Why welfare, food stamps, and other programs often discourage work

Food stamps, welfare, Medicaid and other tax and transfer systems can sometimes penalize people for earning that extra dollar of income, Steuerle writes.

Economists and many policymakers generally agree that our tax and transfer systems should promote opportunity, work, saving, and education rather than consumption. The problem is these programs often penalize people for earning that extra dollar of income. Rather than promoting work and savings, these implicit taxes punish such otherwise positive behavior.

These penalties occur in TANF (formerly welfare), SNAP (formerly Food Stamps), Medicaid, the new health exchange subsidy, Pell grants, student loans, and unemployment compensation. The tax code also is loaded with disincentives to work, save, and study. They include PEP and Pease (reductions in tax allowances for personal exemptions and itemized deductions), child tax credits, and the earned income tax credit. These implicit taxes combine with explicit taxes to create incentives for many households that are often inefficient and inequitable, to say nothing of strange and anomalous.

At some income levels, families face prohibitively high penalties for moving off assistance. For instance, a single worker with children could face a steep cut in child care assistance simply for accepting a higher paying job or getting a raise. For some, the rapid phaseout of benefits can more than offset the additional take-home pay. Asset tests in means-tested programs create similar barriers to saving.

One way couples avoid some of these penalties or taxes is to not get married. Indeed, this strategy is the major tax shelter for low- and moderate-income households with children. Our tax and welfare system thus favors those who consider marriage optional—to be avoided if it raises taxes or reduces benefits but embraced if it comes with a financial bonus.  The losers tend to be those who consider marriage a social or religious necessity. 

These high rates and marriage penalties occur partly because of the piecemeal fashion in which they are developed.  Designing benefit packages more comprehensively could greatly improve both the incentives families face and the quality and choice of benefits they receive.

For more details, see my congressional testimony for Thursday's hearing on “Unintended Consequences: Is Government Effectively Addressing the Unemployment Crisis?” before the Committee on Oversight and Government Reform.