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How To Aid 'Working Poor'? Tax Credit Serves as a Lifeline but Has Its Critics

By Guy Gugliotta
Washington Post Staff Writer
Thursday, April 15, 1993; Page A01

MEMPHIS – For 20 years Florea Hill has worked as a short-order cook at a truck stop diner, a full-time job that in 1992 brought her $10,001 before taxes. It is not enough.

"I need to buy some clothes," said Hill, 59, who lives in a weatherbeaten white clapboard cottage in Earle, Ark., about 15 miles northwest of Memphis. "And some things really need fixing, like the back porch and the bathroom – you don't even want to see the bathroom."

Hill is counting on getting $2,074 from the Internal Revenue Service, about half of it as an earned income tax credit, a supplementary payment from the federal government made to families who earned less than $22,370 in 1992. This year, as every year, Hill's combined tax refund-EITC check will be the most money she has held in her hand at any one time.

Few experts dispute the effectiveness of the EITC, the government's principal tool to enhance the income of "working poor" families with children. President Clinton plans a major expansion of EITC, and can expect broad congressional backing. Both political parties like the EITC because it is believed to reward work and support the family.

Yet the program has weaknesses. There are indications that some Americans deliberately work hard enough to obtain maximum EITC benefits -- but no harder. Experts also warn that the promise of an EITC could cause taxpayers to falsely inflate their earnings in order to qualify for a higher benefit.

And there are also questions about whether the credit does what it purports to do: Does it ease the poverty burden and inspire Americans to get off the welfare rolls and seek better-paying jobs? Or does it simply make scutwork bearable and give employers an excuse to pay people less?

The basic EITC works on a "bell curve," rising as a worker's wages rise (about 17 cents for each dollar earned), reaching a maximum when annual earnings are between $7,520 and $11,840 and declining gradually until it phases out altogether at $22,370. The maximum basic credit in tax year 1992 for a parent with two or more children, making between $7,520 and $11,840 per year, is $1,384. A person must earn some money to qualify for the EITC.

Besides the basic credit, the government offers a "health care credit" to workers who contribute to a health insurance plan for a child during the tax year and a "young child credit" for those with a child less than a year old. Both additional credits, criticized as being unwieldy and subject to abuse, would be eliminated under the Clinton plan.

In all, the maximum 1992 EITC is $2,211, and the benefit can be paid in a lump sum at filing time or in monthly installments during the tax year. The IRS expects 14 million taxpayers to claim an EITC for 1992.

The Clinton proposal would expand the program to cover perhaps 2 million additional families, and would cost an additional $7.6 billion in 1996 over the projected cost of $17.1 billion. Clinton's goals: raise the income of all four-person families with a full-time worker to the poverty line; offset the effect of new energy taxes on poor people.

In the Memphis metropolitan area, at the junction of Tennessee, Arkansas and Mississippi, the EITC can serve as a lifeline, both for a large mass of unskilled and semi-skilled inner city workers, and for a dwindling rural labor force scrambling for scarce jobs.

Fred Halfpap, south Memphis district manager for the H&R Block income tax preparers, estimates that at least 50 percent of the company's Memphis area clients apply for the EITC. Most of his co-workers put the figure between 70 and 85 percent.

To get an EITC, taxpayers must fill out a two-page tax form to accompany a completed 1040 or 1040A (no short forms). University of Notre Dame accounting professor Ken Melani, who runs a tax outreach program in South Bend, Ind., described the forms as a "nightmare" because of confusion caused by the new child and medical credits.

But Robert Greenstein, executive director of the Center on Budget and Policy Priorities, which runs a national program to spread information on the EITC, noted that taxpayers need only fill out the form's first page, "not particularly difficult," and let the IRS do the rest. By eliminating the supplementary credits, Greenstein said, the Clinton proposal will make the form "significantly simpler."

In South Bend, Melani said it was "amazing" that for something "that's been around so long," some people still "are surprised" to get the EITC. In West Memphis, Ark., however, Sherry Fisher Means, a paralegal with the local legal aid office, said her northeast Arkansas clients understand the credit and were made well aware of it "by tax preparers and by word of mouth."

The IRS has acknowledged the complexity of the current EITC tax form, but a spokesman said the agency does not know how many EITC recipients use tax preparers. At H&R Block in Memphis, however, the idea that the form is too complicated evoked incredulity.

"They know about it all right," said first-year preparer Jerry Berry. "In fact at the beginning of the year, the clients taught me how it worked. In most cases they knew exactly how much their refund was going to be."

Berry estimated "maybe 1 percent" of his clients didn't understand the credit, and "maybe 10 percent" didn't know how to calculate it. Cleopra Mitchell, another preparer, said 60 percent of her clients had filled out the EITC form when they arrived for their appointment.

The vast majority of EITC recipients are people who work long hours for low pay at low-skill jobs that provide few benefits and no future: "What we see is that people will take janitorial work or take a part-time job at Wendy's – anything to get income," said Notre Dame's Melani. "This perception of people going on welfare and living high on the hog is totally bizarre."

Louis Grant, 27, who expects to get a $2,000 EITC on earnings of $10,000, works full time as a fork lift operator for a Memphis water purification plant, and for part of last year held a second, night job cleaning office buildings. All but $300 to $400 of his EITC will go to his estranged wife and the couple's three children – "to buy them shoes, clothes, whatever they need," he said.

Like Grant, everyone interviewed in Memphis or east Arkansas knew exactly how EITC money would be spent: for furniture, home repairs, medical bills, a "new" used car and, always, as Floria Wells put it, "to buy stuff for the kids." Wells, 23, of West Memphis, worked six months last year at Pizza Hut and earned "something like $1,000." She filled out her own form for a refund-EITC of $310.

With the advent of electronic filing, taxpayers can get refunds -- and EITCs – in two days. The promise of an immediate bonanza is a big reason why Memphis-area taxpayers express little interest in receiving their EITC on a pro-rated, monthly basis. "This country has a refund mentality," Halfpap said. "If you're somebody that's unemployed part of the year or if you want to make plans, then you want the money all at once."

Supporters of the monthly payment are convinced that low-income taxpayers, like welfare recipients, need their extra money quickly and often and can make better use of it if they get it in installments. But in Memphis there is considerable evidence that the lump-sum payment may be crucial in fulfilling the stated purposes of the EITC.

Halfpap suggests that it is bringing once-marginal people into the mainstream and holding them there by encouraging them to file tax returns. With a monthly payment, by contrast, taxpayers run the risk of earning too much or too little for their anticipated EITC: "The first time they find out they have to pay extra, we'll chase them right off the tax rolls," Halfpap said. "They may never file again."

But the biggest advantage of the lump sum is probably intangible -- making people believe in the system and giving them a sense of worth. "I personally feel the EITC is an incentive," said Kathleen Charles, an administrator at a West Memphis housing project. "It provides most people with that one-time great feeling of having a lot of money at one time."

The IRS has used Charles's EITC ($2,200 over the last two years) to pay down student loans that she has used in her quest to become a child psychologist. She will probably achieve her goal, thanks, in part, to the EITC.

Still, for every forward-looking poor person with a plan, there appear to be several others like Hill or Grant trapped in low-paying jobs who need an EITC simply to keep from drowning.

"A lot of people think about making more money," said Melani. "But what locks them into low-paying, EITC-eligible jobs is lack of skills -- there's no way out for many people."

For some taxpayers, however, the EITC appears to be enough. Tax preparers, both in Memphis and in other parts of the country, have noticed clients with an uncanny ability to earn enough money to get the maximum EITC benefit – but no more.

Melani acknowledged there may be "pockets of welfare mentality, but overall – no." But H&R Block's Berry remarked how many taxpayers "find their way right to the middle" of the bell curve, and Halfpap said that "for whatever reason," a lot of H&R Block clients "hit the max and stay there."

This behavior suggests a complacency among some taxpayers that mocks the work ethic the EITC seeks to promote. It is, however, a program weakness that has caught the attention of experts:

"The basic question is, when you get to the point where the credit begins to phase down, do people work less?" said the Center on Budget and Policy Priorities' Greenstein. "The general sense of the research is that there may be that kind of effect, but with the EITC it is much less than in a welfare program."

Another anticipated shortcoming of an expanded EITC is what Urban Institute senior fellow Gene Steuerle calls a "superterranean economy" -- in which taxpayers overreport their earnings in order to receive a higher EITC.

Until recently, Steuerle said, program rates have not been high enough to make overreporting profitable, but an expanded benefit under Clinton heightens the risk: "I think it's one of the things that's going to have a learning curve," Steuerle said. "Once the word spreads, then you will see more of it."

Still, for Steuerle and others, the EITC's faults are both resolvable and more than offset by the program's benefits. The EITC, advocates say, rewards honest effort, fosters hope among people with limited prospects and puts a lot of money into local economies:

"People look forward to it," said Charles. "It's the one time in the year that you can do some big things."

© Copyright 1993 The Washington Post Company

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