Overtaxing the working family: Uncle Sam and the childcare squeeze.

• Author: McCormack, Shannon Weeks
• Position: III. Analyzing the Working Childcare Expense C. Comparing Working Childcare Costs to Other Hybrid Expenses through Conclusion, with footnotes, p. 590-617

3. Comparing Working Childcare Costs to Other Hybrid Expenses

   1. Business-Related Meal and Entertainment Expenditures

      Suppose that Larry Lawyer flies to his favorite city to discuss a pending case with a client who lives there. He stays in his favorite hotel and orders room service for breakfast. He also takes the client to Larry's favorite restaurant, where they discuss the case. After dinner, Larry brings the client to watch Larry's favorite baseball team. May Larry deduct the costs of traveling to and staying in his favorite city? May he deduct the entertainment costs of taking himself and his client to dinner and a ball game? There are evident challenges in determining what tax relief is warranted for these meal and entertainment expenditures. Like working childcare costs, these expenditures are associated with both nonconsumptive and consumptive activities. But the consumptive aspect of the meal and entertainment expense seems far more significant.

      For one thing, the subset of taxpayers falling within the Full Consumption Subset described in Section III.B will be sizable--that is, it is easy to imagine taxpayers incurring meal and entertainment expenditures without work-related reasons for doing so. For instance, regardless of his client's existence, Larry Lawyer may well have visited his favorite city, stayed in his favorite hotel, dined on a fancy dinner, and purchased tickets to watch his favorite team play baseball. People attend happy hours, restaurants, shows, and sporting events without work-related reasons for doing so. In contrast, nonworking parents do not tend to send their children to childcare for forty-five hours per week--and, in fact, census data show that most families, absent the necessity of work, do not use any form of outside childcare at all. Thus, the Full Consumption Subset will be much more populated in the case of meal and entertainment expenses when compared to the case of working childcare costs.

      Further, in the case of meal and entertainment expenditures, the Substantial Consumption Subset will be sizable. Even if Larry Lawyer would not have incurred the described expenses had he not needed to attend to his client's business, he would nonetheless have derived some personal pleasure from the activities. At the very least, Larry would have eaten even if he were not on the business trip. (167) Thus, while census data suggest that relatively few working parents can be expected to fall within the Substantial Consumption Subset, most taxpayers incurring meal and entertainment expenditures should fall within this group (if not within the Full Consumption Subset). As a result, the Insubstantial Benefit Subset can be expected to be far smaller in the case of meal and entertainment expenses when compared to the case of the working childcare cost.

      One would, therefore, expect the tax law to provide more tax relief for working childcare costs than it does for meal and entertainment expenses. In almost all cases, however, the tax law allows for the reverse. Currently, taxpayers may claim a deduction of 50 percent of "entertainment, amusement, or recreation" (168) expenses, like expenses for dining and ball games, so long as the activity is not "lavish" and the activity is sufficiently related to the taxpayer's business. (169) But working parents requiring full-time childcare are generally entitled to tax relief that is worth far less than a deduction for half of their costs.

   2. Business-Related Moving Expenses

      Currently, the tax law allows taxpayers to deduct most moving expenses that are "incurred ... in connection with the commencement of work" (170) so long as the taxpayer's move occurs within one year of receiving the new job, and the new job is "at least 50 miles farther from [the taxpayer's] former home than [her] old main job location was from [her] former home." (171) In fact, if the taxpayer moves separately from his family, both sets of moving costs may be deducted. (172) Clearly, however, the reasons for moving from one's current residence are varied and not solely motivated by the desire to earn income.

      Families, for instance, may move for more housing space, a lower cost of living, or better school districts for their children. A taxpayer, in deciding to leave his current location, may wish to live closer (or farther) from his family, or find a community whose interests and beliefs align more closely to his own. Thus, while a family may not move until work is found, many, if not most, families choose to move for various nonwork related reasons. Therefore, although the Full Consumption Subset may not be very populated in the case of business-related moving expenses--for many, attaining new employment will be a necessary condition of moving--most taxpayers that incur deductible moving expenses fall within the Substantial Consumption Subset. As a result, only a small minority of taxpayers fall within the Insubstantial Subset--that is, will have moved solely for employment and not because the relocation offered other significant consumptive benefits.

      This suggests that the percentage of working childcare costs that may be deducted should be at least as great as the percentage of business-related moving expenses eligible for a deduction. This is again not so, however, as the tax law allows a full deduction for qualifying moving costs and only allows parents tax relief equivalent to a deduction for a fraction of working childcare costs.

   3. Hobby Expenses (173)

      Consider finally how the tax law handles expenses associated with activities that are "not for profit," (174) more colloquially referred to as "hobby expenses." Suppose, for instance, that Jack and Jill (J&J) together earn $50,000. Suppose, however, that J&J do not have children and so do not incur childcare expenses. They do, however, really enjoy racing their yacht and incur $20,000 of expenses, including travel expenses, entrance fees, and boat maintenance to do so. J&J incur these expenses for the love of their hobby and do not care whether they win or lose. But they are very lucky one year and win $30,000. Should J&J be able to deduct the yacht racing expenses?

      Many hobbyists will fall into the Full Consumption Subset because they are willing to incur the expense of engaging in these activities regardless of whether they earn any income. The remainder fall within the Significant Consumption Subset, only requiring a relatively slight amount of income (that need not exceed costs) in order to incur the hobby expenses. The Insignificant Consumption Subset will be, by definition, unpopulated since the activity is presumptively not profit motivated. It would, therefore, not be at all unreasonable to fully disallow deductions for hobby expenses--in many cases, such as the case of J&J, the hobbyist is not truly poorer by the amount of his hobby expenses because he received enjoyment (consumptive value) at least equal to the cost incurred.

      Nonetheless, [section] 183 of the Code allows taxpayers to deduct these costs with several limitations. In this example, for instance, J&J may only deduct an amount equal to their gain on the transaction (175)--here because J&J's gain is $30,000, J&J may, before other limits, deduct the entire $20,000. They must then subtract 2% of their adjusted gross income from this amount (here $1,600), (176) so J&J are left with $18,400 expenses to deduct. (177)

      Astonishingly, then, [section] 183 may provide more tax relief for the hobbyist than full-time working parents. Compare J&J's situation to the situation of a married couple that together earns $80,000--the same amount of income as J&J. But instead of spending $20,000 on yacht racing, this couple spends $20,000 on childcare while they are working. Section 21 allows the couple a 20% credit of up to $6,000 expenses, an equivalent of only a $4,000 deduction if the couple's marginal tax bracket is 30%. (178)

      The preceding analysis strongly suggests that working childcare costs are, at least in significant part, nonconsumptive expenditures for which substantial tax relief is warranted. As also shown, however, the current law does nothing close to this. Instead, current law limits the relief provided to taxpayers incurring working childcare costs more severely than it limits the relief for more consumptive expenditures. The next Part develops a proposal that would achieve meaningful reform and help prevent the overtaxation of the modern working family.

      IV. PROPOSAL FOR REFORM: PREVENTING THE OVERTAXATION OF THE WORKING FAMILY

1. The Method of Reform Matters

   Given that the tax relief Code [section][section] 21 and 129 provide is inadequate, lawmakers seeking to change these laws must be careful when choosing an avenue of reform. It might, for instance, seem sufficient to raise the current dollar limitations, percentage limits, and phaseouts in these sections, which together ensure that parents receive tax relief for only a fraction of the working childcare costs they incur. But while this would certainly be a step in the right direction, it would leave these reformed laws vulnerable to the same legislative dysfunction that allowed the tax relief provided to working families to become so inadequate in the first place.

   As discussed in Section I.B, Congress originally enabled working parents to deduct working childcare expenses, properly characterizing these expenses as nonconsumptive costs of earning income. (179) Congress, however, later changed the mechanism for providing tax relief for working childcare expenses from a deduction to a percentage credit in order to eliminate the upside-down-subsidy effect of the deduction. (180) While doing so, it expressly rejected the idea of phasing down the credit because it is inappropriate to phase down costs of earning income. (181)

   Section 21's current phaseouts are, therefore, directly inconsistent with Congress's express intent. Furthermore, Congress's failure to index the dollar limitations in both...