Senator Patty Murray Would Pay for an EITC Expansion with a Worse Corporate Tax Code

March 31, 2014

Last week, Senator Patty Murray (D-WA) introduced a bill that would expand the EITC for childless workers and introduce a dual-earner deduction, which is estimated to cost an additional $144.9 billion over ten years. To pay for these provisions, the bill will prevent corporations from deducting the full cost of compensation of its highest-paid employees and ends deferral for multinational corporations that operate in certain countries.

This bill does help ease the marriage penalty inherent in the EITC and seeks to fight the program’s high payment error, but it uses some of the most economically destructive methods of raising revenue to pay for it. The Senator’s bill would push the United States’ uncompetitive worldwide system of taxation in the wrong direction and would further limit the amount corporations can deduct for compensation expenses.

Reforms to the EITC and the “Dual-Earner Deduction”

Expands the EITC while Attempting the Fight Payment Error

Under current law, the maximum EITC for childless workers is $487 with a max income threshold of $14,340.

Senator Murray’s bill would increase the max credit to around $1350 and increase the max income threshold to around $20,000 for childless, single workers. The max income threshold for married taxpayers would be around $5,400 more. It also lowers the eligibility age to 21. She quotes a Treasury department estimate, which says that approximately 13 million additional taxpayers would be eligible for the credit.

In addition to the expansion, it will also attempt to reduce the program’s high rate of payment error. Estimates from the IRS show that the EITC has an overpayment rate of around 25 percent, which costs around $11.6 billion in 2012. Since most taxpayers who claim the EITC have their tax returns prepared by someone else, Senator Murray is looking to reduce error by doubling the penalty for no following the “due diligence” requirements to $1000.

Dual-Earner Deduction and a Reduction in the EITC Marriage Penalty

Senator Murray’s bill would also extend an additional deduction to dual-earner families with children. The law allows for a deduction equal to 20 percent of the income of the spouse with the lower income. For example, a family with two earners, one making $30,000 and another making $20,000, the deduction would reduce that family’s AGI by $4,000 (20 percent of $20,000). The max deduction is $11,000. This deduction would phase-out once the family’s combined AGI reaches $110,000 and would equal zero at $130,000 of AGI.

Dual-Earner Deduction Amount Under Murray Tax Plan

Income of Spouse One

Income of Spouse Two

 

$10,000

$20,000

$30,000

$40,000

$50,000

$60,000

$10,000

$2,000

$2,000

$2,000

$2,000

$2,000

$2,000

$20,000

$2,000

$4,000

$4,000

$4,000

$4,000

$4,000

$30,000

$2,000

$4,000

$6,000

$6,000

$6,000

$6,000

$40,000

$2,000

$4,000

$6,000

$8,000

$8,000

$8,000

$50,000

$2,000

$4,000

$6,000

$8,000

$10,000

$10,000

$60,000

$2,000

$4,000

$6,000

$8,000

$10,000

*$6,000

 

*This is in the phase-out range

This deduction is structured to count against earned income when determining eligibility for the EITC. As a result, this deduction eases (but doesn’t completely eliminate) the substantial marriage penalty that currently exists when two individuals who were once eligible for the EITC as singles become ineligible when they married.

 

Pays for Expansion to EITC by Making Corporate Tax Code Less Competitive

Ends Deferral on Foreign Corporate Profits in Low-Tax Jurisdictions

Corporations under current law are subject to the 35 percent corporate tax rate no matter where in the world they earn their income. However, U.S. corporations can defer taxation on foreign earned income until they bring this income back to the United States. At that point they have to pay the difference between the 35 percent U.S. rate and the rate they paid to the foreign country in which they earned the income. There is an exception, however, for what is called “passive income.” Passive income (royalties, interest, dividends, and other investment income) cannot be deferred and is taxed immediately by the IRS.

This proposal would define any income, passive or active, that is taxed by a foreign country at a rate below 15 percent as passive Subpart F income and would subject it to immediate U.S. taxation.

The United States is one of the only countries that taxes the worldwide income of its corporations, putting them at a competitive disadvantage. Deferral in the current system helps alleviate some of this problem. Ending deferral for this income would move the United States further from a territorial system, which exempts foreign-earned income of corporations; a system that most countries in the world use.

No Longer Allows Businesses to Deduct Compensation of Highly-Paid Employees Paid in Stock Options

In order for corporations to calculate their taxable profits for the year, they take revenue and subtract their costs. Part of these costs is wages and salaries paid to employees. Currently though, corporations are limited on how much they can deduct for individual employees paid in cash who earn $1 million. As result, businesses need to compensate high-paid employees in performance-based stock options to attract talent. This type of compensation is not subject to the current cap.

Senator Murray’s bill would include performance-based stock options in the cap, no longer allowing businesses to deduct the cost of that compensation over $1 million. This will artificially boost corporate taxable income and taxes for corporations, making it more expensive for them to attract talent.

More on the EITC: here and Territorial Taxation: here and here

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