What Can Be Done about the Childcare Benefits Cliff? A Case Study in Florida

During the pandemic numerous schools and childcare programs across the United States closed. Many parents—especially mothers—were forced to spend more time caring for their children, which resulted in a decline in women's labor force participation. This sudden decline in economic activity shined a light on the role that childcare policies can play in supporting working parents and the economy. At the same time, if not designed with economic mobility in mind, policies that subsidize childcare based on income eligibility may inadvertently create barriers for working parents.

In a new discussion paper, Restructuring the Eligibility Policies of the Child Care and Development Fund to Address Benefits Cliffs and Affordability: Florida as a Case Study, the authors explore how the current eligibility policies of the federal Child Care and Development Fund (CCDF) create affordability challenges and benefit cliffs that act as barriers to family economic self-sufficiency. Using Florida as a case study, they demonstrate how the current exit eligibility requirement affects the same hypothetical family living in two contrasting Florida counties: one with the state median living costs and one with high living costs relative to the state median. The authors—Brittany Birken, Elias Ilin, Alexander Ruder, and Ellyn Terry—find that the CCDF income eligibility exit threshold is too low, particularly in high-cost counties, resulting in families losing the benefit without sufficient resources to afford childcare. This loss occurs because the exit threshold is based on the state median income, as opposed to more local measures that better approximate local cost of living. The authors propose and calculate the additional family and government costs of two alternative CCDF phaseout designs that would remove the CCDF benefit cliff, a phenomenon where the loss of the benefit makes the family worse off. Both proposed alternatives feature smooth phaseout schedules that align the subsidies with the local cost of childcare, thereby reducing barriers to economic mobility unintentionally created by government policies that disincentivize an increase in income where a family becomes ineligible for the valuable CCDF benefit and does not earn enough to replace it.

Childcare affordability can stymie labor force participation
A lack of access to quality, affordable childcare can negatively affect economic growth by limiting the labor force participation of parents and challenging career advancement opportunities (Danziger et al., 2014). Challenges with childcare affordability can ultimately force parents who want to work to stay home with their children, to work fewer hours, or to turn down higher-paying jobs in order to remain eligible for childcare assistance from the government.1 If parents avoid taking a higher-paying job in order to keep government assistance, this can result in a net loss to the taxpayers in the long run, in the form of hundreds of thousands of forgone employment taxes and greater government assistance payments (Altig et al., 2020). According to the Council of Economic Advisers' analysis, as of 2016 there were 3.8 million nondisabled, working-age parents with children under age 6 outside the labor force, and another 6.6 million such parents with children under age 13 working part-time. Therefore, making childcare more affordable could help up to 10.4 million parents choose to enter the labor force or increase their work hours. This would reflect a 6.5 percent increase in the 2016 U.S. labor force.2

Subsidized childcare
While the U.S. government has many programs intended to support working families with young children, design and funding constraints can significantly limit their reach and effectiveness. In the paper, the authors focus on the largest childcare subsidy program in the country—the Child Care and Development Fund. CCDF is administered by the Office of Child Care at the U.S. Department of Health and Human Services and provides block grants to states, which are used to subsidize the childcare expenses of eligible working families with children under age 13 so they can work or attend a job training or educational program. Federal regulations require that states keep the income eligibility threshold at or below 85 percent of the state median income (SMI). Not all eligible families receive subsidies because of limited CCDF funds. In fact, fewer than one in six qualified households receive childcare support.

CCDF requires states to determine the levels of family co-pay contributions toward the cost of childcare and establish the subsidy value. Among those families that obtain CCDF vouchers, the program's effectiveness is limited by eligibility thresholds and phaseout schedules that do not always allow for a smooth financial transition off the program. In particular, the authors focus on two features of the current CCDF design, which they argue can reduce the incentives for seeking greater income, limiting economic mobility.

Two challenges, two solutions
There are two challenges with the existing CCDF design: 1) families' inability to afford unsubsidized childcare without the need to sacrifice other basic needs, especially in high-cost areas (affordability problem); and 2) the abrupt loss of subsidy at the eligibility threshold that results in a significant loss of household's financial resources (benefits cliff).

Two counties in the state of Florida were selected to illustrate the limitations of CCDF eligibility thresholds and test the alternatives for a family of two adults and two children. The authors compare Hillsborough County, which includes all of Tampa city limits and the surrounding area, and Palm Beach County, which includes multiple cities north of Fort Lauderdale. The authors chose Hillsborough County because the median wage and cost of living are similar to the statewide median, and they chose Palm Beach County as a large metro area with the second highest living costs in the state, which allow them to demonstrate the extent to which the variation in cost of living across the state can create difficulties for CCDF participants. Two options for addressing CCDF challenges are proposed and modeled for these counties.

The first option extends the eligibility for the CCDF subsidy above 85 percent of SMI and allows families to continue receiving the subsidy as long as their income is below a standard budget-based measure of the real cost of living for their family size.

A second option is to eliminate the benefit cliff by changing the co-payment to be an increasing fraction of the full unsubsidized childcare costs, in addition to extending benefits to families with income below the standard budget-based measure of the real cost of living. In this model, the higher the family income, the higher the share of childcare costs they would pay. Families would assume the full costs of childcare once they reach the eligibility threshold based on this standard.

With the extended co-pay, depending on the assumption of the new number of families served, costs are estimated to increase by $4.4 million to $10.6 million (1.0 percent to 2.1 percent) due to an increase in the number of eligible families. For the alternative co-pay schedule, the program costs would increase by $37.0 million to $40.4 million (7.2 percent to 7.8 percent). This cost reflects a combination of a decrease in program costs on families that face higher co-pays and an increase in program costs on those families that face lower co-pays relative to the original co-pay schedule.

Implications for practice and policy
The current federal income eligibility exit threshold is too low for families to absorb the full cost of childcare without sacrificing other basic household expenses. Cost of living and wage variation means that affordability challenges can differ across communities. In the paper, analysis with two Florida counties demonstrates alternate policy options for addressing this dilemma. The authors demonstrate that extending subsidy eligibility to a measure of economic self-sufficiency that is based on the minimum household budget needed to cover expenses independently would address current affordability challenges. Gradually increasing parent contributions to the cost of childcare in alignment with increased earnings can eliminate the benefits cliff that occurs when a small increase in wages results in the loss of a more sizable subsidy. There is an associated cost to government for implementing these changes, but that cost could be offset by a longer-term return on investment in the form of reduced public benefits and increased tax contributions by working families.

Understanding the potential gaps between the established eligibility limit for subsidized childcare and minimum household budget levels needed to afford childcare independently without sacrificing other basic household expenses can inform community, state, and federal funding and policy considerations. More flexible federal regulations could enable states to extend eligibility in areas with higher living costs to better support childcare affordability and pathways to economic self-sufficiency. States can develop strategies for mitigating the benefits cliff by creating an off-ramp that features a graduated phaseout of subsidy to the point when families can afford childcare costs independently. Federal, state, and community resources can potentially be allocated to bridge the existing funding gaps.

The additional costs incurred by either alternative are not without significant potential reward. Studies have found that investments in childhood development significantly increase cognitive development and earnings potential as adults. Thus, such investments will likely result in better long-term outcomes for these children. Further, smoothing the CCDF benefit cliff can potentially increase the economic mobility of low- or moderate-income families for whom childcare is unaffordable. Increased income among parents and increasing income among low-income children as adults would create long-run returns to the government in the form of reduced government assistance, increased higher income tax, and higher sales taxes.

By Brittany Birken, principal CED adviser at the Atlanta Fed, and Ellyn Terry, an economic policy analysis specialist at the Atlanta Fed and a PhD student at the University of Washington. The views expressed here are the authors' and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the authors' responsibility.

References

Altig, David, Elias Ilin, Alexander Ruder, and Ellyn Terry. 2000, revised 2021. "Benefits Cliffs and the Financial Incentives for Career Advancement: A Case Study of a Health Care Career Pathway." Federal Reserve Bank of Atlanta Community and Economic Development discussion paper 01-20.

Danziger, Sandra K., Elizabeth Oltmans Ananat, and Kimberly G. Browning. 2004. "Child Care Subsidies and the Transition from Welfare to Work." Family Relations 53 (2): 219–228.

Morrissey, Taryn W. 2017. "Child Care and Parent Labor Force Participation: A Review of the Research Literature." Review of Economics of the Household 15 (1): 1–24.

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1 Morrissey (2017) provides a detailed review of the literature on the relationship between childcare and parents' labor market behavior.

2 As of December 2016, the U.S. labor force was approximately 159 million people (FRED, accessed February 18, 2021).