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Proposed
Tax Incentive for Payers of Child Support
Promoting Perceptions of Fairness
By Paul D. Hutchison, Gary M. Fleischman, and Susan B. Anders
JUNE 2007 - This
article proposes a tax incentive for child support in the interest
of promoting fairness with respect to child support obligations
while also reducing the after-tax cost of such expenditures for
the noncustodial parent. Ultimately, the goal of this tax incentive
would be to increase the flow of legally mandated child support
payments to the child and the custodial parent, while reducing welfare
costs, welfare dependency, and enforcement costs for government
agencies. A tax incentive for payers of child support would also
increase the equality of tax treatment between custodial and noncustodial
parents. Examining
the Problem
The societal
problems involving child support are well known, yet continue
despite the passage of four major federal laws passed between
1975 and 1996 that had been designed to improve matters. A recent
article (Anne C. Case, I-Fen Lin, and Sara S. McLanahan, “Explaining
Trends In Child Support: Economic, Demographic, and Policy Effects,”
Demography, 2003) summarizes the issue succinctly:
When parents
live with their child, they automatically share their income
with the child. When parents live apart, income sharing is not
automatic, and the non-resident parent often fails to provide
for the child. Court-ordered child support is the mechanism
through which society attempts to ensure that non-resident parents
make financial transfers to their children. The importance of
child support has increased dramatically during the past four
decades as more and more children become eligible for child
support.
Child support
is a major factor in keeping children in single-parent homes out
of poverty. For 2002 (the most recent data available), the U.S.
Census Bureau reported that 5.7 million people in the United States
paid approximately $22 billion in child support, with an average
of $3,200 received annually per custodial family (see www.census.gov/
prod/2005pubs/p70-99.pdf). Not all child support obligations
are met, however. The U.S. Census Bureau report for 2001 indicated
that 25% of single mothers received no child support at all (see
www.census
.gov/prod/2003pubs/p60-225.pdf). Approximately 1.7 million of
the custodial parents due child support did not receive any payments,
and approximately $13 billion dollars went uncollected. Research
has shown that custodial parents of children born outside of marriage
are even less likely to receive child support than former spouses
(Judi Bartfeld, “Falling Through The Cracks: Gaps in Child
Support Among Welfare Recipients,” Journal of Marriage
and Family, February 2003). Furthermore, separated parents
with multiple children are generally not successful in obtaining
support for all of their children. The 2002 U.S. Census Bureau
report indicates that 62% of noncustodial parents support only
one child.
Three
Approaches to Ensure Child Support Compliance
The following
are three theoretical approaches to increase child support payment
compliance (I-Fen Lin, “Perceived Fairness and Compliance
with Child Support Obligations,” Journal of Marriage
and Family, May 2000):
Deterrence.
This is a punitive approach that attempts to increase
child support payments by identifying offenders after the fact,
often using civil or criminal charges to punish persons who do
not comply with legally mandated child support payment schedules.
Payment of child support obligations is encouraged by punitive
legal enforcement mechanisms, as well as by increased fear of
punishment. While this approach may increase overall child support
payments, it is paternalistic in nature and involves significant
adverse societal externalities such as jailing and property liens
against offenders.
Compliance.
This approach is a before-the-fact method, using standards and
enforcement to monitor a noncustodial parent’s child support
payment behavior before violations occur. An example of this approach
would be automatic withholding of child support payments from
noncustodial parent paychecks. This approach has been shown to
increase child support payment compliance, although it is again
paternalistic and arguably condescending. It also sends a message
that noncustodial parents as a group cannot be trusted to comply
with their legal obligations, which likely negatively affects
payer attitudes. Research
has shown that enforcement can actually reduce voluntary
payments (Laura M. Argys and H. Elizabeth Peters, “Can Adequate
Child Support Be Legislated? Response to Guidelines and Enforcement,”
Economic Inquiry, 2003).
Consensus.
This final approach is not paternalistic like the other two methods,
and does not require “fear” tactics. This more enlightened
approach attempts to align a child support payer’s personal
norms of behavior with societal norms. The consensus-based approach
attempts to convince noncustodial parents that payments of child
support are “the right thing to do” and that the obligation
results from a fair and just legal process. In essence, child
support payer behavior is changed by the ways that the law is
enforced so that the legal process itself increases perceptions
of fairness and thus enhances compliance. Fathers’
advocacy groups often cite a lack of fairness in the legal process
as a key reason noncustodial fathers do not pay child support.
Perceptions
of Fairness
Perceptions
of child support payment fairness focus on the ability of the
payer to reasonably afford the assessed child support payments,
as balanced by the needs of the custodial parent and the child
(see Lin). Research has shown that noncustodial parents will identify
a lower amount of child support obligation as fair, while custodial
parents will identify a much higher amount as fair. Reducing the
amount of a child support obligation increases the payer’s
perception of fairness.
Numerous
studies have reported a strong relationship between a noncustodial
parent’s ability to pay and the resultant compliance in
actually making child support payments (Bartfeld): Fathers with
higher incomes comply better with child support. Related research
has shown that a decline in men’s earnings, whether from
wage decreases, unemployment, or inflation, is an important factor
in noncustodial fathers paying less than their full child support
obligations (Case, Lin, and McLanahan).
Need
for a Child Support Payment Tax Incentive
In light
of this research, a tax incentive would enhance child support
payment compliance under a consensus-based approach. This approach
would increase the noncustodial spouse’s ability to pay
by reducing the after-tax cost of child support while improving
perceptions of societal and legal process fairness. Noncustodial
parents would likely perceive that a tax benefit designed specifically
for them is a signal of empathy from government and society that
low- and middle-income child support payers often need help to
meet their payment obligations. Use
of the consensus-based approach should further produce positive
(rather than negative) attitudes among child support payers, as
well as create overall positive societal consequences.
A child support
tax incentive would also increase the taxation equality between
custodial and noncustodial parents. Custodial parents receive
several tax benefits that are generally not available to noncustodial
parents, especially low-income parents who cannot afford expert
tax advice. These include the dependency exemption for children,
the child tax credit, and the earned income tax credit (EITC).
The EITC
is particularly important to consider. The EITC was created in
1975—the same year that Congress established federal child
support enforcement initiatives. The EITC provides an incentive
for low-income custodial parents to work, but it does not provide
an incentive for low-income noncustodial parents to work. A large
body of research indicates an association between the EITC and
an increase in the employment rates of, and hours worked by, “single
mothers” (i.e., the custodial parent). A child support tax
benefit would provide a work incentive for the other
parent—the noncustodial parent—as well as provide
some parity in tax treatment. Because the EITC requires that a
taxpayer actually work in order to receive the credit, a child
support tax incentive could require that the noncustodial parent
actually pay the obligation to receive the tax benefit.
Several states
offer an EITC (see Patrick E. Doles, Michael W. Matt, and Bradley
T. Owens, “A Student Perspective on the IRS’s VITA
Program,” The CPA Journal, February 2005). For
2006 tax returns, New York State initiated a noncustodial parent
EITC for low-income taxpayers who are current on child support
obligations; however, the credit is based on earned income—not
on support payments. The noncustodial parent EITC is not an additional
credit, but an alternative to the regular EITC.
A tax incentive
for child support payments would produce a win/win situation:
1) Noncustodial parents would be encouraged to make child support
payments because the tax incentive would reduce the after-tax
cost of such payments while also enhancing payer perceptions of
societal fairness; 2) custodial parents would receive support
payments to decrease household financial insecurity; 3) children
would benefit from funds received by the custodial parent for
their welfare, thus decreasing poverty; and 4) the time and money
spent by society and the legal system in enforcing and collecting
child support (e.g., courts, attorneys, incarceration costs, collectors)
would be reduced.
Current
Tax Law Treatment of Child Support Payments
Typically,
when parents divorce, two financial issues immediately surface
for the noncustodial parent: child support and alimony. The intent
of funds for child support from noncustodial parents is to provide
for the welfare of children, which is a legal requirement of parents
irrespective of their marital status, while alimony provides payments
to support a former spouse. Noncustodial parents currently do
not receive any federal tax benefits pertaining to their ongoing
financial support of children. Alimony payments to former spouses
are deductible under IRC sections 62(a)(10) and 215. A divorced
spouse who receives alimony is taxed on this income per IRC section
71(a), but is not taxed on child support payments received from
the noncustodial parent, according to section 71(c). The custodial
parent can typically claim a dependency exemption per section
152(e)(1), even if the custodial parent does not provide more
than 50% of the child’s support. [The noncustodial parent
may be able to claim the dependency exemption if the custodial
parent waives the right pursuant to section 152(e)(2).] The custodial
parent also generally can claim the section 24 child tax credit
of $1,000 and the earned income tax credit on wage income (but
not on alimony receipts) under section 32.
Three
Alternatives for Child Support Tax Incentive
These are
three general options that the U.S. Congress could use to provide
a child support tax incentive to reduce noncustodial parent after-tax
costs while also promoting perceived societal fairness:
Deduction
“from” AGI. A new itemized deduction
could be created to provide a tax incentive for noncustodial parents
to make child support payments. Congress could create a child
support deduction using one or more of the following alternatives
to target middle- and low-income taxpayers: 1) Child support payments
could be claimed in total on Schedule A; and 2) an adjusted gross
income (AGI) ceiling could be established to limit the total claimed
in one year, similar to the current tax law treatment of charitable
deductions (IRC section 170); and 3) an AGI floor could be implemented,
such as the 2% of AGI floor associated with miscellaneous itemized
deductions (IRC section 67).
The underlying
problem with allowing child support payments to be treated as
itemized deductions is that the provision would be designed to
help the lowest-income taxpayers, who typically lack sufficient
itemized deductions to exceed the standard deduction. The IRS
Statistics of Income data (see www.irs.gov) for 2003 (the most
recent year available) indicate that only 33% of individual tax
returns claimed itemized deductions, with 80% of itemizers reporting
AGIs over $50,000. Thus, an itemized deduction for child support
payments would likely assist only wealthier taxpayers who itemize,
and who are more likely to meet their support obligation without
such an incentive. Even if poorer noncustodial parents could itemize
child support payments on Schedule A, they would likely lose much
of the incremental benefit, because any excess over the standard
deduction would likely be quite limited.
Deduction
“for” AGI. Another, more viable alternative
would be to allow payers of child support to claim deductions
“above the line,” often referred to as deductions
“for” AGI. These deductions would be similar to those
listed in IRC section 62 (e.g., interest expense on educational
loans, moving expenses, alimony payments). Congress would probably
place a cap on the annual amount of child support payments, possibly
in the range of $3,000 to $8,000 in order to target the benefit
specifically to low- and middle-income taxpayers. A cap could
be structured on a per-child basis so that there would not be
less incentive to provide support for multiple children.
As an alternative
to, or in addition to, capping the deduction, Congress could use
AGI phaseouts to further target the deduction to low- and middle-income
taxpayers. Caps and phaseouts would minimize the cost of the tax
law change for the child support deduction. Because all taxpayers
are entitled to this type of deduction, deductions “for”
AGI are more equitable than itemized deductions for most low-income
payers of child support.
Tax
credit. Another possible tax benefit alternative
for child support payments would be to provide some form of a
tax credit. Again, limits on the credit would need to be structured
so that they apply on a per-child basis so as not to penalize
noncustodial parents supporting multiple children. If this approach
were implemented, Congress would clearly need to provide some
sort of limit, because it is impractical to allow the entire payment
as a credit against income tax. This limit cap could be a total
dollar amount, $2,000 to $3,000 per child, for example, or based
on a percentage of total child support.
As discussed
above, the EITC has been shown to be remarkably successful in
increasing the labor force participation of custodial parents.
A particularly effective feature of the EITC is the structure
of a phase-in, plateau, and phaseout range for calculating the
amount of the credit (Susan B. Anders, “An Empirical Analysis
of the Effect of the Earned Income Tax Credit on Work Effort,”
Advances in Taxation, 2002). To target the benefit to
low- and middle-income taxpayers, a child support tax credit could
be structured similar to the EITC with a phase-in range offering
the highest percentage of total child support, a plateau range
with a flat amount (the cap), and a phaseout range with a decreasing
percentage.
Additional
Considerations Related to Child Support Tax Incentives
In designing
a tax incentive for child support payments, Congress should consider
additional issues:
Do
not tax the custodial parent. Although this article
proposes that the noncustodial parent obtain a tax incentive for
child support payments, Congress should not dictate the usual
tax symmetry (e.g., as found in alimony) where the custodial recipient
of child support funds is taxed under IRC section 61. Although
this nontaxability would be an unusual state of affairs in the
tax code, precedent exists where this does occur (e.g., corporations
can deduct certain employee fringe benefits, yet these benefits
are tax-free to recipients in accordance with IRC section 132).
Also, an argument can be made that the custodial parent is only
an agent for the receipt of child support on behalf of the child.
Consider
phaseouts for tax incentives. Currently, many tax
incentives have associated phaseouts to target benefits to low-
and middle-income taxpayers. For example, IRC section 219 outlines
deduction phaseouts for traditional IRAs, while IRC section 68
provides an overall limitation on itemized deductions, often referred
to as the “phantom tax.” These phaseout provisions
limit the potential loss of tax revenues, while targeting tax
breaks to the segment of society that most likely needs them.
A disadvantage to phaseouts, however, is that they further complicate
the tax code.
Tax
incentives will trigger manipulation. Probably one
of the strongest arguments against providing a tax benefit for
child support payments is the likelihood that negative societal
externalities will occur when some taxpayers purposely manipulate
their personal affairs to claim the tax incentives for child support.
To illustrate, such tax incentives may encourage taxpayers to
divorce (or never marry in the first place) to obtain the tax
benefits of child support payments. Child support research has
shown that birth rates among single women, especially those with
less education, actually decline with increased child support
enforcement, because men have an increased disincentive to have
children out of wedlock (Anna Aizer and Sara McLanahan, “The
Impact of Child Support Enforcement on Fertility, Parental Investments,
and Child Well-Being,” The Journal of Human Resources,
2006).
Taxpayers
could also attempt to claim tax benefits fraudulently. Similar
compliance problems exist with regard to the EITC, but the success
of that credit in encouraging work has led Congress to keep the
credit while delegating increased enforcement efforts to the IRS.
Taxpayers who claim a child support deduction or credit should
be required to report the Social Security numbers of the supported
child and custodial parent, which can be matched by computer.
The IRS has already been involved to a certain extent in the child
support transfer scenario, as it redirects federal tax refunds
to satisfy the overdue obligation under the Treasury Offset Program.
Implications
of an Incentive
Congress
should consider creating a tax incentive for the payment of child
support consistent with the consensus-based approach to modify
compliance behavior. A deduction “for” AGI or a tax
credit would more effectively benefit low- and middle-income taxpayers
than would a new itemized deduction. This tax benefit would reduce
the after-tax cost of making child support payments, which would
correspondingly increase the noncustodial parent’s ability
to pay. A child support tax incentive would encourage compliance
behavior as well as enhance the perceived societal and process
fairness to payers of child support. Increased
compliance would increase the amount of child support paid to
the custodial parent and, therefore, lessen the financial insecurity,
hardship, and potential poverty for both the recipient parent
and the child. This positive effect would also reduce the negative
consequences to society, including the burden currently placed
on the legal system for the collection of child support in arrears.
Although a tax incentive for child support would reduce tax revenues
collected by the federal government, it is likely that these tax
costs would be more than offset by a decrease in the societal
costs that result from nonpayment of child support.
While a tax
incentive to pay child support would help mitigate a societal
problem that has existed for four decades, this tax policy initiative
will not completely fix this damaged state of affairs. The arguments
offered here are economics-based and seek to redirect policy strategies
where government may assist in a scenario that involves many complex
interacting variables. Indeed, the solution to the child support
compliance problem is as much psychological, cultural, and demographic
as it is economic.
Paul
D. Hutchison, PhD, is an associate professor of accounting
at the University of North Texas, Denton, Texas.
Gary M. Fleischman, PhD, CPA, CMA, is an associate
professor and the McGee, Hearne & Paiz Faculty Scholar in Accounting
at the University of Wyoming, Laramie, Wyo.
Susan B. Anders, PhD, CPA, is a professor of accounting
at St. Bonaventure University, St. Bonaventure, N.Y., and a member
of The CPA Journal Editorial Board. |
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