October 14, 2022 4:00pm by PaulL

EMTR Other Demographics

This post is by PaulL, a regular commentor and occasional contributor. It is the fifth post in a series on the financial incentives to work and the impacts of our tax and transfer system on household formation. The index to all posts in the series can be found here.

This post follows the format from the previous examples, if you haven’t read them then you can find them here and here. I won’t repeat information from those posts.

The aim of this post is to show similar information, but for households with different demographics.

Firstly, a single person with no children. Lower accommodation costs of $200 per week, given they have no children, and we assume $25 per hour wage.

This person’s incentive to work part time is quite weak – up to about 26 hours of work per week they’re not much better off. Their net income on a benefit is $472 a week, at 20 hours of work their net income is $688. The 20 hours of work at $25 per hour have returned $10 per hour, a 60% EMTR. Also important is that the incentive is strong in the first 6 hours of work (18% EMTR), but then poor for the next 20 hours (75% EMTR).

Once the abatement threshold is passed then the returns to work are good, around 43% EMTR. This is still higher than the top marginal tax rate of 39%, but not as bad as other demographics.

I believe the policy view is that most single people would be working full time, and therefore the EMTR with few hours of work is not impacting many people – you would either be out of work and on a benefit, or working close to 40 hours per week.

The incentives to increase pay are also relatively strong, if you’re working 40 hours per week.

Consider next a household with two adults. One adult is working on a low income (full time, $25 per hour), and one adult moving into part time work ($25 per hour). They have two children, one child is aged between 3-5, one child is over 5 and in school.

For this household, there is no useful incentive for the second person to enter employment. Their EMTR is 70% up to 20 hours of work a week, and once you factor in their costs of going to work, they are keeping $4.50 per hour. Around 26 hours per week their costs are outweighing their benefits, each hour they work costs them more than they earn. All the way out to 40 hours a week their net household income doesn’t materially increase – their net income was $1,211 per week when the second parent was not working at all, and is $1,338 when working 40 hours per week. That’s $3 per hour in the hand.

Similarly if that second income earner was working 20 hours per week at minimum wage and considering taking on more responsibility, then they have relatively weak incentives to do so at the low end.

Between $21 per hour and $29 per hour, the government will claw back 70% of the increase in earnings. It is then 45% through to $38, and beyond that point the normal marginal tax rate applies. As with other examples, this person faces a substantially higher marginal tax rate than someone on the top marginal tax rate of 39%.

Lastly, a household with two adults and four children. Neither adult is working, we consider the impacts of one adult moving into work.

For this household, there is no useful improvement from working at $25 per hour. Disposable household income rises from $1,183 when not working to $1,253 at 7 hours per week. Beyond that point the effective abatement rate is 95%. At 40 hours per week the household disposable income is $1,292, a return of $40 for those 33 hours of work.

Where this person is in full time work and considering increasing their hourly rate, there are relatively weak incentives up to $26 per hour.

Beyond that point the incentives improve. There is an 83% EMTR up to $26 per hour, then 70% through to $45 per hour, and 60% thereafter right up to $64 per hour.

This analysis informs us of the clawback for a minimum wage increase for this person. Moving the minimum wage from $21 to $22 will result in 83c in clawback for the government, and 17c for the worker.

People talk about increasing the minimum wage to a “living wage.” The living wage is a level where a single income earner can support two adults and children – so exactly this type of family. When people talk about that increase, remember that 83% of that increase is actually going directly to the government, not to the family with children at all.

This analysis is also interesting for telling us how much a household in this situation receives from government support. This household when not working at all and entirely benefit supported is receiving $72,000 per annum of after tax income, which is the equivalent of $82,000 of before tax income if all income was taxable. This isn’t a huge amount of money for a household with 4 children living in Auckland, but it’s more than I would have thought before completing this analysis.

What does this example tell us?

The incentives for people without children are stronger than those with children. Interestingly, research shows that average hourly earnings for people without children is higher than otherwise similar people with children. Is this incentive structure at least partially responsible for that?
Even so, for people who are lowly paid and part time, there is relatively little incentive to increase hourly earnings – for every extra dollar per hour you earn the government claws back 70% or more. This may reduce the likelihood people would invest in training or moving into more responsible / onerous positions.
There are reasonably good incentives for single people on a benefit to move into work. The “poverty trap” that exists for those with children is much less the case for those without children.