National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
ON THE PROGRESSIVITY
OF THE CHILD CARE TAX
CREDIT: SNAPSHOT
VERSUS TIME-EXPOSURE
INCIDENCE
ROSANNE ALTSHULER * &
AMY ELLEN SCHWARTZ **
Abstract - We evaluate the
progressivity of the federal Child Care
Tax Credit using the Ernst and Young/
University of Michigan panel of tax
return data. Incidence measures are
calculated using both annual and “timeexposure” income to measure ability to
pay. Both indicate that the benefits of
the credit are progressively distributed.
Replacing annual with time-exposure
income dramatically increases the
proportion of the credit received by
lower-income taxpayers and yields a
more even distribution of benefits across
middle- and upper-income taxpayers.
Our results suggest that policymakers
should use both income measures to
evaluate the credit.
INTRODUCTION
Over the last two decades, the labor
force participation of women with
young children has almost doubled. In
response, the federal government has
initiated and expanded a number of
programs explicitly focused on child
care.1 Currently, federal policies provide
subsidies for child care under a variety
of programs, ranging from expenditurebased programs, such as Head Start and
the Child Care and Development Block
Grant, to tax-based programs, such as
Dependent Care Assistance Plans
(DCAPs) and the Child Care Tax Credit.
In 1994, spending on the two expenditure-based programs totaled $4.2
billion.2 In the same year, the estimated
revenue loss from the Child Care Tax
Credit was $2.8 billion.3 Estimates from
1995 suggest that at least 40 percent of
federal outlays on child care will be
channeled through the tax code.4
While the expenditure-based child care
programs are specifically targeted to
lower-income families, the tax-based
programs are not. Thus, determining
how federal expenditures on child care
*
Department of Economics, Rutgers University, New
Brunswick, NJ 08903.
**
Wagner School of Public Service, New York University, New
York, NY 10003.
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NATIONAL TAX JOURNAL VOL. XLIX NO. 1
are distributed requires an understanding of the incidence of tax-based
benefits. This paper focuses on the
incidence of the Child Care Tax Credit.
Critics have called it regressive, observing that more of the credit is claimed by
high-income than low-income taxpayers. In 1989, Congress considered
several proposals designed to reduce the
perceived regressivity of the credit.
high-income years (due, perhaps, to a
mother’s return to the labor market), an
annual analysis may show less
progressivity than a lifetime analysis.
While using lifetime income to measure
ability to pay is attractive, the data
requirements are substantial and, in
general, data sets with adequate
information for estimating lifetime
income are insufficient in their coverage
of tax data. As an alternative to lifetime
income, we follow Slemrod (1992) and
Chernick and Reschovsky (1992) and
measure “time-exposure” income as the
average of an individual’s income over
available data.7 We use a panel of U.S.
individual tax returns from the Ernst and
Young/University of Michigan Tax panel
to compare the distribution of Child
Care Tax Credit benefits using both
snapshot and time-exposure income as
measures of ability to pay. While timeexposure income removes the effect of
transitory shocks to income, unlike
lifetime income, it does not control for
intercohort and life-cycle effects.
However, time-exposure income may
yield results that policymakers consider
more relevant than lifetime income
because of uncertainty about both the
time horizon of any policy and the lifecycle earnings of individuals.8
At the same time, there has been
surprisingly little academic investigation
into the progressivity of the Child Care
Tax Credit. A notable exception is
Dunbar and Nordhauser (1991) which
finds that the credit increases the
progressivity of the individual income
tax.5 However, Dunbar and Nordhauser’s
analysis may not adequately describe
the distributional impact of the credit
since they use annual income to
measure ability to pay. This is because a
family’s income in a particular year (its
“snapshot” income) may be unusually
high or low due to transitory fluctuations in income flows. For example,
individuals may experience a temporary
dip in income due to a brief return to
school or a temporary absence from the
labor market for child rearing. This
suggests that incidence studies of the
credit should distinguish these individuals from those with low “permanent” or
“lifetime” income.
To preview our results, we find that
adjusting for transitory fluctuations in
income does affect the distribution of
credit benefits in the lowest income
deciles. When we use snapshot income
to rank taxpayers, we find that the
credit provides little tax relief to taxpayers in the lowest income deciles, either
because these taxpayers do not have
dependent children at home or because
they have no tax liability to offset with
the credit. The Child Care Tax Credit
does provide benefits to taxpayers in the
lowest time-exposure income deciles,
however. At least among low-income
The difference between lifetime and
annual incidence calculations will be
particularly important for the Child Care
Tax Credit if there is a strong link
between child rearing and the life cycle.6
An annual incidence study will overstate
the progressive effects of the credit if
taxpayers have children when they are
young and therefore at a low-income
portion of their lifetime earnings profile
when they receive the credit. On the
other hand, to the extent that families
are more likely to claim the credit in
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National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
families, ranking those claiming the
credit by snapshot income overestimates
their position in the time-exposure
distribution of taxpayers. This suggests
that these families use the credit in years
of relatively high earnings. This makes
sense since, as explained below, the
credit can only be claimed when the
single parent or both parents are in the
labor force. Although it is impossible to
tell using tax return data, this result
could be driven by mothers of young
children entering the labor force or
increasing hours worked.
discussion of the policy implications of
our results are contained in the final
section.
THE CHILD CARE TAX CREDIT
The Child Care Tax Credit allows
working parents with taxable earnings
to deduct a portion of their child care
expenses for children under the age of
13 from their federal income taxes.9
Both parents, or the single parent, must
have been in the labor force (or enrolled
in school) during the year in which the
credit is claimed to qualify. In addition,
parents must report the social security
or employer identification number of
child care providers. Thus, expenditures
2
reported
for the credit may be less than
actual expenditures on child care, since
payments to “off the books” providers
do
2 not qualify for the credit. In its
current form, the credit is 30 percent of
allowable expenses up to a maximum of
$2,400 for one child and $4,800 for
two or more children for families
earning less than $10,000.10 The credit
rate is reduced by one percent for each
additional $2,000 of adjusted gross
income to a minimum of 20 percent for
families reporting $28,000 or more.
Because the credit is nonrefundable, it is
available only to working families with
positive tax liabilities.
Above the lowest income deciles,
there is little difference between our
snapshot and time-exposure incidence
analyses. The benefits of the credit are,
in general, progressively distributed,
regardless of which income measure is
used. It is interesting to note that
taxpayers for whom the adjustment
for transitory income shocks matters
most are of particular policy interest—
working families in the lower-income
deciles. Our results should be of
interest to policymakers concerned
with directing benefits to these
families.
The first section of this paper provides a
brief description of the Child Care Tax
1
Credit.
The second section discusses
our methodology and the measures of
income and progressivity we use in our
empirical work. A description of the
1 and our calculation of timedata
exposure income is presented in the third
section. Results appear in the fourth
section which is divided into two parts.
The first contains an analysis of some
characteristics of taxpayers by income
decile to determine the extent to which
“tax demographics” impact the
distribution of credit benefits. The
second part presents our results on the
snapshot and time-exposure distribution
of credit benefits. Conclusions and a
Since 1981, another tax-based program
for child care expenses has been
available to some taxpayers. If provided
by their employers, parents may
currently use DCAPs to purchase child
care from pretax income. DCAPs are
flexible spending accounts under which
employees can specify anticipated
expenses of up to $5,000 per year and
exclude this amount from their gross
taxable income.11 It is difficult to
determine the tax cost of this benefit to
the Treasury since DCAPS are not
included in the reported tax expenditure
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NATIONAL TAX JOURNAL VOL. XLIX NO. 1
income.12 In principle, income should be
measured as total income earned over
the whole life of an individual. In
practice, that’s quite difficult. Instead,
Poterba (1989, 1991), among others,
has argued that annual consumption
3
expenditures
are a good proxy for
lifetime income, since an individual’s
consumption decision is more closely
related to a measure of lifetime income
than annual income in any particular
year. To the extent that each person
knows her own permanent income,
and can borrow against future income,
her spending in any year will reflect
permanent, rather than transitory,
income. This approach is appealing, but
its reliance upon the absence of
borrowing constraints is troubling,
particularly for low-income families.
figures. Using data from the National
Child Care Survey, Gentry and Hagy
(1996) provide some information on
the use and incidence of DCAPs. They
find that only 1.6 percent of surveyed
families with children under the age of
13 used DCAPs in 1989. The distribution
of this form of tax relief is highly skewed
to high-income families: almost twothirds of those using DCAPs had
incomes above $50,000. Unfortunately,
our data set does not include information on DCAPs and therefore we cannot
investigate the distribution of all federal
tax expenditures on child care.
METHODOLOGY
Lifetime versus Time-Exposure Measures
of Income
Another approach to the measurement
of lifetime income involves using
panel data on households or individuals
to impute the lifetime profile of income.13 This approach requires a data
source with well-measured income
variables14 as well as demographic
information.
Until recently, most analyses of tax
incidence used an annual (or snapshot)
approach, comparing a single year’s
estimated tax payments and income. A
series of recent papers has argued that,
although snapshot incidence studies
correctly describe how a particular tax is
currently distributed over income
groups, they may not accurately
describe the lifetime distributional
effects of the tax. (See, for example,
Poterba 1989, 1991; Fullerton and
Rogers 1991, 1993; Slemrod, 1992;
Lyon and Schwab, 1991; and Metcalf
1994a, 1994b). These papers argue
that calculating tax burdens based on
lifetime or permanent income yields
estimates of the distribution of tax
burdens that are useful for evaluating
tax equity, because they ameliorate any
transitory shocks to income and control
for intercohort and life-cycle effects.
As an alternative to the two measures
of lifetime ability to pay discussed
above, Slemrod (1992) and Chernick
and Reschovsky (1992), for example,
have used time-exposure income. This
measure of income, which is calculated
as the average of income over a longerthan-one-year period, differs from
permanent or lifetime income. While
averaging income across years removes
the effect of transitory income shocks,
the latter measures also attempt to
remove both intercohort and life-cycle
effects. As explained below, our data,
while rich in tax information, lacks
information necessary for estimating
permanent income, such as the
taxpayer’s age or annual consumption
expenditures.
Both the life-cycle and permanent
income theories of consumption are
based on the notion that households
behave on the basis of their long-term
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PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
There are a variety of reasons why it
may be particularly appropriate to use
this approach to study the incidence of
the subsidy provided to working families
through the Child Care Tax Credit.
Transitory shocks to income may be
particularly important to families with
young children. For example, a parent
may temporarily reduce labor supply
following the birth of a child. If a
family’s spending on child care reflects
permanent more than transitory income,
then those families with higher transitory incomes will be observed to spend
a smaller share of income on child care
and show a smaller subsidy rate than
families experiencing a low transitory
income. As a result, annual incidence
studies (such as Dunbar and
Nordhauser, 1991; and Gentry and
Hagy, 1996) may overstate the progressive effects of the credit.15 Alternatively,
if parents are more likely to claim the
credit in years with high transitory
income (when they have tax liability to
offset or due to a temporary return to
the labor market of the mother, for
example), an annual incidence study will
understate the progressive effects of the
credit.16
income for other work and focus
instead on the relative merits of
different measures of actual income.17
Measuring Progressivity
We use two methods to evaluate the
distribution of the benefits of the Child
Care Tax Credit.18 First, we divide
taxpayers into income deciles and
examine the distribution of the benefits
received across deciles, measured by the
average credit received and the average
effective subsidy rate. The average
effective subsidy rate is the Child Care
Tax Credit expressed as a percentage of
income. Thus, decreases (increases) in
the average effective subsidy rate with
income would indicate that the benefits
of the credit are progressively (regressively) distributed.19 We primarily focus
on two groups of taxpayers: all
taxpayers and taxpayers claiming
exemptions for dependent children at
home. We perform a separate analysis
for taxpayers with dependents for two
reasons. First, by looking at those with
dependents, we can determine whether
the progressivity of credit benefits is, in
part, the result of a redistribution to
taxpayers with dependents from
taxpayers without dependents. As
Gentry and Hagy (1996) point out, this
redistribution may increase the measured annual progressivity of credit
benefits if families without dependent
children have higher annual incomes
(say, older families with substantial job
tenure) than families with dependent
children (say, younger families with less
work experience). Our time-exposure
estimates may be similarly affected,
since the data span only a portion of a
taxpayers’ work life.
In some sense, measures of actual
income (annual, lifetime, or average)
are inappropriate for evaluating the
fairness of the Child Care Tax Credit,
since income is endogenous to labor
supply and child care decisions. Unlike
in the case of a gas tax, for example,
the decision to purchase the taxed or
subsidized good is closely tied to the
decision to participate in the labor
market, which, in turn, impacts family
income. For this reason, actual income
may be a flawed measure of ability to
pay. While this issue is an important
caveat to work evaluating the fairness
of the credit, we leave the development
of alternative measures of household
A second reason for separately analyzing taxpayers with dependents is to
provide information about how benefits
are distributed across what might be
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NATIONAL TAX JOURNAL VOL. XLIX NO. 1
THE DATA
viewed by policymakers as the target
population. To the extent that the Child
Care Tax Credit is aimed at providing tax
relief for families with dependent
children, its ineffectiveness at assisting
families without dependents may well
be irrelevant. As an example, if there
are no families with dependents in the
lowest “full sample” decile, none of
the benefits of the credit would be
received by taxpayers in this decile, but
no tax credit given to families with
dependents could be received by these
taxpayers. Thus, the separate analysis
may provide policymakers with a more
useful picture of the distribution of
benefits.
Our data is obtained from the Ernst
and Young/University of Michigan Tax
panel which consists of nonstratified
random samples of tax returns for
each of the years 1979–88. The
panel contains information from Form
2441, filed in support of the Child Care
Tax Credit. The data available in each
year vary both in the number of
taxpayers sampled and the variables
taken from tax returns. Although rich
in information on taxation, the data
have only limited demographic information and exclude individuals that do
not file tax returns—most importantly,
those with low incomes who do not file
to collect the refundable earned income
tax credit.
We also briefly consider the distribution
of benefits across taxpayers claiming the
credit. Despite the declining subsidy
rate, credit benefits may increase or
decrease with income, depending upon
the income elasticity of child care
expenditures. Progressivity of benefits
among claimers is a necessary (but not
sufficient) condition for progressivity in
any larger group.
We use adjusted gross income (AGI) to
measure taxpayers’ income.21 As
described above, we calculate each
individual’s time-exposure income as the
average of their AGI over available
data.22 We then compare incidence
measures based on time-exposure
income with those based on snapshot
income.23 Following Chernick and
Reschovsky (1992), we focus on a year
at the midpoint of the data for our
snapshot calculations. We chose 1983
which is the middle year for those
taxpayers with ten returns.24 Unfortunately, the panel contains less than
ten returns for many taxpayers.25 Due to
the nonstratified sampling procedure
used each year, restricting our attention
to those with all ten years would bias
the resulting sample toward higher
income families. In an attempt to lessen
this bias, we include taxpayers with at
least six years of tax returns (one of
which must be 1983). This procedure
leaves us with a sample of 13,069
taxpayers.
We also evaluate progressivity using
Suits indices.20 We follow Dunbar and
Nordhauser (1991) and calculate Suits
indices for the income tax system before
and after the credit to summarize the
effect of the Child Care Tax Credit on
the progressivity of the income tax
over the entire income distribution. The
Suits index is adapted from the Gini
ratio of income concentration and varies
from negative one for the most regressive tax system, in which all of the tax is
paid by the lowest income individual, to
positive one for the most progressive tax
system, in which all of the tax is paid by
the highest income individual. A
proportional tax gives a Suits index of
zero.
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PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
RESULTS
decreases with AGI.27 Given these
figures, one would expect those in the
lower deciles to receive a disproportionately small amount of credit benefits
since they are less likely to claim
dependents. In addition, as shown in
the last column of the top panel, almost
80 percent of taxpayers in the first
decile did not have tax liability to offset
with any tax credit in 1983.
Tax Demographics and the Child Care
Tax Credit
Table 1 presents information on three
groups of taxpayers by AGI decile in
1983: (1) all taxpayers, (2) taxpayers
that claimed an exemption for
dependent(s) at home, and (3) taxpayers
that claimed the Child Care Tax Credit.
Decile breakpoints are given in the
second column. Starting with tax
demographic information, notice that
the percentage of taxpayers with
dependent children at home increases26
and the percentage of single taxpayers
An average of about eight percent of all
taxpayers claimed the credit in 1983.
However, no taxpayer in the first decile
and less than two percent of those in
the second decile filed for the credit.
TABLE 1
TAX DEMOGRAPHICS AND CREDIT CLAIMING INFORMATION BY AGI DECILES
Percent of Taxpayers
1983
AGI
Decile
Minimum
AGI
(in Dollars)
1
2
3
4
5
6
7
8
9
10
(497,800)
4,266
7,999
11,360
14,940
18,910
23,720
28,730
34,830
44,720
Average
23,791
Claiming
Dependent
Children
18.9
28.5
35.7
42.1
44.5
47.4
53.2
60.3
65.2
65.2
46.1
Filing as Single
82.4
75.0
66.6
57.0
53.2
37.6
29.0
17.8
10.0
7.4
43.6
1
2
3
4
5
6
7
8
9
10
Average
Filing as
Single
44.5
45.0
42.5
32.7
29.0
16.5
11.7
6.0
3.5
2.8
18.4
Filing for
Credit
0.0
5.9
15.9
18.4
17.4
19.1
22.7
20.9
21.4
17.5
17.8
0.0
1.8
5.8
7.8
8.0
9.3
12.2
12.7
14.0
11.6
79.7
18.7
4.7
1.1
0.8
0.2
0.4
0.2
0.2
0.1
8.3
Percent of Taxpayers
Claiming Dependents
1983
AGI
Decile
Filing for Credit
With Zero Tax
Liability Before
Credits
10.6
Percent of Taxpayers Claiming Credit
With Zero Tax
Liability Before
Credit
99.6
53.9
10.2
2.6
1.7
0.5
0.4
0.1
0.1
0.0
Filing as Single
—
86.4
67.6
50.5
50.5
19.5
10.1
6.1
4.4
3.4
8.8
21.8
61
Up Against
Expenditure Limit
—
4.6
10.8
5.0
12.9
5.1
3.8
5.5
5.0
10.7
6.8
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NATIONAL TAX JOURNAL VOL. XLIX NO. 1
The highest filing percentages are in the
eighth and ninth deciles in which
approximately 13 and 14 percent of
taxpayers, respectively, claimed the
credit.
How important is the ceiling on qualifying expenditures? Recall that families
with one qualifying child face a $2,400
limit on expenditures and families with
two or more qualifying children face a
limit of $4,800.31 Information on the
percentage of claimers constrained by
the limit is shown in the last column
of Table 1. We find that, on average,
less than seven percent of families were
up against the limit and that taxpayers
in the bottom half of the income
distribution were more likely to be
constrained than those in the top half.32
This suggests that expenditures on child
care are inelastic with respect to
income.33
We focus next on taxpayers with
dependent children at home.28 About
18 percent of these taxpayers claimed
the credit with the highest percentages
in the seventh through ninth deciles.
Notice that almost all taxpayers with
dependents in the lowest decile and
more than 50 percent of taxpayers in
the second decile had no tax liability
and, therefore, would not benefit from
the credit even if they had qualifying
child care expenditures. This provides
some evidence that a refundable child
care credit may increase utilization in the
lower deciles. However, refundability
will have no impact on the distribution
of credit benefits if parents in the lower
deciles don’t work. In addition,
refundability may not induce lowincome taxpayers to use “on the books”
child care and, therefore, may not lead
to a significant increase in use within
this group of taxpayers.
Although the limit seems to have had
little impact on the distribution of
benefits in 1983, inflation and increases
in the relative price of child care may
have increased its importance. To check
this with our data, we repeated our
analysis for the last year of our panel,
1988. We found that 23.5 percent of
credit claimers were constrained by the
expense limitation and that, in contrast
to our 1983 results, taxpayers in the top
half of the income distribution were
more likely to be constrained than those
in the bottom half.34 This suggests that
the current limit on qualifying expenditures increases the progressivity of credit
benefits.35
Next, we narrow our focus to taxpayers
that claimed the credit in 1983. We
find that more than half of all credit
claimers in the first five deciles were
single. These taxpayers claim a disproportionate amount of the credit: single
taxpayers accounted for 22 percent of
all credit claimers and received 29
percent of credit benefits in 1983.29
Although of potential importance to
policymakers, these results are not
surprising. Single taxpayers with young
children are more likely to be in lowerincome groups and are less likely to be
able to work without using some form
of child care. Despite their relatively low
income, however, we find that single
taxpayers do use market-based care and
benefit from the credit.30
Before turning to incidence results, we
calculate the percentage of the total
child care credit claimed in our sample
and the distribution of all taxpayers
with dependents across snapshot and
time-exposure income deciles. These
results appear in Table 2. Notice that
neither the amount of credit nor the
group of taxpayers with dependents is
distributed evenly across income groups.
About one percent of the total credit is
claimed by those in the bottom two
deciles, while 32 percent is claimed by
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PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
TABLE 2
CREDIT INFORMATION BY SNAPSHOT AND TIME-EXPOSURE AGI DECILES
By 1983 Snapshot Income
Decile
1
2
3
4
5
6
7
8
9
10
Minimum
AGI
(in Dollars)
(497,800)
4,266
7,999
11,360
14,940
18,910
23,720
28,730
34,830
44,720
Percentage
of Credit
Claimed
0.00
1.23
6.39
10.01
11.35
10.85
13.40
14.59
16.80
15.39
By Time-Exposure Income
Percentage
of Taxpayers
with
Dependents
4.10
6.19
7.74
9.13
9.66
10.28
11.54
13.08
14.14
14.14
Minimum
AGI
(in Dollars)
(244,722)
7,316
10,306
13,337
16,680
20,504
24,579
29,443
35,602
45,832
those taxpayers in the top two deciles.
These results are not surprising given
that only ten percent of taxpayers with
dependents are in the first two deciles
while 28 percent are in the last two. As
we observed in Table 1, demographics
have an important influence on the
distribution of credit benefits across all
taxpayers.
Percentage
of Credit
Claimed
4.21
8.88
12.53
14.64
12.43
12.26
10.46
9.59
8.87
6.14
Percentage
of Taxpayers
with
Dependents
4.88
5.94
7.02
8.67
9.59
10.38
11.49
13.55
14.01
14.48
One explanation for this change in the
distribution of benefits is that taxpayers
in the bottom snapshot deciles that did
not claim the credit were temporarily
poor in 1983 (possibly due to withdrawal from the labor force of one
worker) and were moved to higher
time-exposure deciles (as, perhaps, their
children aged and they returned to
work). This reshuffling may result in a
downward movement of “working
families” claiming the credit and may
explain the increase in the percentage of
total credit claimed by the bottom three
groups. In addition, taxpayers are more
likely to claim the credit (or claim a
larger amount) when their income is
temporarily high due, perhaps, to
increased labor supply (or participation)
by the mother or simply because parents
spend more for child care (or more for
on the books child care) when their
income is higher. This also explains why
families claiming the credit are in lower
time-exposure than snapshot deciles.
The results in Table 2 provide some
evidence that the progressivity of
benefits may be underestimated in an
analysis using snapshot income. We
explore this issue in the next section.
When taxpayers are classified by timeexposure income, the distributional
picture changes. The proportion of
credit claimed by those in the bottom
decile increases from zero to about
four percent. The percentage of credit
claimed by those in the first three timeexposure deciles (25.62 percent), for
example, is more than three times the
percentage claimed by those in the first
three snapshot deciles (7.62 percent).
At the same time, less of the credit
benefits go to the richest groups of
taxpayers—taxpayers in the top three
time-exposure deciles claim only about
25 percent of the credit, which is
significantly less than the 47 percent
claimed by those in the top three
snapshot deciles.36
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NATIONAL TAX JOURNAL VOL. XLIX NO. 1
Snapshot versus Time-Exposure
Incidence
increases with income: benefits average
$5 in the first two deciles, almost $62 in
the middle six deciles, and $66 in the
top two deciles.37 Among credit
claimers, average benefits range from
$177 to $385. Interestingly, despite the
declining credit rate, the average
benefits of credit claimers do not
decrease with income.
The top panel of Table 3 shows the
distribution of credit benefits across
snapshot AGI deciles. Comparing our
three groups of taxpayers yields interesting results. In the snapshot analysis of
all taxpayers, the average credit benefit
generally increases from the first
through the ninth decile. Credit
benefits average less than $2 in the first
two deciles, roughly $30 in the middle
six deciles, and nearly $44 in the top
two deciles. As a result, credit benefits
appear to increase with income.
Focusing only on taxpayers with
dependents suggests a somewhat more
even distribution of the credit, especially
in the fourth through tenth deciles.
However, the average credit received still
Incidence is more appropriately evaluated using the average effective subsidy
rate, which yields somewhat different
results. While subsidy rates (like credit
benefits) increase in the first four deciles
of all taxpayers (the first three deciles of
taxpayers with dependents and credit
claimers), in contrast to average credit
benefits, the effective subsidy rate
subsequently declines. Benefits appear
TABLE 3
INCIDENCE BY SNAPSHOT AND TIME-EXPOSURE AGI DECILES
Average Credit Received
(in Dollars)
Snapshot distribution, 1983
AGI
Decile
1
2
3
4
5
6
7
8
9
10
Average AGI
(in Dollars)
All
Taxpayers
583
6,198
9,674
13,134
16,853
21,248
26,063
31,593
39,209
73,342
—
3
17
27
31
29
36
39
45
42
Time-Exposure Distribution
AGI
Decile
1
2
3
4
5
6
7
8
9
10
All with
Dependents
Credit
Claimers
—
10
47
62
67
61
67
65
69
63
—
177
298
337
385
320
293
311
324
362
Average Credit Received
(in Dollars)
Average AGI
(in Dollars)
All
Taxpayers
4,364
8,838
11,810
14,939
18,503
22,481
26,971
32,327
40,100
78,716
5
12
19
25
26
33
33
36
41
40
All with
Dependents
293
308
354
361
342
350
382
300
301
366
64
All
Taxpayers
All with
Dependents
—
0.05
0.18
0.21
0.19
0.14
0.14
0.12
0.12
0.07
—
0.15
0.48
0.48
0.40
0.29
0.26
0.21
0.18
0.11
Credit
Claimers
—
2.56
3.05
2.60
2.33
1.52
1.13
0.98
0.83
0.64
Average Effective Subsidy Rate
Credit
Claimers
21
42
56
60
59
68
61
57
63
60
Average Effective Subsidy Rate
All
Taxpayers
All with
Dependents
0.05
0.11
0.15
0.18
0.15
0.15
0.13
0.12
0.11
0.07
0.23
0.39
0.44
0.43
0.33
0.30
0.24
0.18
0.17
0.11
Credit
Claimers
3.17
2.86
2.76
2.58
1.94
1.52
1.09
0.97
0.79
0.68
National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
to be regressively distributed in the first
few income deciles and progressively
distributed beyond the lower deciles.
increases the progressivity of the income
tax using both snapshot and timeexposure income. The Suits index for
the credit is essentially the same for
time-exposure and snapshot estimates
and indicates that it is progressively
distributed.39 The difference between
time-exposure and snapshot indices
increases as we restrict our sample to
dependents and credit claimers.
The time-exposure analysis reveals a
similar pattern, but with some interesting differences in the lower deciles.
First, notice the difference in average
AGI between the first snapshot and
time-exposure income deciles. Average
AGI increases from $583 in the first
snapshot decile to $4,364 in the first
time-exposure decile, implying that
many of the taxpayers in the lowest
snapshot decile were experiencing
temporary decreases in income in 1983.
In fact, while no credit benefits were
received by taxpayers in the first
snapshot decile, the taxpayers in the
lowest time-exposure decile did receive
benefits. Using time-exposure income
to measure ability to pay increases
benefits and subsidy rates in the first
deciles and, generally, lowers or does
not alter benefits and subsidy rates in
the middle and upper deciles. For all
three groups of taxpayers, the timeexposure analysis reveals a somewhat
more even distribution of the benefits of
the Child Care Tax Credit than the
snapshot analysis.
The similarity of the snapshot and timeexposure Suits indices is not surprising
given the results presented in Table 3.
Differences in incidence are driven by
differences in the snapshot and timeexposure income of a subset of taxpayers with dependents—taxpayers
claiming the credit in 1983. Our Suits
indices indicate that the change in
progressivity for this group is not large
enough to cause a significant change in
progressivity for all taxpayers.
The differences between our timeexposure and snapshot incidence results
may be mostly driven by the relationship
between qualifying child care expenditures and the transitory component of
income. Some families with dependents
may end up in the lower snapshot
deciles when one member of the family
drops out of the labor force to provide
child care. For these families, years of
lower than average income correspond
to years in which no credit is claimed.
When classified by time-exposure
income, they will move to higher deciles
We also computed Suits indices for the
income tax before and after the credit
and for the credit itself.38 These results
appear in Table 4. Comparing Suits
indices before and after the credit for all
taxpayers confirms that the credit
TABLE 4
SUITS INDICES OF TAX PROGRESSIVITY
All Taxpayers
Income tax after credit
Income tax before credit
Credit
Taxpayers with Dependents
Credit Claimers
Snapshot
Income
TimeExposure
Income
Snapshot
Income
TimeExposure
Income
Snapshot
Income
0.21998
0.21652
0.21543
0.19413
0.19085
0.21905
0.23705
0.22881
0.31461
0.20227
0.19423
0.33560
0.20429
0.16242
0.26966
65
TimeExposure
Income
0.15047
0.11160
0.29445
National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
NATIONAL TAX JOURNAL VOL. XLIX NO. 1
and, as a result, will lower the average
benefits and subsidy rates in their timeexposure deciles. At the same time,
families may claim the credit in years in
which snapshot income is higher than
average income. This would be the case
if credit claiming years follow time
periods in which one worker has stayed
out of the labor force or reduced hours
worked. These families will move to
lower time-exposure deciles and raise
benefits and subsidy rates in these
deciles.
and credit claimers (33 percent) moved
from the third snapshot decile to the
first time-exposure decile.
Note that taxpayers with dependents in
the first three time-exposure deciles are
always more (less) likely to move from
higher (lower) snapshot to lower
(higher) time-exposure deciles than all
taxpayers. Even more striking is the
“downward mobility” of credit claimers.
Almost 30 percent of families claiming
the credit in both the first and second
time-exposure deciles were ranked in
the fourth snapshot decile or above in
1983. And credit claimers are also less
likely to move to higher time-exposure
deciles than those taxpayers with
dependents and all taxpayers as a
group. This provides some evidence
that annual income measures are more
likely to overestimate the position of
taxpayers claiming dependents (especially those claiming the Child Care Tax
Credit) than taxpayers that do not claim
dependents.
It is plausible that families changing
labor supply decisions to provide child
care explain most of the differences
between snapshot and time-exposure
incidence in the lower deciles. Unfortunately, as mentioned above, it is
impossible to determine whether this
obtains using tax return data. We can,
however, examine the extent to which
families with dependents, and credit
claimers in particular, move from higher
snapshot to lower time-exposure
deciles. Table 5 provides information on
the composition, by snapshot decile, of
the lowest three time-exposure deciles.
For example, the lowest time-exposure
decile contains only nine percent of
taxpayers that were in the third snapshot decile. A higher percentage of
taxpayers with dependents (12 percent)
Conclusions
This paper has examined the distribution
of the benefits of the Child Care Tax
Credit using two different estimates of
income—the traditional annual measure
of income and the time-exposure
TABLE 5
MOVEMENT BETWEEN SNAPSHOT AND TIME-EXPOSURE DECILES AMONG TAXPAYERS IN THE LOWEST
TIME-EXPOSURE DECILES
Percentage in Time-Exposure Decile
Coming from Snapshot Decile
Two
Three
Four–Ten
Time-Exposure Decile
Taxpayer Group
One
First
all
with dependents
credit claimers
0.54
0.41
0.00
0.33
0.39
0.38
0.09
0.12
0.33
0.04
0.08
0.29
Second
all
with dependents
credit claimers
0.21
0.15
0.00
0.32
0.29
0.18
0.33
0.39
0.53
0.14
0.16
0.29
Third
all
with dependents
credit claimers
0.11
0.05
0.00
0.16
0.15
0.03
0.29
0.32
0.28
0.43
0.47
0.69
66
National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
measure. Our annual incidence results
indicate that demographics contribute
significantly to the unequal distribution
of child care tax benefits. We find that,
in 1983, less than eight percent of
benefits went to the bottom 30 percent
of the income distribution, while
almost half of the benefits went to the
upper 30 percent.40 This result is partly
due to the fact that the proportion of
taxpayers with dependent children at
home increases with income. Only 18
percent of the taxpayers with dependents in our sample were in the bottom
three deciles of the income distribution,
while 41 percent were in the top three
deciles.
that these differences are not sufficiently
large to affect the overall progressivity
of the credit.
Our results demonstrate that the credit
does provide tax benefits to working
families with low average income. In
fact, among those taxpayers claiming
the credit, average effective credit rates
decrease monotonically with timeexposure income. This suggests that
there is a correlation between years with
higher than average income (possibly
due to an increase in a parent’s labor
supply) and years of credit usage. Some
evidence for this is our finding that
credit claimers in the bottom timeexposure deciles are more likely to have
been ranked in higher snapshot deciles
than the group of all taxpayers.
Another factor leading to low utilization
and benefit rates in the bottom deciles
is the absence of tax liability to offset
with the credit. This problem is particularly acute for taxpayers with dependents in the bottom deciles. In fact,
almost every taxpayer claiming a
dependent in the first decile had
insufficient tax liability to offset with
credits in 1983. As policymakers have
noted, a refundable tax credit (like the
Earned Income Tax Credit) could result
in higher benefits for low-income
taxpayers.
Using time-exposure income to measure
ability to pay dampens the effects of
transitory fluctuations in family income.
Simply averaging income, however, does
not control for intercohort or life-cycle
effects. Correcting for these latter
effects may yield different incidence
results. For example, we found that
using annual rather than time-exposure
income (slightly) understates the
progressive effects of the credit.
However, if the credit is always claimed
while taxpayers are on a low-income
portion of an increasing lifetime
earnings profile, it is possible that using
lifetime income will overstate
progressivity. The lifetime incidence of
the credit will also depend on the
prevalence and labor supply behavior of
two-earner families. If, for example, all
credit claimers are families in which a
secondary earner is returning to the
labor force, average income may
underestimate both the lifetime and the
annual income ranking of credit
claimers. Again, relative to snapshot
income, a time-exposure analysis may
show greater progressivity while a
Although credit benefits expressed as a
percentage of AGI increase with income
through the first four snapshot deciles,
the Suits index for the credit indicates
that it is progressively distributed over
the whole distribution of taxpayers.
Replacing annual income with timeexposure income dramatically increases
the proportion of the credit received by
taxpayers in the lowest income deciles
and results in a more even distribution
of benefits across taxpayers in the
middle- and upper-income deciles.
However, our Suits indices summarizing
progressivity over all taxpayers suggest
67
National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
NATIONAL TAX JOURNAL VOL. XLIX NO. 1
lifetime analysis shows less progressivity.
More detailed demographic data are
necessary to determine the importance
of these cases.
3
Although our work does not shed much
light on the lifetime incidence of the
credit, we do show that, with the
exception of the lower deciles, there is
little difference between snapshot and
time-exposure analyses. However, even
though overall progressivity does not
change much, our results suggest that it
may be useful for policymakers to
evaluate the credit using both measures
of ability to pay. Families with young
children are likely to experience temporary swings in income as parents adjust
labor supply to provide for child care.
Thus, average income may be a more
appropriate measure of income to use
for incidence analyses, particularly for
policies aimed at providing tax relief for
child care.
4
5
6
ENDNOTES
1
2
Thanks are due to William Gentry, Douglas HoltzEakin, John Karl Scholz, and workshop participants
at the University of Wisconsin for helpful
comments on an earlier draft. We also benefited
from insightful comments from Joel Slemrod and
two anonymous referees. Rosanne Altshuler
gratefully acknowledges support from the
Research Council of Rutgers University. Amy
Schwartz acknowledges the support of the
Stephen Charney Vladeck Junior Faculty Fellowship
and the Research Challenge Fund of New York
University. We would also like to thank Edwin
Milan for research assistance and David Grossman
for secretarial assistance.
Michalopoulus, Robins, and Garfinkel (1992) note
that, in 1987, more than 70 bills were introduced
into Congress with provisions for child care. In
1990, Congress enacted legislation creating two
programs—the Child Care and Development Block
Grant and the “At Risk” Child Care Program—
aimed at helping low income families pay for child
care.
Spending on Head Start totaled $3,325 million and
payments to the states for the Child Care and
Development Block Grant totaled $893 million.
7
8
9
10
68
While current figures on the revenue cost of
dependent care assistance plans are unavailable,
the estimated revenue loss for 1988 was $65
million and was projected to increase to $150
million in 1989 (National Research Council,
1990).
The 1996 budget contains a proposed expenditure
of $3.53 billion on Head Start, $0.93 billion for the
Child Care and Development Block Grant and tax
expenditures of $2.90 billion for the Child Care Tax
Credit for 1995 (Office of Management and
Budget, 1995).
A recent paper by Gentry and Hagy (1996) also
investigates the distribution of benefits of the
Child Care Tax Credit and DCAPs. Unlike Dunbar
and Nordhauser (1991), they focus on the
distribution of tax relief benefits across families
with children. However, as do Dunbar and
Nordhauser, they use annual income to measure
ability to pay. Because we use the same data
source as Dunbar and Nordhauser (which does not
contain information on dependent care assistance
plans), we compare our results to theirs instead of
to those in Gentry and Hagy (whose primary data
source is the National Child Care Survey).
Steuerle (1994) uses the link between child rearing
and the life cycle as an argument for a child tax
credit or allowance. He argues that child rearing
years are “normally among the poorer years that
individuals face over their lives” (p. 775). By giving
a credit during this period of low income (and
during the time in which child care costs are
higher), this policy would “attune the tax system
more to the life-cycle circumstances of most
households” (p. 775). Certainly, if enacted, a
lifetime incidence analysis of this policy makes
sense.
Another alternative to calculating lifetime or
permanent income involves using annual
consumption expenditures to proxy for lifetime
income. We discuss this approach briefly in the
next section.
Barthold (1993, p. 292) argues “A . . . reason that
policy-makers reject life-time approaches involves
the policy-makers’ time horizon. The federal
government plans over a 5-year budget period. It
is reasonable for the policy-makers to examine the
burden over this period. In addition, the direction
of policy can change every 2 years with the
election of a new Congress or president. If policymakers know that policy can change every 2 years,
they may not see as relevant measures of changes
in the lifetime burden or benefit of policies.”
During our sample period, the age limit for children
qualifying for the credit was 15. The Family
Support Act of 1988 lowered the age limit to 13.
Qualifying expenditures cannot exceed the earned
income of the lower-income spouse in a twoearner family.
National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
PROGRESSIVITY OF THE CHILD CARE TAX CREDIT
11
12
13
14
15
16
17
18
19
20
If expenditures fall below the contribution set aside
in the beginning of the year, employees lose the
portion that is not spent.
The permanent income theory of consumption is
due to Friedman (1957) and the life-cycle model of
saving is due to Ando and Modigliani (1963).
See Fullerton and Rogers (1991, 1993) and Lyon
and Schwab (1991), for example.
Metcalf (1994a, p. 66) points out that a “. . .
difficulty with this approach is the inability to
measure changes in asset values, which may lead to
a systematic mismeasurement of lifetime income.”
If taxpayers have children (and claim the credit)
while on a low-income portion of an increasing
lifetime income profile and do not claim the credit
when their income is higher because their children
are older and therefore not eligible for the credit,
then an annual study will show a large subsidy rate
among low-income families and a small subsidy
rate among high-income families. Thus,
progressivity will be overstated. As an extreme
example, consider a population of identical families
at different points in their lifetime income profiles
in year t. If the early parenting years occur while
income is rising, an annual incidence study will
show a higher subsidy rate for the lower income
families. Since all families are identical, however,
the lifetime incidence study would reveal a
proportional subsidy.
Again, consider a population of identical families.
Each claims the credit only in years of high
transitory income. The annual incidence analysis
will show credit benefits only among the high
income—implying a highly regressive tax credit—
while a lifetime incidence analysis would show
equal benefits across families.
See Gentry and Hagy (1996) for an analysis of the
credit using a measure of household income that
abstracts from labor supply decisions.
We also calculated the ratio of qualifying
expenditures to income and compared averages
across income deciles. This measure describes the
incidence of the Child Care Tax Credit that a flat
statutory credit rate would produce in the absence
of any behavioral response. We do not report
these results since they are extremely similar to the
results obtained using the average effective subsidy
rate (described below in the text).
This measure of the progressivity of benefits
corresponds to the average tax rate measure which
is widely used in tax analysis.
There are a variety of measures available for
summarizing progressivity over the income
distribution. In addition to the Suits index, Dunbar
and Nordhauser (1991) calculate regression
estimates of the elasticity of the credit with respect
to income as well as regression estimates of tax
progressivity elasticities proposed by Ott and
Dittrich (1981). Kiefer (1984) provides a discussion
21
22
23
24
25
26
27
28
29
69
of alternative tax progressivity indices. While no
consensus has emerged on the preferred method
of summarizing tax progressivity, the Suits index is
commonly used. Exploration of some alternative
measures (including the estimation of tax and
credit elasticities) suggests that our results are
insensitive to this choice.
An alternative measure of income, called expanded
income, is calculated by adding to AGI excluded
long-term capital gains, excluded dividends, and all
adjustments. Our results are not significantly
changed by the use of expanded income instead of
AGI.
We convert AGI in each year into 1983 dollars.
Note that we do not average child care expenditures over time. Since taxpayers may be at
different points in their life cycle in 1983, an
average of their child care expenditures for the
years 1979–88 is not particularly meaningful. As a
result, the only difference between our annual and
life-cycle results is the relative ordering of
households.
The results were substantially unchanged by using
a 1984 or a 1988 snapshot, for example. More
recent tax return data may show different results.
In particular, inflation may have increased the
importance of the expenditure limit (which has not
been changed since 1981) and the Tax Reform Act
of 1986 may have reduced the percentage of low
income families that have positive tax liabilities
before the credit. We discuss changes in the
importance of the expenditure limit below.
Attrition from the sample occurs for a number of
reasons. First, the sample size was significantly
smaller in some years. Other reasons for taxpayer
attrition in any year include changes in marital
status, changes in which spouse’s social security
number is listed first on a joint return, insufficient
income to require filing a return, and death. See
Slemrod (1992) for an expanded discussion on
how the data set was assembled. See Christian
and Frischmann (1989) for an analysis of the
“survivorship” bias in the first six years of the tax
panel.
We find that the number of exemptions claimed
for children at home is constant at roughly two per
return across deciles.
Single taxpayers had marital status of single,
unmarried head of household, or widow(er) with
dependent child. We have excluded the less than
one percent of taxpayers that are married but file
separately from this category.
Recall that claiming an exemption for a dependent
child at home does not, by itself, qualify a taxpayer
for the Child Care Tax Credit. The child must be
under the age of 13 (until 1989, under age 15)
and both parents, or the single parent, must work
(or be enrolled in school).
This figure is not reported in the tables.
National Tax Journal
Vol 49 no. 1 (March 1996) pp. 55-71
NATIONAL TAX JOURNAL VOL. XLIX NO. 1
30
31
32
33
34
35
36
37
38
39
40
REFERENCES
Additional information about the use of
nonmarket (or off the books) child care is available
from the National Child Care Survey.
These limits have not changed since 1981 when
they were increased from $2,000 for one child and
$4,000 for two or more children.
As mentioned above, payments to relatives,
siblings, and other off the book providers are likely
to explain the below limit expenditures of many
claimers.
Gentry and Hagy (1996) find that child care
expenditures are income inelastic using the
National Child Care Survey.
Gentry and Hagy (1996) report similar results from
1989 tax return data. They find that, on average,
22.2 percent of those claiming the credit were
constrained and that a higher percentage of those
with incomes over $100,000 were constrained by
the expense limit than those with incomes below
$100,000.
By placing a ceiling on qualifying expenditures, this
feature of the credit limits the amount of credit
that can be received. If higher-income families
spend more than the limit and lower-income
families spend less, then the limit will work to
increase the progressivity of credit benefits.
Note that our results are not driven by changes in
the cumulative distribution of taxpayers with
dependents which is almost identical for snapshot
and time-exposure income classifications.
Recall that the statutory credit rate declines for
taxpayers with AGIs between $10,000 and
$28,000. Thus, the decrease in average effective
subsidy rates for those in the third through eighth
deciles may be due to tax law and not behavior. To
check this, we calculated the ratio of qualified
expenditures on child care to income. Our results,
which are not reported here, indicate that
declining subsidy rate contributes importantly to
progressivity among taxpayers with dependents,
since expenditure shares do not decline
dramatically across income deciles. Among
claimers, however, expenditure shares do decline
with income, suggesting the progressivity of the
Child Care Tax Credit would obtain even in the
absence of a declining credit rate in this group.
Note that, for the credit, the sign of the Suits index
is reversed so that one still represents most
progressive and negative one most regressive.
Dunbar and Nordhauser’s estimates are quite
similar—their Suits index before the credit is
0.2224 and also increases by about 0.003 after the
credit, to 0.2253. Our Suits index for the credit is
0.2154 which indicates greater progressivity than
the Dunbar and Nordhauser estimate of 0.1683.
Robins (1991) and Dunbar and Nordhauser (1991)
report similar results on the annual distribution of
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