Although he may earn more, a dishwasher in San Francisco faces far higher living costs than a dishwasher in Tupelo, Miss., and that difference should be reflected in the tax code, according to a new study with implications for President Obama’s and House Speaker Paul Ryan’s bipartisan effort to curb poverty.
In a new study published Tuesday, researchers for the R Street Institute, a right-leaning think tank, reports that the Earned Income Tax Credit, a major U.S. anti-poverty program, has dramatically different effects across states and cities because of differences in the cost of living.
Obama and Ryan agree that the Earned Income Tax Credit cuts poverty and brings people into the labor market by subsidizing low-wage work, and that the credit should be expanded. Obama went so far as to suggest that he and Ryan could work together on increasing the size of the credit for childless workers in his State of the Union address last month.
The R Street Institute study suggests a different possibility. If they are to improve the EITC, Obama and Ryan should look at increasing its power in high-cost areas such as Manhattan or San Francisco, rather than by boosting it for childless workers as Obama has suggested.
“If you expand the credit to childless workers in the same way that the credit currently works, what you’d find is that you’re going to get no benefit or very small benefit to people in expensive areas, which is where a lot of people in poverty live, right? Big cities on the East Coast,” said Andrew Hanson, one of the R Street Institute’s scholars and an economist at Marquette University. “It’s just not enough to induce them to come into the labor force, especially considering that they’re coming off of other welfare programs at the same time.”
Instead, Hanson argued, providing a larger credit for families in costly cities could help the kinds of people most in need. With better cost-of-living adjustments, single mothers in New York or Philadelphia are now getting helped by the policy, where they weren’t before, “instead of helping people who are childless individuals in rural Mississippi more,” he said.
The problem, the study finds, is that because of differences in the prices of goods and services among cities, the real value of the credit can vary by nearly three times.
For example, the maximum credit for a single parent with one child, which is $3,359 by law, is worth just $1,531 in real terms in Manhattan, but $4,131 in Harlingen, Texas, a poor border town in the Rio Grande Valley where rent, food and other necessities are cheap.
As a result, the credit benefits some areas much more than others. Nationally, one out of five households benefit from the EITC. But only 5.5 percent do in pricey Los Alamos, N.M., whereas more than half the people in Rio Grande City, Texas, benefit.
Because the credit’s rules aren’t adjusted for differences in the cost of living, it phases out more quickly for workers in high-cost areas who have higher incomes on paper even if they aren’t better off. For instance, someone working as a dishwasher in San Francisco might start losing the credit after working 1,688 hours, whereas someone with the same job in the Rio Grande Valley wouldn’t see the same phase-out until working 2,190 hours.
Accordingly, the study recommends boosting the maximum credit more in wealthier areas to increase labor force participation.
One way to do that, without adding to the deficit, would be to cut benefits in low-cost areas while boosting them in higher-cost areas. Hanson said his preference would be to spend more through the EITC by instead keeping current benefits in place for low-cost areas while adjusting for the higher cost of living in big cities, where it currently is having little effect.
“Basically, the policy now isn’t working for those people even though they’re definitely poor,” Hanson said.
