House Bill 1002: Restoring the State Earned Income Tax Credit as the First TABOR Refund Mechanism

Jan. 20, 2010

Restoring the State Earned Income Tax Credit
as the First TABOR Refund Mechanism

Rich Jones
Director of Policy and Research
The Bell Policy Center

Summary

The Bell Policy Center supports House Bill 10-1002 which restores the state Earned Income Tax Credit (EITC) as the first refund mechanism under TABOR. This proposal would make it more likely that low-income working families will receive the EITC when there is a TABOR surplus. Originally adopted in 1999 as part of a proposal to lower the income tax rate from 5 percent to 4.75 percent, the EITC was created not as a tax credit but as a TABOR refund mechanism. While the income tax rate cut has been in place each year since 1999, the state EITC has only been paid for tax years 1999, 2000 and 2001. A broad range of studies have concluded that the federal EITC lifts people out of poverty, encourages low-income workers to participate in the labor force, reduces welfare, stimulates local economies and increases the economic well-being of low-income working families. The state EITC further lifts people out of poverty and promotes the economic well being of low-income working families.

Background on the EITC

The federal EITC was first enacted under President Ford and expanded under presidents Reagan, Clinton and Obama. Colorado enacted a state EITC in 1999 set at 8.5 percent of the federal credit. Governor Bill Owens called for the EITC in his State of the State Address as part of a proposal to lower the income tax rate from 5 percent to 4.75 percent. (1) In 2000, the General Assembly raised the rate to 10 percent of the federal credit.

The state EITC was not created as a tax credit but as a TABOR refund mechanism and is only available in those years when there is a TABOR surplus large enough the fund it. Colorado's EITC has only been paid in tax years 1999, 2000 and 2001.

In 2005, the General Assembly created a new TABOR refund mechanism that temporarily reduces the state income tax rate of 4.63 percent to 4.5 percent when the state experiences a TABOR surplus large enough to support the reduction (HB 05-1317). This refund will be paid first when there is a TABOR surplus sufficient to fund it.

According to the Legislative Council staff, in fiscal year 2012-13 there would need to be a minimum TABOR refund of $241.6 million before the EITC would be funded. Under House Bill 10-1002 the minimum TABOR refund needed to fund the EITC in fiscal year 2012-13 would be reduced to $88.3 million. (2) Current revenue estimates do not project a TABOR refund in any fiscal year through fiscal year 2011-12. (3)

The federal EITC and Colorado's EITC are refundable. This means workers and families receive the tax credit whether or not they owe income taxes. The EITC is first used to reduce a family's tax liability and whatever remains is returned in the form of a refund. Although low-income families owe little or no state income taxes, they still pay state and local sales and property taxes. The EITC is a method for using the income tax system to reduce overall taxes for low-income working families. Because they owe little or no state income taxes, low-income workers and families receive a more limited benefit from reductions in state income tax rates than middle-and-high-income workers and families.

In tax year 2006, 268,469 Coloradans received a federal EITC worth a total of $470 million. The average federal EITC totaled $1,752 and at 10 percent of the federal EITC, the state EITC would have averaged about $175. However, in 2008, the maximum EITC for low-income families with two or more children and earnings less than $20,000 was $4,824. Families that received the maximum federal EITC would have received a state EITC of $484. (4)

Research Shows the EITC Reduces Poverty, Encourages Work and Stimulates Local Economies

A broad range of studies have concluded that the federal EITC lifts people out of poverty, encourages low-income workers to participate in the labor force, reduces welfare, stimulates local economies and increases the well being of low-income working families.

Reduces Poverty

The federal EITC lifts about 4.5 million people out of poverty, about half of them children, and is considered the nation's most effective antipoverty program for working families. (5)

Encourages Work

Because people must have earned income to claim it, the EITC has been found to encourage low-income workers to enter and stay in the labor force. A number of researchers have found that expansions of the federal EITC have resulted in greater workforce participation, particularly among single women with children. By inducing non-workers into the labor force, the EITC also has been found to limit long-term unemployment and improve the job skills of workers which increases their earnings.

Stimulates Local Economies

Most families that receive an EITC spend the money locally on day-to-day living expenses. A 2003 survey of EITC recipients in Denver found their top priorities for the tax credit were paying for current bills, car repairs and school clothes for their kids. This spending ripples through local economies as dollars move among consumers, businesses and their employees. A 2003 study in San Antonio, Texas estimated that every $1.00 in EITC refunds generates another $1.58 in local economic activity. (6)

A study of the federal EITC in Nashville,(7) Tennessee found that it added to business revenues and promoted job creation. It found that every $1.00 in EITC refunds generated $1.07 in economic activity in Nashville. Other economists estimate that the EITC refunds could be re-spent three to five or more times in the local economy. (8)

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(1) Gov. Bill Owens, State of the State Address, House Journal, January 14, 1999.
(2) TABOR Surplus Required to Trigger Refund Mechanisms Under Current Law and House Bill 10-1002, Legislative Council Staff, January 13, 2010.
(3) Focus Colorado: Economic and Revenue Forecast, Colorado Legislative Council Staff, December 18, 2009.
(4) Tax Credits: A Crucial Support for Colorado's Working Families, Piton Foundation, 2009. 
(5) Jason Levitis, Testimony Before the Maryland Senate Budget and Taxation Committee, Center on Budget and Policy Priorities, February 28, 2007. 
(6) Alan Berube, Using the Earned Income Tax Credit to Stimulate Local Economies, The Brookings Institution, November 2006.
(7) EITC Boosts Local Economies, Partners in Community and Economic Development, Vol. 16, No. 3, 2006, Federal Reserve Bank of Atlanta. 
(8) The Earned Income Tax Credit in Colorado, Fact Sheet, Colorado Fiscal Policy Institute, February 2006.