What is the Earned Income Tax Credit?
The federal Earned Income Tax Credit (EITC) was established in 1975 and expanded dramatically in 1986 through bipartisan efforts. A refundable credit, the EITC provides assistance to lower-income working people, with over 90 percent of the benefit going to working families with children.
Because of the federal EITC and Child Tax Credit, families who earn $40,000 in income generally have no federal income tax liability; those earning below that amount receive refunds that help them meet basic family needs. The same is not true in Iowa, however. Even with a separate state EITC, Iowa is one of few states that taxes many families with children before their income exceeds the poverty level.
Iowa families who are eligible for the federal EITC also qualify for the state EITC. The figure at right shows how the state's current EITC — 7 percent of the federal credit — is designed to help lower-income families and to encourage work. As a family earns more income, they become eligible for a larger EITC. As a family’s income approaches self-sufficiency, the EITC gradually decreases in value. The value of the EITC is predicated on family earnings, tax filing status (married filing jointly, single filers, or individuals filing as heads of households) and the number of dependents claimed.
In Iowa, the EITC benefits families with children and low or moderate levels of income. More than 548,000 Iowans benefited from the EITC in tax year 2009, including more than 282,000 children. That year, households with at least one dependent accounted for over 94 percent of all EITC claims, and nearly 60 percent of households claiming the EITC had Iowa adjusted gross income under $20,000.
Moreover, Iowa’s EITC lessens the overall regressivity of the current state tax structure. Iowa already imposes income tax on families with children below the federal poverty level; the EITC permits low-income Iowans to earn more before owing state taxes. As the Iowa Fiscal Partnership has noted before, an important principle for tax policy is to shield from income tax any income required to meet basic needs; an increased state EITC would make overall Iowa taxes less regressive.
A number of studies have confirmed that the EITC lifts families out of poverty. In 2009, at the height of the Great Recession, the EITC lifted about 6 million Americans out of poverty. The Iowa Department of Revenue has found that the federal and state EITC lifts out of poverty more than 62 percent of taxpayers whose income falls between $15,000 and $24,999.