Tax Deductions and the Timing of Babies’ Births

There has been a flurry of articles recently regarding the first-borns of 2008. Every article cites the fact that the baby being born on January 1st means the family will not be able to claim the child as a tax deduction and will also not receive the child tax credit for tax year 2007. For simplicity, there is no pro-rated system for exemptions or filing status under the federal income tax. For a family earning less than $100,000 who is in the 15% marginal tax bracket, a baby in 2007 would have saved the family about $1,500. While this may seem a lot, it may be disturbing for some to see the extent to which parents concern themselves with this issue in the delivery room. It has been the case for some doctors to induce birth prior to midnight on January 1 just so the family can get a bigger refund check in three months. (Most likely, there is also the issue of fraud where the doctor could merely backdate the birth.) Is this behavior optimal?

Assuming the parents care about their offspring to the same extent that they care about themselves, then one would expect them to act with more caution in disrupting a pregnancy for the mere purposes of a one-time income gain. On the cynical side, however, if they care about their offspring less than themselves, then some parents would be willing to engage in a relatively high degree of risk to the health of the child in order to obtain a bigger tax refund check.

For more on this phenomenon, check out a New York Times article on the topic last year. There is also some empirical economic evidence on this as well.

A similar issue is scheduled to take place 23 months from now with the estate tax. Under current law, it will be nonexistent in 2010, but will come back in full force in 2011. This could possibly lead to some difficult decisions having to be made in December 2010 regarding the value of one’s living a few extra months or years relative to the financial gain to heirs of a zero estate tax bill.