Americans have grown accustomed to getting substantial tax refunds soon after they file their returns, especially if they turn in their paperwork early. But starting with the coming filing season, that won’t be possible for many low-income households. Congress has required the IRS to delay all refunds containing an earned income tax credit (EITC) or additional child tax credit (ACTC, the refundable portion of the child tax credit) until at least February 15.
The delay—which applies only to EITC and ACTC filers and affects their entire refund, not just the portion coming from the two credits—is intended to give IRS time to verify income on these returns since employer’s are now required to file information returns by January 31 (previously they had until March). This could help IRS detect and prevent fraud. But holding refunds may harm already vulnerable families. And there is little evidence that it will improve administration of the programs, especially given the tight resource constraints the IRS faces.
Last year, more than three-quarters of tax filers received a refund, either thanks to refundable credits like the EITC or because their employers withheld more tax than they owed. These refunds averaged about $2,700. Those who filed before February 12 were more likely to receive refunds, which averaged over $3,200.
The EITC and child tax credit (CTC) are an important source of government assistance for low-income families, particularly those with children. Critics complain these programs are subject to fraud, though often errors are attributable to the credits’ complexity. Nonetheless, Congress responded to these concerns by passing the Protecting Americans from Tax Hikes Act (PATH Act), which prevents the IRS from paying refunds on returns that include an EITC or ACTC prior to February 15. The IRS doesn’t hold refunds for any other large group of taxpayers who have complicated returns such as the self-employed, or those with complicated business returns.
Many people claiming EITCs and CTCs have limited financial resources and thus file early to receive refunds that are an important part of their cash flow strategies. A recent analysis of low-income families with children who filed before February 15 and claimed either an EITC or CTC using TurboTax Freedom Edition (part of the IRS Free File Alliance) showed that nearly four in five faced a financial hardship. More than half said they had $2,000 or less available for an emergency at the time they filed their returns, and about four in ten had used an alternative (often high-cost) financial service (such as a payday lender) in the six months before filing a return. In past years, when refunds came more slowly, taxpayers often paid tax preparation firms high fees to get their refunds immediately.
The new law primarily targets families with children – those who receive the largest EITC and ACTC credits. However, it creates a special challenge for the one-quarter of EITC filers without children. They can only get a relatively small credit—no more than $506 this year. But they are also likely to be owed larger refunds due to other credits (such as refundable education credits) and overwithholding. To avoid having those refunds delayed, some could forgo those small EITCs entirely.
While it is important for Congress and the IRS to reduce errors, delaying refunds could come at high cost to some low-income taxpayers. Congress failed to adopt other options that would be less burdensome to low-income families, such as regulating return preparers and adequately funding the IRS. Perhaps Congress could reconsider some of these other solutions.
