Helping the Poor with Contributions to IDA’s

At least one measure approved by the legislature will give the poor a helping hand while giving taxpayers a way to reduce their own tax liabilities. Actually, the idea of Individual Development Accounts (IDA) began on the federal level and took hold for Hawaii last year with the passage of legislation that established the idea for state purposes. This year’s measure fleshes out the details for the tax credit that would benefit both the IDA owner and the taxpayer.

The idea of the IDA comes in reaction to encourage those on welfare to move off the welfare rolls and into the workforce as part of the “Welfare Reform/Welfare to Work” initiative adopted by Congress several years ago. Under current welfare rules, applicants for welfare assistance are awarded assistance based on need which means if the applicants have any assets that could be sold or used to support the applicant, the applicant is denied benefits.

As a result, if a welfare recipient accumulates any kind of asset, be it a house or a savings account, welfare benefits are reduced or taken away. This discourages welfare recipients from saving or working to build a nest egg that could help them move from welfare to self-sufficiency.

This is where the concept of Individual Development Accounts comes in to play. Under the plan, welfare recipients will be allowed to establish such accounts with institutions and with the guidance of a case worker. The funds in an IDA can only be used for specific purposes such as the purchase of a first home, funds for training or education, or money to start a business. As long as these are legitimate IDA’s, the welfare system will disregard the funds in such accounts in determining eligibility for welfare assistance purposes. Thus, there should be no reason for welfare recipients not to set aside some of their income to be placed in an IDA. This is especially important as more and more welfare beneficiaries are forced to find employment and go back to school for more education and training.

The IDA then becomes a way for welfare recipients to set aside some of the earnings from their first jobs for either more education, a first home, or money to start a business. In addition, individuals, employers, and organizations such as churches can match those contributions made by the welfare recipient. This is where the tax incentive that lawmakers adopted this year provides an additional benefit.

If the bill is signed into law, taxpayers can claim a state income tax credit equal to 50% of any amount contributed to an Individual Development Account. Thus, if an employer who has hired a welfare recipient promises to match whatever his welfare employee puts into an IDA, the employer can take a tax credit equal to half of the amount contributed as a match to the IDA.

Ah, but all good things do have an end or at least a limit. A total of $1 million in the aggregate has been set aside to fund this credit. Thus, once the first $1 million in tax credits has been certified and claimed, that will be the end of the tax incentive. But more importantly, if taxpayers do indeed take advantage of the tax credit up to its limit, the $1 million in tax credits claimed will have leveraged a total of $4 million – $2 million in contributions by taxpayers in order to maximize the tax credit limit and $2 million in IDA owner contributions which will be matched by the taxpayer’s contributions.

While taxpayers will be prohibited from taking those contributions as a deduction on the state return if they claim the credit, the dollar for dollar offset of state liability will outweigh the tax benefit of taking the contribution as an itemized deduction. The other downside of the bill is that the credit will be available for only a limited period of time. The credit can be taken for matching contributions made between June of last year and the end of 2004. Although that sounds like a long enough period in which to make matching contributions, remember that they are “matching” the contributions made by the IDA owner.

Thus, the incentive is both for the taxpayer and the account holder to make the contribution. Again, the proceeds of the account can only be used for the designated purposes to help the account holder toward self-sufficiency. Thus, the IDA represents a positive use of the tax system to encourage welfare recipients to save either for a better education, a first home, or funds to start their own business.

Now that’s making a positive difference!