rates.  Yet relationships of families and children in the United States are changing — married parents are becoming less common, increasingly children are born outside of marriage and couples are cohabiting, children are moving between households throughout the year, and multigenerational households are becoming more common. The charts below, excerpted from an important Tax Policy Center report, summarize how familial structure has changed in the United States:

Household income is also changing throughout the year. Income volatility is not considered when the IRS administers yearly tax credit payments. Forty percent of families living under 200% of the federal poverty line experience a 25% change in income for six months throughout the year. The chart below, from another TPC report, summarizes income volatility for all households and for those with incomes below 200% of the federal poverty line:

Yearly lump sum payments have certain advantages, but providing periodic payments in advance of the close of the tax year (the period for determining eligibility) can lessen the burden for families experiencing repeated income volatility throughout the year.

Conclusion

The IRS is a natural choice for administering benefits to families – it has access to information from tax returns and other agencies, and it is equipped to provide billions of dollars to Americans. Additionally, administration through the IRS is easier for individuals and comes with a decreased social stigma. However, using the IRS comes with challenges.  First, the tax system has not fully embraced the adjustments necessary to administer advance, periodic payments rather than lump sum payments at year end.

Second, a significant population of low income households do not interact with the tax agency, including the lowest-income individuals with no obligation to file a tax return and children living in households that do not meet the rigid relationship tests currently in place. Although safeguards against fraud and misuse must be in place, using data from external sources (states and other administrative agencies), the IRS can incorporate these individuals without creating too great a burden on itself or these individuals. For example, SNAP has information regarding family composition of some households not currently part of the tax system.  With these improvements, the IRS can decrease the effects of child poverty on American children and their families.

RECOMMENDATIONS

  1.  Retain the Tax Year 2021 dollar and age expansion of the childless worker EITC for future years.
  2. Amend EITC eligibility rules and revise administrative procedures to be more responsive to the structure of today’s families.
  3. With appropriate safeguards, utilize state and other agency data to identify non-filer households that are potentially eligible for the EITC and CTC.
  4. Increase the capacity of IRS systems to issue monthly or periodic advance payments, building on the EIP and Advance Child Tax Credit experience.
  5. Quantify the long-term effects on child welfare and labor participation of benefits administered through the tax system.

January 2022 Digest

A lot has happened in the tax world since the year began, then filing season began last week, and the ABA Tax Section 2022 Virtual Midyear Meeting began yesterday. There are no signs that things will slow down soon, except for (maybe) IRS notices.

Procedurally Taxing will continually provide comprehensive updates and information, but if you fall behind with your reading or struggle to keep up- I’ll be digesting each month’s posts from here on out.

January’s posts highlighted the NTA’s Report, the ongoing impact of the pandemic, and recent Circuit splits.

National Taxpayer Advocate’s Report

NTA Report Released: Essential Reading: The Report is available and contains new features, including an enhanced summary of the Ten Most Serious Problems and a change in the methodology used to determine the Most Litigated Issues.

What are the Most Litigated Issues and What’s Happening in Collection?: A closer look at the Most Litigated Issues. EITC issues are often petitioned but rarely result in an opinion, suggesting that most are settled before trial. In Collection, lien cases referred to the DOJ have declined substantially over the years corresponding with the decline in Revenue Officers and resources.

Who Settles Cases – Appeals or Counsel (and Why?): An analysis of data on the number of Tax Court cases settled by Appeals or Counsel. An increasing percentage of settlements are handled by Counsel, but why? Possible reasons and possible solutions are considered.

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Where Have Tax Court Deficiency Cases Come from in the Past Decade?: Most deficiency cases have come from correspondence exams of low- and middle-income pro se taxpayers. The focus of IRS examinations over the past decade has influenced the cases that end up in Tax Court. A shift in focus may be coming as IRS seeks to hire attorneys to specifically combat syndicated conservation easements, abusive micro-captive insurance arrangements and other tax schemes.

The Melt – Cases That Drop Away in Tax Court: Around 20% of Tax Court cases get dismissed each year- likely due, in part, to untimely filed petitions. Also due to a failure to prosecute, that is the petitioner abandoned the process somewhere along the way. Ways to address this issue are worth exploring, such as increasing access to representation and implementing a model utilized by the Veterans Court of Appeals.

Supreme Court Updates and Information

Who Qualifies as Press and the Boechler Supreme Court Argument Today: Being consider a member of the press comes with benefits, including the option to attend Supreme Court arguments with a press day pass when Covid-restrictions end. In lieu of being there in person, real-time broadcast links of Oral Arguments are made available on the Supreme Court website.

Transcript of Boechler Oral Argument: A link to the transcript of the Boechler Oral Argument is provided and Keith shares his in-person experiences observing the Supreme Court and the options available to others who are interested in doing so when Covid-restrictions end.

Pandemic-Related Considerations

Refund Claims and Section 7508A: A well-informed analysis of the disaster area suspensions under section 7508A and the refund lookback limits. Does the language in section 7508A allow for an extended lookback period? The IRS Office of Chief Counsel doesn’t think so, but TAS has recommended that Congress amend section 6511(b)(2)(A) for that purpose, and there is an argument that a regulatory solution is already available.

 Making Additional Work for Yourself and Others: The IRS has been cashing taxpayer payments without acknowledging receipt of the associated return. This improper recordkeeping resulted in the IRS sending CP80 notices to taxpayers requesting duplicate returns. This created more work for the IRS, practitioners, and clients. The IRS, however, recently announced it would stop doing this, as summarized directly below.

IRS Announces Stoppage of Notice to Paper Filers Who Remitted Payment and Tax Court Announces Continued Zooming: The IRS will stop requesting duplicate returns from paper filers who remitted payments with their original returns. Members of Congress also made specific requests to the IRS with the goal of providing relief to taxpayers until the IRS backlog is resolved, including temporarily halting automated collections, among other things. The Tax Court announced all February trial sessions will be by Zoom.

Practice and Procedure Considerations

“But I’ve Always Done It That Way!” Practitioner Considerations on Subsequent Year Exams: A TIGTA recommended change to IRS procedure may increase the audit risk for taxpayers who do not respond to audit notices. There is no blanket prohibition on telling clients about audit rates and general likelihoods of audit, so practitioners should be able to advise their clients of this potentially emerging risk and ways to avoid it.

New Rules in Effect for Refund Claims For Section 41 Research Credits Raise A Number of Procedural Issues: New rules for research credit refund claims require extensive documentation which increases costs and the risk of a deficient claim determination. Procedures for determinations were issued at the beginning of the month and have generated concern among practitioners because a determination cannot be challenged with a traditional refund suit and because the IRS modified regulatory requirements without utilizing formal notice and comment procedures.

Tax Court News

Tax Court Going Remote for the Remainder of January[and February]: January calendars (and now February, as mentioned above) scheduled in-person sessions have switched to remote sessions due to ongoing Covid-concerns.

Tax Court Orders and Decisions

The Tacit Consent Doctrine May Extend Far Beyond Signing a Joint Return: The Court in Soni v. Commissioner, allowed the tacit consent doctrine (where facts and circumstances led to finding of consent on the part of a non-signing spouse) to apply to returns, power of attorney authorizations and forms 872. The doctrine could be expanded in future cases, so it should be kept in mind when representing innocent spouses.

Timely TFRP Appeal?: The administrative 60-day deadline to respond to TFRP notices is discussed in an order requesting that the IRS supplement its motion for summary judgment. The origin of a deadline is important. Jurisdictional deadlines are different from administrative deadlines, and cases involving administrative deadlines can be reviewed for abuse of discretion.

Circuit Court Decisions

Eleventh Circuit finds Regulation Invalid under APA: The Eleventh Circuit, in Hewitt, calls into question who has the burden to show that a comment made during a notice and comment period: 1) was significant, and 2) consideration of it was adequate. The Tax Courts says it’s the taxpayer, the Eleventh Circuit says it’s the IRS, but what does this mean for everyone else?

The Fifth Circuit Parts Ways with the Ninth Circuit Regarding the Non-Willful FBAR Penalty: A difference in statutory interpretation results in a recent split between the Ninth and Fifth Circuits over whether the non-willful penalty under section 5321(a)(5)(A) should be assessed on a per-form or per-account basis. The Ninth Circuit held that legislative history, purpose, and fairness support a per-form penalty, but the Fifth Circuit held that Congress’ intent and the objective of the penalty support a finding that it’s per-account.

Goldring is Back with a Circuit Split: The Fifth Circuit addresses how underpayment interest should be computed on a later assessed deficiency when a taxpayer elects to credit forward an overpayment from an earlier filed return. It held “a taxpayer is liable for interest only when the Government does not have the use of money it is lawfully due.” This contrasts with other Circuits which have decided that the law allows the IRS to begin computing interest when an amount is “due and unpaid.”

Polselli v US: Circuit Split on Notice Rules for Summonses to Aid Collection: A recent Sixth Circuit decision continues a circuit split on a fundamental issue in IRS summons practice: does the IRS have to give notice when it issues a summons on accounts owned by third parties in the aid of collecting an assessed tax? The Sixth, Seventh and Tenth Circuits read section 7609 notice requirements and its exclusion without limitations, which contrasts with the Ninth Circuit’s more narrow interpretation.

D.C. Circuit Narrows Tax Court Whistleblower Award Jurisdiction: The D.C. Circuit overturns Tax Court precedent by holding that the Tax Court lacks jurisdiction over appeals of threshold rejections of whistleblower requests. Since all appeals of whistleblower cases go to the D.C. Circuit, the Tax Court is bound by the decision unless the Supreme Court takes up the issue. 

Liens and Judgments

Local Taxes and the Federal Tax Lien: The effect of the Tax Lien Act of 1966 was reiterated in United States v. Tilley.  Section 6323(a) sets up the first in time rule of law, but 6323(b) provides ten exceptions, including one for local property taxes, which allows a local lien to defeat a federal tax lien even when the local lien comes later in time.

Tax Judgments and Quiet Titles: Tax judgments can benefit the IRS beyond the 10-year federal collection statute of limitations. Boykin v. United States, like Tilley, involves real property held by nominal owners. The taxpayer brought suit to quiet title, the IRS counterclaimed that the money used to purchase the property was fraudulently transferred, and the taxpayer argued that a state statute of limitations prevented the IRS’s argument. The Boykin Court disagreed with the taxpayer relying upon Supreme Court precedent that state statutes do not override controlling federal statutes.

Bankruptcy and Taxes

Diving Beneath the Surface of In re Webb: An in-depth analysis of a technical bankruptcy issue that can impact taxes involving an election under section 1305, which allows postpetition tax claims to be deemed prepetition claims. The classification of the claims impacts whether a subsequent IRS refund offset violates a debtor’s rights.

TIGTA Report on EITC Audit Procedures Suggests Room for Improvement in IRS Communication and Education Strategy

Today we welcome back guest blogger Anna Gooch. Anna highlights ongoing discussions of the IRS’s communication and education strategy between TIGTA, the IRS, and stakeholder groups. This topic is particularly timely following the President’s executive order on improving customer experience across the federal government, which states in part, that

Agencies should continually improve their understanding of their customers, reduce administrative hurdles and paperwork burdens to minimize “time taxes,” enhance transparency, create greater efficiencies across Government, and redesign compliance-oriented processes to improve customer experience and more directly meet the needs of the people of the United States.

The Secretary of the Treasury is specifically directed to

design and deliver new online tools and services to ease the payment of taxes and provide the option to schedule customer support telephone call-backs.  The Secretary of the Treasury should consider whether such tools and services might include expanded automatic direct deposit refunds based on prior year tax returns, tax credit eligibility tools, and expanded electronic filing options.

Creatively re-thinking taxpayer communication and education will help ensure that the agency’s new online tools and services make a meaningful difference in the taxpayer experience. Christine

In a report issued on September 2, 2021, the Treasury Inspector General for Tax Administration (TIGTA) released a report reviewing the IRS’ EITC audit practices and providing recommendations for improvement. In the report, TIGTA explained:

The IRS’s EITC examination strategy is not part of a larger IRS examination strategy that encompasses all examinations by which resources devoted to EITC examinations can be more easily assessed in the context of other challenges to taxpayer noncompliance. Also, due to IRS processing limitations, the IRS does not prioritize certain high-risk EITC claims for examination. Lastly, the IRS’s examination rates for EITC claims appear disproportionate with respect to certain Southern States; however, the examinations are aligned with tax returns flagged by IRS compliance filters.

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Based on these findings, TIGTA made the following recommendations designed to improve the processes by which the IRS selects EITC claims for audit:

1. [C]onsider how refundable credits, including the EITC, would be examined to a different extent if the claims are considered for compliance purposes closer to the proportion that they contribute to the Tax Gap.

2. Evaluate the current programming for the prerefund selection process to ensure that cases identified by both [Questionable Refund Program (QRP)] and [Dependent Database (DDb)] selection pools are prioritized for DDb prerefund selection.

3. Evaluate and revise the scoring process to ensure that the cases with the highest risk are scored as such.  This process should include adding weight to cases with higher QRP and DDb scores and [duplicate TIN filing] repeaters.

4. [T]ailor EITC-related educational efforts for the States with disproportionate error rates.

Of these four recommendations, three are focused on the IRS’ role as a revenue collector. The fourth recommendation, the only recommendation that the IRS did not agree to adopt, concerns the IRS’ role as benefits administrator. In rejecting that recommendation, the IRS relied on its belief that “it already has extensive outreach and education strategy in place,” including EITC Awareness Day and Refundable Credits Summit.

Although this report focuses solely on EITC audits, it provides an opportunity to explore the nature of current IRS outreach and education programs in the context of refundable credit compliance. The Refundable Credits Summit and EITC Awareness Day provide a window into such efforts.

On November 2 and 3, 2021, the IRS held its annual Refundable Credits Summit, a two-day conference hosted by the Wage & Investment Division and Return Integrity & Compliance Services. Commendably, the IRS has been holding these summits for several years now and invites various stakeholders – academics, nonprofits serving the target community, representatives of tax professional groups, LITCs, and tax preparation and VITA entities – to hear presentations from senior IRS leaders on topics relevant to refundable credits and to discuss concerns. The first day of the Fall 2021 Summit provided a summary of legislative and procedural developments regarding the Child Tax Credit and the Earned Income Credit, as well as progress made on advance payments of credits and the various portals associated with those credits. On the second day of the Summit, the IRS hosted a four-hour brainstorming session, requesting suggestions on ways to raise awareness of the availability of refundable credits. During this session, Summit participants offered ways in which the IRS can reach more Americans – posters in laundromats, billboards along highways, ads on local radio stations. There were seemingly endless ideas offered, and while raising awareness of refundable credits is undoubtedly important, this discussion highlighted the IRS’ limited view of “outreach.”

First, based on what was discussed during the Summit (and what was not discussed), it is clear that raising awareness is where the IRS’ plan ends. Reaching as many taxpayers as possible is admirable, but as several participants pointed out during the summit, the lack of a follow up education strategy from the IRS creates a risk that taxpayers will not understand how refundable credits apply to them and their circumstances, nor will they have resources to consult when they encounter a problem.  

Second, it seems the IRS views itself as an information provider and not as the entity that would communicate directly with taxpayers. Rather, though aware of geographic, cultural, and demographic differences among eligible populations, the IRS did not appear to envision any role for itself in communicating with these populations. Instead, the IRS looked to the attendees to conduct community-based outreach using IRS-provided resources. Understandably, the IRS is proud of increasing its stakeholders and the number of eligible individuals it reaches; however, the IRS has no effective way of analyzing whether its materials and efforts are useful or effective because it delegates this responsibility to stakeholders.  

Finally, the IRS failed to consider the importance of using data in its outreach campaigns. There exist data breaking down which areas are most at risk for failing to claim the expanded CTC, even if families in these areas are eligible. These areas should have not only a different, targeted outreach strategy, as TIGTA suggests, but also an intensive education campaign focusing on the communities where specific types of noncompliance occur.  The IRS also doesn’t seem to use data in analyzing its efforts after the fact. As one participant stated during the Summit, the IRS cannot just throw several campaigns out and hope that something sticks. If the IRS wants outreach and education to be effective, it must analyze what works and what doesn’t.

In terms of education, as noted in the recent TIGTA report, the IRS relies on its existing EITC Awareness Day to provide sufficient education to EITC claimants. According to the IRS website, “Awareness Day is an event organized by the IRS and its partners to educate the public about the EITC and requirements to claim the credit. The goal is to raise awareness of EITC to ensure every qualified worker claim and receive [sic] their EITC. We also ask you to join us in getting the right message out about the CTC/ACTC and the AOTC to the right people who deserve the credits” (emphasis added). Despite the IRS’ apparent goal to reach “every qualified worker,” the reach of Awareness Day is quite limited. In 2020, via its 1,500 “supporters,” the IRS reached 2 million individuals on EITC Awareness Day. While the IRS does state that “other activities such as news releases and articles for EITC Awareness Day” were conducted, it is silent as to what exactly these activities are or what their reach is, especially because the IRS relies so heavily on its “partners.” In 2020, 25 million taxpayers claimed the EITC on their return. Two million is 8% of 25 million – not exactly “every qualified worker.” The IRS does not publish much data on EITC Awareness Day, so it’s not entirely clear who is targeted, what the message is, or if there is any follow up, much less what communities the education actually occurred in.  The information that is published suggests that there is room for improvement of EITC (and other refundable credit) education efforts, particularly those targeted toward the 5 million taxpayers who are potentially eligible for the EITC but do not claim it.

The TIGTA report is just one example of where the IRS is failing to embrace its dual role as both revenue collector and benefits administrator, and outreach and education are just a small part of adopting that role. The IRS could begin to improve its educational programs by starting with small pilot programs targeting communities with high noncompliance or nonparticipation, as TIGTA suggests. From these programs, the IRS would be able to test and analyze multiple strategies and approaches to determine the best approach for larger markets. Among other changes, the IRS could revise its mission statement, create a specialized unit dedicated to benefits administration, adjust administrative processes, and improve communications to better reflect the role it has in administering some of the nation’s largest anti-poverty programs. Of course, all of this cannot happen overnight, but as Congress continues to place benefit administration in the IRS, the IRS must adapt accordingly.

Pandemic Relief: Are Welfare States Converging?

Starting this year, I will cover law review articles of interest to PT readers. The goal of my coverage is not to provide a critical review, but rather to make you all aware of thought-provoking research that may serve as an inspiration or enhancement to your own work.

I start with Converging Welfare States, a 2018 keynote address by Prof. Susannah Camic Tahk for the “Always with Us? Taxes, Poverty and Social Policy” symposium at Washington and Lee University, published in the Washington and Lee Journal of Civil Rights and Social Justice (available here.)   She looks at the trajectories of direct-spending welfare programs and tax antipoverty programs, and asks “To what extent can we expect tax programs become more like direct-spending programs, or ‘welfare’ over time?”

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As tax practitioners, we are typically more familiar with tax antipoverty programs, like the earned income credit (“EITC”) and the child tax credit (“CTC”), and less familiar with direct-spending welfare programs, like Temporary Assistance to Needy Families (“TANF”), the Supplemental Nutrition Assistance Program (“SNAP”), and the now repealed Aid to Families with Dependent Children (“AFDC”). In the low-income taxpayer world, our clients can benefit from both types of programs.

In her address, Prof. Tahk asks, “Will the trajectories of the tax antipoverty programs and the direct-spending programs converge?” In light of recently proposed Covid-relief legislation, tax antipoverty programs may start to look more like direct-spending welfare while retaining the hallmarks and benefits of living within the tax code… at least, for now.

The House proposed bills last week included a provision (here at page 22) to make the child tax credit refundable with the option of being paid in advance on a monthly basis for 12 months (but there is already buzz around the idea of making it permanent). The child tax credit changes will purportedly have the effect of decreasing the number of children in poverty by more than 40%.

There is another provision that expands the EITC (here at page 45), with a key aspect that it makes it more generous to childless taxpayers. PT has covered some general EITC issues here and here.

In her address, Prof. Tahk asserts that differences in public opinion, legal framework and administration make tax antipoverty programs more popular, effective and sustainable than direct-spending welfare programs. And she asks if that popularity, effectiveness and sustainability is threatened when tax programs begin to look more like direct-spending welfare?

People may be supportive of programs in which they are more likely to receive the benefit themselves. The House proposal doesn’t alter the TCJA change which made the Child Tax Credit available to those with higher incomes, so joint filers with adjusted gross incomes up to $400,000 would still be entitled to a $2,000 credit. It does, however, impose lower limits on the proposed additional amount of $1,000 to $1,600 per child, i.e. joint filers with adjusted gross incomes of $150,000 begin to be phased out of that portion. Even with a lower limit for the additional amount, a lot of taxpayers will still be eligible.

Prof. Tahk suggests that, “If tax antipoverty programs are popular because they are widely available, more growth to these programs may in fact enhance, rather than diminish, their relative popularity.” 

Many tax antipoverty programs are framed as tax cuts, which Prof. Tahk thinks may also be why the general public is supportive of them. On the other hand, she cites research by others that suggests people don’t mind paying taxes, are proud to do so, and prefer refundable tax credits to direct-spending programs, even when they are explicitly made aware of the welfare-like nature and purpose of refundable tax credits. So, what does that mean for an advanced monthly payment of a tax credit?

Congress has heavily relied upon the tax system to deliver money to people throughout the pandemic. Procedurally Taxing has covered may of the administrative and procedural concerns this creates. In a PT post on the differences between the EIP and the Recovery Rebate Credit (here), Les begins to contemplate the issues that may arise as, “Congress considers the possibility of using the tax system in additional ways to deliver regular benefits in advance of (or even in the absence of) filing a tax return.“

The disproportionate effect the pandemic has had on low income Americans is hard to deny, which is why relief legislation is being used to expand upon existing tax antipoverty programs. But it begs the question, is the tax code the right place for the government to advance its antipoverty agenda?

Prof. Tahk points out that there are more substantial procedural rights found in the tax code than there are in many traditional poverty means-tested  laws, which have eroded over time. For example a 1996 welfare statute banned federally funded legal-services organizations from “participat[ing] in litigation, lobbying or rulemaking involving an effort to reform a Federal or State welfare system,” which has made it far more challenging for poverty law attorneys to assert and expand rights related to direct-spending welfare.

The Taxpayer Bill of Rights and the statutorily rooted protections akin to due process notice and hearing rights found in the tax law, automatically bestow certain rights on recipients of tax antipoverty programs. Additionally, it is significant to Prof. Tahk that the “tax legal framework continues to develop under circumstances where it affects everyone who interacts with the tax code, business and nonbusiness, rich and poor,” because taxpayers with resources can hire attorneys who can defend, assert and expand tax-based rights.

Prof. Tahk is careful to point out that some tax antipoverty provisions are treated differently than other sections of the code, such as the EITC ban under section 32(k) (which PT has covered here and here) and delayed refunds for EITC and CTC recipients. If the trend continues, she postulates, even tax antipoverty law could become its own area of law, but it would still be different from the law that governs direct-spending welfare programs.

Legislated exceptions have already been created for some pandemic-relief provisions, but so far, in ways that benefit taxpayers. Take, for example, carve outs related to Payroll Protection Program loans- forgiven loans are not included as income and expenses paid for with forgiven loans can be deducted. This treatment is contrary to well-established principles in the code under I.R.C. §§ 61(a)(11) and 265.  The provision that prevented EIPs from being offset, except for past due child support, is another example, and could have implications for the treatment of tax antipoverty payments going forward.

It has yet to be seen whether the IRS can or will collect on erroneous Economic Impact Payments, but Caleb has some compelling analysis about it here. Unlike the EIP, the House proposal includes safeguards that protect low-income taxpayers by limiting the amount they are required to repay if advanced CTC payments are erroneously received.

We’ve seen that the IRS is relatively well-suited to deliver cash to people quickly, and it also has data at its disposal (including cross-agency date from the SSA and VA) which can be used to determine eligibility. It’s not perfect, of course, but nothing is. Prof. Tahk also points that there are ways in which the IRS’s infrastructure can be used to reduce problems with noncompliance or improper payments, referencing research and work done by Nina and others in the EITC realm.

If you are interested in more of Prof. Tahk’s research and analysis in the area, I encourage you to read her keynote address and check out her other work.

Proving Your Client’s Marital Status, Not as Simple as It Appears but Crucial for EITC

Today we welcome back guest blogger Gina Ahn. In today’s post Gina explains the importance of marital status for the EITC, and how the stark difference between the childless EITC and the EITC with qualifying children led one taxpayer to pursue an extremely weak Tax Court case. While that taxpayer’s claim of common law marriage did not succeed, common law marriage may be a legitimate claim for residents of common law states. Ultimately though, Gina argues that a better solution would be to expand the EIC for childless workers. Christine

As is often the case in the low income or nonprofit universe, the reverse of common knowledge often proves to be true. When I was in-house counsel of a private operating foundation, it became second nature for me to always look for ways to proactively document expenditure responsibility grants, charitable contributions of donors, travel expenses, or the use of statutory safe harbors in self-dealing transactions. This likely was a natural self-defense mechanism because the founders of the foundation practiced reverse ‘tithing’ (where they would donate 90% of their earnings and keep 10%). This radical giving philosophy often drew the ire and suspicion of auditors who were convinced the foundation was a front for a nefarious sophisticated tax scheme. The plain vanilla explanation that the founders were simply living out their religious convictions was too far-fetched for the examiner to believe. So, naturally, the first time I saw an Earned Income Tax Credit (“EITC”) audit of a schedule C cash business at our Low Income Taxpayer Clinic (“LITC”), I was perplexed. I thought to myself, “Why in the world is the IRS contesting this person’s earnings? Don’t they want more revenue? Would they prefer the taxpayer to say he did NOT work and thus owed no taxes?” Little did I realize that the EITC’s high improper payment rate of 25% and large influence of unregulated (and often unscrupulous) private third party preparers “not acting in the best interest of taxpayers and tax administration” gave the IRS statistically sound reasons to select such taxpayers for examination. Apparently, it is an ‘industry’ secret I am just now learning from my clinic’s clientele that preparers often urge taxpayers to increase earnings by declaring cash income of a ‘miscellaneous’ business, to raise the taxpayer’s AGI to be just high enough to land in the fortuitous ‘sweet spot’ to get the largest EITC refund. Oddly, whether one is a high-income taxpayer who “donates too much” money to charity, or a low income taxpayer who has “too much cash income”; you are both a prime candidates for audit.

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Marriage leads to benefits, not a penalty, in the LITC universe

Using the counter intuitive logic of the nonprofit sector, if high income taxpayers normally bemoan the marriage tax penalty; then is there some sort of marriage tax benefit in my alternate LITC universe? Actually, there is – sort of. Childless taxpayers with low income who are de facto (but not legal) stepparents see a substantial EITC increase if they legally marry. For the tax year 2018, a childless taxpayer who supports three children in his household can receive $5912 morein EITC if he is legally married to the mother of the three stepchildren in the household. This is because those who support and care for the children of their cohabitating partner (without marrying their partner)– may not claim any tax benefits from the children. If our example taxpayer is not married, the largest possible EITC for him as a low-income worker without qualifying children is only $518 (see diagram below). By marrying his partner, the children become his qualifying children for the EITC. So, to be more precise, it is not quite a marriage benefit per se. But rather, a legally valid marriage opens the door to a much more lucrative EITC benefit (and other tax benefits that come with qualifying children).

NTA Special Report to Congress, “Earned Income Tax Credit: Making the EITC Work for Taxpayers and the Government, Improving Administration and Protecting Taxpayer Rights

Such is the background for Mr. Brzyski’s Tax Court case, T.C. Summary Opinion 2020-25. (James Creech previously wrote about the social media aspects of the case here.) I am saving this opinion to put in our LITC Volunteer Training Manual/Casebook. It is a methodical parsing of a bread and butter issue that comes up often at our clinic: How much EITC is my client entitled to? What do you do if you don’t have any evidence? Whether one is a seasoned tax practitioner or new law school or LLM graduate, I highly doubt a small tax case without precedential value would ever reach any casebook. My tax casebooks tended to be full of partnerships (inside or outside basis?) and NHL hockey players who did not want to file U.S. tax returns.

Unfortunately, this taxpayer did not have the benefit of an LITC to advise him of the futility of pursuing this case. It becomes quite clear by looking at the chronology of events as described in the opinion that he was grasping at straws. It seems that Mr. Brzyski eventually understood that his entire case depended on whether or not he was legally married to the mother of the two children he claimed on his 2016 tax return. As Judge Copeland writes, “Accordingly, the key to whether [the minors] meet the [stepchild] relationship requirement, as defined by section 152, is whether Mr. Brzyski was married to Daniela [the minors’ mother] in 2016.” The judge does not leave us hanging in suspense. The very next sentence gives her terse (perhaps sardonic? I wish I could have heard her voice) findings of fact: “We find he was not.”

A Melting Pot Federalist System of Governance: Many States and Immigrants

Marriage really ought to be a simple fact to prove. You either have a marriage certificate, or not. If you’ve misplaced it, you can even order one online through a lexis service. But what if you left your country in a state of civil unrest when that country did not maintain birth or marriage records? Then, government agencies offer alternative means to prove your married status. For example, my parents left Korea after the Korean War. At the time they emigrated to the U.S., Korea certainly did not have the luxury of a functioning vital statistics office. However, USCIS and Social Security still figured out an acceptable means to document their marital status in the process of granting their citizenship and social security numbers. However, with this taxpayer in this case, civil unrest was not an impediment to proving his married state. Rather, it was the fact that he did not formally marry in the sense of getting a marriage license or certificate from a civil authority.

However, because the United States has a federalist system of governance and a Constitution with a full faith and credit clause; there was still a slim chance that perhaps Mr. Brzyski had entered into a common law marriage in one of the nine states that recognizes common law marriage; and thus the IRS would recognize his marital status even without a marriage certificate. (See Reg. § 301.7701-18.) And in fact, “Mr. Brzyski contends that he and Daniela entered into a common law marriage in 2011 when they visited Kansas for dinner.” (p.8) The taxpayer seems to believe that a common law marriage is an informal event where a couple can simply “declare” the state of marriage – something akin to eloping to Las Vegas; but without an officiant or registration required.

As a side note, when I was a claims representative for the Social Security Administration (prior to law school) I used to interview widows to evaluate applications for survivors benefits. I vividly recall one conversation with my mentor instructor, because it made an impression on my young naïve (first job out of college) mind.

SSA Gina: “Why do we ask for ALL their former dates of marriages, locations, and dates of divorce? It makes the interview so slow and I feel bad making them work so hard to recall everything. I mean, isn’t the most important marriage the most recent one?”

SSA Mentor: “We do it because it’s our job to look for the correct benefit amount, and it’s possible that they could receive higher benefits based on the earnings of a former spouse.”

SSA Gina: “Okay, I could see the logic of that. But, why do we ask what city or state?”

SSA Mentor: “Because we have to look for putative marriages or possible marriages in other states that recognize common law marriage.”

SSA Gina: “You mean, they just have to live together in one of those states and they’re magically married, without getting married? Can you accidentally marry someone?”

SSA Mentor: “No Gina. Just living together is not enough. They have to act as if they are married. You know they need show that us things like utility bills with both their names on it. And present themselves to the community as if they were married. Just look it up in the POMS when you get someone who alleges at least ten years in one of those states. Roommates can’t just get magically married, it’s something more.”

This left an impression on me because I thought, “Wow. I work for a very generous government agency that trains its workers to “look for” the highest wage earning husband to base a survivor benefit off of.”

No Marriage Certificate? Did you spend significant time in one of the 9 states that recognizes common law marriage?

The IRS has a similar philosophical approach in that they also want to determine the correct assessment and if a common law marriage will lead to the correct assessment; so be it. However, unlike Social Security, the IRS was not created to function as a federal benefits agency and does not hire “Claims Representatives” to interview taxpayers for EITC refunds (a quasi benefit of sorts). Instead this ‘federal benefit’ application is outsourced to third party paid preparers, who are to submit tax returns including information for the Service to determine and pay out the correct EITC amount. Therein lies the opportunity not only for intentional abuse, but genuinely mistaken under- or overpayments.

A quick read through IRM 5.19.11.7.1.2.2 (12-14-2018), gives succinct instructions for a taxpayer who spends “significant time” in one of the nine common law states: CO, IA, KS, MT, OK, RI, TX, UT and the District of Columbia. A ‘declaratory’ dinner in Kansas will not suffice, as the taxpayer mistakenly believes, “Mr. Brzyski claims that over the Thanksgiving holiday he and Daniela established a common law marriage by driving across the Missouri border to Kansas and declaring their marriage over dinner.” (fn 11).

How NOT to prove your common law marriage

The final flaw in the taxpayer’s argument was his lack of consistency. If we look at the chronology of life events and tax filings; it’s hard to imagine that the judge did not (at least internally) have a skeptical tone. It is difficult to argue, “We’ve been married since 2011” – if the first time you file a joint return is a late filed amendment in June of 2017 for TY2016 (the year in dispute). Below is the chronology of events as described in the opinion:

  • November 2011, taxpayer and mother of stepchildren fly to Missouri to visit taxpayer’s family.
  • November 2011, taxpayer and mother of stepchildren drive to Kansas for dinner to declare their marriage.
  • December 2011 taxpayer’s social media[1] still refers to the mother of stepchildren as his fiancée
  • Sometime on or before April 2013, taxpayer timely filed TY 2012 as Single
  • Sometime on or before April 2014, taxpayer timely filed TY 2013 as Single
  • (No information about 2015)
  • October 2016 taxpayer and mother of stepchildren enter a lease together using taxpayer’s last name (but she signs agreement with her maiden name).
  • February 22, 2017 taxpayer timely filed TY2016 (year in dispute) as Head of Household
  • June 20, 2017 taxpayer sends TY 2016 amendment to change status to Married Filing Joint
  • July 24, 2017 notice of deficiency from IRS for TY2016
  • August 2017 taxpayer files TY 2015 return as Single

What kind of “supporting documentation” would have worked to establish a common law marriage?

Judge Copeland expands on her “we find he is not [married]” conclusion:

Mr. Bryzski has not offered any consistent supporting documentation that he went to Kansas to marry or that he and Daniela held themselves out to be husband and wife following their 2011 Thanksgiving trip. Accordingly, we find that Mr. Brzyski failed to meet his burden of proof to establish that a common law marriage took place in Kansas.

Opinion at 11

Although we will never know the whole story, I cannot help but to wonder what sort of documentation the judge would have accepted (if any), to overcome the taxpayer’s inconsistent filings? We sometimes come across clients at our clinic in the unfortunate situation where a paid preparer had given them wrong advice. E.g. “I was told that as long as we live together for 10 years, it’s recognized in California as being married.” The hapless unmarried couple has a spent significant amount of time together and have been presenting themselves as married to the community. It’s just the wrong community, in that California doesn’t recognize common law marriage. Hypothetically speaking, suppose this unmarried couple had spent some time in CO, IA, KS, MT, OK, RI, TX, UT or DC; what type of documentation would be helpful to establish their common law married status?

IRM 5.19.11.7.1.2.2 (12-14-2018) instructs the IRS compliance employees to “ask the taxpayer to provide at least two of the following types of documentation to substantiate a claim of common law marriage.”

  • Deeds showing title to property held jointly by both parties to the common law marriage
  • Bank statements and voided checks showing joint ownership of the accounts
  • Insurance policies naming the other party as beneficiary
  • Birth certificates naming the taxpayer and the common law spouse as parents of their children
  • Employment records listing the common law spouse as an immediate family member
  • School records listing the names of both common law spouses as parents
  • Joint credit card accounts
  • Loan documents, mortgages, and promissory notes evidencing joint financial obligations
  • Mail addressed to the taxpayer and common law spouse as “Mr. and Mrs.”
  • Any documents showing that one spouse has assumed the surname of the other spouse

It makes me wonder, had Mr. Bryzski opened a bank account in Kansas and some marketing companies had addressed credit card offers to a Kansas address as Mr. & Mrs. Bryzski, could they have persuaded the examiner or the judge?

For unmarried clients with “stepchildren,” now what?

Unless they are willing to get married, there is nothing that can be done. And I’m not sure it’s good advice to begin or end a marriage for solely for an EITC refund. Although this NPR podcast “How Economists Do Valentines” is an entertaining nine minute exchange of two economists who did NOT marry because the (tax) cost benefit analysis of marriage came out negative, I think they are the exception and not the rule. In the midst of the pandemic, where the hardest hit industries include retail, hospitality, food services, and manufacturing, one source of disaster relief to consider is a temporary expansion of the childless EITC refund. This is currently proposed in the HEROES Act. Included in the category of ‘childless’ taxpayers are unmarried stepparents – for whom an additional stimulus check through a revamped EITC would make a substantial impact. The Tax Policy Center explains,

HEROES Act [proposes] changes to the EITC would go to people in the bottom 20 percent of the income distribution, . . . [that] would help people in industries that are being hurt the most by the pandemic.

While not a long-term solution, this could provide a much needed reprieve during difficult times to the working poor, married or not.

Tax Refunds and the Disposable Income Test

We welcome back occasional guest blogger Marilyn Ames, who like me is retired from the Office of Chief Counsel, IRS and who did a lot of bankruptcy work when she worked for the government.  She discusses today a recent 5th Circuit case allowing the debtor to keep an earned income tax credit despite some local rules in Texas requiring her to turn a part of it over.  Although the 5th Circuit does not base its decision on the fact that the refund resulted from the earned income tax credit, that fact plays an important role.  Keith

As illustrated by the Covid-19 payments recently dispersed by the Internal Revenue Service and the use of the IRS to carry out portions of Obamacare, Congress frequently uses the IRS and the Internal Revenue Code as a means of administering social programs that have little or nothing to do with taxes. One of the problems of using the IRS to execute these types of programs is that courts assume that all provisions in the Internal Revenue Code are tax-related, which can, at worst, result in decisions at odds with the purposes of these programs, and at best, create precedent that fails to acknowledge Congressional intent.

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The Fifth Circuit’s recent decision in the bankruptcy case of Matter of Diaz (found here or at 2020 WL 5035800) illustrates this issue. While the Fifth Circuit reached what is clearly the right conclusion under the Bankruptcy Code, it did so without recognizing why its decision was correct as a matter of policy. The Diaz case involves the amount of a tax refund that must be turned over as part of a Chapter 13 plan as disposable income, to be paid to general unsecured creditors. The bankruptcy court, the district court and the Fifth Circuit all failed to state why the debtor had a refund, but the Fifth Circuit does provide enough facts for an educated guess to be made that Ms. Diaz’s refund for 2017 resulted from the earned income credit. During 2017, Ms. Diaz worked as a medical assistant, and earned $2,644.16 per month, or a total of $29,791 for the year. During this year, she was a single parent with two children.  She filed bankruptcy on December 1, 2017, but her bankruptcy schedules filed later included her refund for 2017 in the amount of $3,261. Assuming that Ms. Diaz filed a return showing three exemptions and claiming the standard deduction for a head of household of $9,350, her return for 2017 would have showed a taxable income of $8,291 and a tax liability of $828. Making another assumption that she qualified for the earned income credit, the EITC for 2017 would have been $3,208, or about the amount of the refund she claimed on her return. (The tax liability on her return could have been offset by the child tax credit, resulting in a refund of any withholding, and she could also have been entitled to the additional child tax credit, but close enough given the facts available.)

Ms. Diaz filed bankruptcy in the Western District of Texas, which uses a standard form for Chapter 13 plans. Section 4.1 of the standard form provides that the debtor must turn over any tax refunds in excess of $2,000 to be disbursed to creditors pursuant to the plan by the Chapter 13 trustee. The only exception to turning over these funds is if the debtor’s plan provides for payment of 100% of the general unsecured claims, the debtor files a notice requesting that she be permitted to keep the excess refund amount, and the trustee does not object. Ms. Diaz could not make such a request, as her plan provided for only 12% of the general unsecured claims to be paid. Rather than filing a plan providing for the excess amount of $1,261 from her 2017 refund to be turned over to the Chapter 13 trustee, Ms. Diaz filed a plan that divided the total amount of her refund by 12 months, and then included that portion in her monthly income.  Provision 4.1 of the standard form was then stricken through. When the refund was included as part of her monthly income, the plan was adequate to meet the requirements of the Bankruptcy Code.

This gerrymandering did not sit well with the Chapter 13 trustee, who objected to the plan as it did not meet the provisions of Section 4.1 of the standard plan.  Ms. Diaz argued that the plan violated both the Bankruptcy Code and the Federal Rules of Bankruptcy Procedure. The bankruptcy court and the district court for the Western District of Texas disagreed, holding that the district court had authority to require that a standard Chapter 13 plan be used pursuant to the provisions of Federal Rule of Bankruptcy Procedure 3015.1, and that tax refunds are disposable income under Bankruptcy Code § 1325(b)(2) that must be included in the plan. The bankruptcy court rejected the debtor’s argument that her tax refund was similar to payments received for dependent adult children that are excludable from a debtor’s disposable income, apparently not recognizing that all or part of the debtor’s refund was probably attributable to the EITC, which is computed based on the number of dependents a taxpayer has. The district court affirmed the ruling of the bankruptcy court with even less consideration of why the debtor was entitled to a refund.  The bankruptcy court opinion can be found here (586 BR 588) and the district court opinion can be found here (2019 WL 4545613).

The Fifth Circuit disagreed that the debtor was required to turn over the refund, relying on Bankruptcy Code § 1325. If a plan does not provide for an allowed unsecured claim pursuant to § 1325(a), the plan cannot be confirmed unless the debtor includes all projected disposable income to be paid out to general unsecured creditors. Ms. Diaz’s plan did not provide for her unsecured creditors pursuant to § 1325(a), so she could only have a plan confirmed that included all projected disposable income. Noting that district courts may not adopt local rules or create standard plans that abridge, enlarge or modify any substantive right, the Fifth Circuit focused on whether the tax refund in excess of $2,000 was part of the debtor’s projected disposable income that had to be turned over to the Chapter 13 trustee.

Although the Bankruptcy Code does not define projected disposable income, § 1325(b)(1)(B) does state how it is to be calculated. Disposable income is the current monthly income received by the debtor, less “amounts reasonably necessary to be expended” for the debtor’s maintenance and support, plus any qualifying charitable contributions and business expenditures. Current monthly income is calculated by averaging the debtor’s monthly income in the six full months preceding the bankruptcy petition. The definition of “amounts reasonably necessary to be expended” is included in §1325(b)(3), and is different depending on whether the debtor has monthly income, when calculated for a year, greater than the median family income of the applicable state.  This amount can vary depending on the number of individuals in the household. If the debtor has current monthly income, when calculated over 12 months, greater than the applicable state median family income, only those expenses included in Bankruptcy Code § 707(b)(2) are included as amounts reasonably necessary.  If the debtor has less than the applicable median amount, all amounts for the maintenance or support of the debtor or the debtor’s dependents are included.

In the Diaz case, Ms. Diaz’s current monthly income, projected over 12 months, was less than $59,570, the median income for a family of her size in Texas in 2017. The expenses she claimed on her bankruptcy schedules totaled far less than the IRS National Standards for a family of the same size.  The Fifth Circuit concluded that “[W]e find it entirely plausible that Debtor will use her ‘excess’ tax refund of $1,261 for expenses that are reasonably necessary for her family’s maintenance and support.” Because the standard form required Ms. Diaz to turn over the tax refund in excess of $2,000 without determining whether the excess was an amount reasonably necessary to be expended, it violated her substantive right as a below-median income debtor to retain any refund reasonably necessary to be expended for her family’s support.

Although reaching the correct decision under the Bankruptcy Code, the Fifth Circuit failed to consider whether the refund was generated by the EITC and, if so, whether that fact should be considered in determining whether a debtor should be required to include these funds. The earned income tax credit was enacted in part to provide relief for low-income families. Hopefully, the provisions of Bankruptcy Code § 1325(b)(1)(B) expanding the amounts that can be considered to be amounts reasonably necessary to be expended for the maintenance and support of families with incomes below the median income of the state will be sufficient to continue to protect the relief Congress granted to low-income families through the EITC provisions. However, the fact that Ms. Diaz was required to appeal her case to the Fifth Circuit in order to protect her rights argues for an opinion that more explicitly recognizes the purposes of the EITC.