When some people think about poor and low-income families, they often hastily conclude that these are financially irresponsible households that cannot or do not save. This view was unfortunately and wrongly reinforced by the housing collapse, when many low-income homeowners with subprime mortgages lost their homes.
But that assumption is wrong: Lower-income families can and do save. The foreclosure crisis was as much due to bad—predatory—lending and stagnant incomes as to inadequate saving. Indeed, getting low-income households to save following the terrible loss of wealth suffered by millions of Americans in the Great Recession will be essential to restoring our prosperity. While improving consumers’ buying power will always be an important progressive approach to sustainable growth, we also need to focus on savings as a foundation for household and national economic stability. Saving helps people avoid the hardships that prevent them from reaching their potential and limit their contributions to society. Moreover, broad-based asset policies can reduce debt, increase children’s well-being, and build potential down payments for homes and college tuition.
Years of rigorous research by experts at the Urban Institute and the Corporation for Enterprise Development (CFED), based on experiments and initiatives on the ground, as well as the work of other experts in the field, have shown that many low- and moderate-income families can save and accumulate assets. One 2011 Urban Institute study followed low-income, low-asset households to see whether such families can build savings. It found that, despite very low incomes, a substantial portion (44 percent) of these households accumulated enough to escape asset poverty after 12 years. That is, they accumulated enough “wealth-type resources” to sustain consumption for three months at the poverty line.
Other studies tell a similar story. One study of Individual Development Accounts—matched savings accounts for lower-income savers—found that, with an average match rate of nearly two-to-one, the typical participant accumulated almost $600 per year in savings. For participants averaging $18,000 in annual income, this is not a trivial amount. Several years ago, New York City launched a matched savings program called SaveNYC and found similar outcomes. Individuals saved an average of $561 over three years on a meager average income of $17,000. One participant said, “When I opened the SaveNYC account, I was able to save for the first time…. I hold back, deprive myself, so that I can get the computer for my son and other things.” These individuals show a willingness to save when presented with an opportunity—and many succeed.
If the literature shows that low- and moderate-income people are in fact capable of saving, the question then becomes: Should they do it? Considering their meager resources, should the poor really make an effort to set aside savings? The literature answers with a resounding yes.
First, assets help households weather material hardship. Low-income families are more likely to face difficulties after job loss, illness, death, or divorce. A recent study showed that adverse events are especially painful for families in the bottom third of the income distribution. After a job loss, almost half of these households experience hardship compared with 16 percent of households in the top third. Savings act as a crucial buffer: Low-income families with some liquid assets are significantly less likely than their asset-poor counterparts to experience deprivation during stressful events. In one study, access to $500 of credit had as much effect on easing hardship as multiplying a family’s income by a factor of three.
Savings and credit make a difference because income is more volatile for those hovering around the poverty line. Low-income families usually work in low-wage and temporary jobs, making them more susceptible to reduced hours and layoffs. Low-income families also have higher rates of unexpected home and auto repairs, and often lack insurance. The resulting month-to-month income instability leads to a higher incidence of hardship.
Second, savings can lower costs. Even small asset holdings can allow families to avoid high interest on credit cards. One study found that households with minimal liquid savings were substantially less likely than those with no savings to pay high fees to get their tax refunds a few days early.
Third, assets help protect families when the social safety net is insufficient. Because of budgetary pressures, many social-insurance programs may shrink or grow less quickly than demand. Savings-oriented policies can work to complement the social safety net.
Fourth, and perhaps most importantly, savings encourage families to imagine a future better than the present, and to prepare and plan for that future. Lower-income families can convert savings into home purchases, education, microenterprise, and retirement accounts. Considerable literature demonstrates that homeownership can improve children’s well-being through better educational attainment and lower incidences of teenage pregnancy. Residential stability can be particularly important for low-income families to ensure children’s behavioral and cognitive development. In a nation where childhood poverty is estimated to cost up to $500 billion a year, homeownership and asset building can help reduce the societal and fiscal cost of poverty.
Savings are also the gateway to self-employment and job creation. As studies have shown, new and young businesses, including self-employment, are an important contributor to net job creation. Of the more than 20 million self-employed, over half have family incomes under $50,000. Microenterprise programs in the United States and overseas consistently demonstrate that self-employment is often the only source of work for the unemployed. Savings are key: Most of the initial financing for new business and self-employment comes from savings of the entrepreneur and friends, family, and associates. Indeed, one of the reasons that new jobs generated by new and young businesses have declined from a high of 3.6 million to a low of 2.2 million over the past several years is the decimation of savings.
Finally, savings are key to higher education and, thereby, to employment and living wages. Studies by researchers at the Center for Social Development and the University of Pittsburgh show that students entering high school with college savings accounts in their own name are six times more likely to go to college than those without—even though the average amount in those accounts is less than $500. Assets are indeed, in Michael Sherraden’s memorable words, “hope in concrete form.”
The coming debate on tax reform may present a significant opportunity to help low-income Americans save more. We’ve heard repeated vows from politicians of both parties, and special commissions like Bowles-Simpson, to pursue comprehensive tax reform, including significant reductions to tax expenditures. There is little evidence that the current incentives are effective. Furthermore, the regressivity of these tax expenditures is incontrovertible. More than a third of benefits (37 percent) accrue to the richest 1 percent of taxpayers and more than half (55 percent) accrue to the wealthiest 5 percent. Meanwhile, the poorest 60 percent of taxpayers share less than 5 percent of the benefits. In dollar terms, people making more than $1 million per year get an average tax benefit of more than $95,000, while the average family in the poorest quintile receives an average benefit of less than $5 a year.
In short, subsidies are primarily going to families who are already in a good position to build assets. Proposals to slash these tax incentives will meet opposition from current beneficiaries and powerful lobbies. Yet what is preserved should be better targeted to those most in need of a boost to savings.
We also encourage reforming current savings incentives aimed at specific categories of investment. For instance, the Saver’s Credit provides a tax break to low- and moderate-income taxpayers saving for retirement. Because the neediest families face a minimal tax burden, the credit is of limited utility. If the Saver’s Credit were made refundable, as was originally proposed, it would reach 50 million low-income households instead of the six million it currently reaches.
Those saving for education can also be targeted. States currently offer 529 plans, which nudge parents to save for their children’s college education by offering a tax deduction. But tax deductions are of little use to most middle-income households, let alone low-income families. Offering a matching grant for the college savings of low- and middle-income households, as a dozen states have done, would open college aspiration and opportunity to millions.
Another area where policy can help is homeownership, which has long been the primary saving mechanism for low- and moderate-income families. Unfortunately, the mortgage-interest deduction doesn’t benefit those who do not itemize their taxes, and it provides the largest subsidy to those who buy the largest houses. Offering a credit instead of a deduction, with a declining cap to gradually lower the eligible home value, would produce savings for the government and allow homeowners with low tax burdens to benefit.
Savings-incentive policies also need to become less restrictive to give savers latitude in how they’d like to spend their money. Most such policies restrict usage to buying a home, pursuing postsecondary education, and starting a small business. But the more immediate goal of saving is to avoid being plunged into financial crisis and expensive debt by everyday illness or accident. Evidence from the SaveNYC experiment (discussed in greater detail in Bob Annibale and Wade Henderson’s “Tax Policy: Spreading the Benefits More Widely,” p. 35) and other programs demonstrates the benefit of allowing low-income participants to save for emergencies.
The very least we should do is not penalize low-income people for saving. Yet virtually every safety net program does so—from Temporary Assistance for Needy Families to the Supplemental Nutrition Assistance Program (commonly known as food stamps) to disability insurance and Supplemental Security Income—reducing and often denying benefits to families who save, effectively pulling the rug out from folks for doing what they should. Fortunately, over the past two decades, states and the federal government have begun reducing and eliminating such penalties, but more action is necessary. Any new savings incentives should exempt savings accounts from affecting eligibility and benefit determination.
We live in a nation that celebrates ownership. From the first large-scale federal Individual Development Accounts demonstrations under Bill Clinton to George W. Bush’s “Ownership Society,” the appeal of ownership extends across ideological boundaries. Yet today’s upside-down subsidies waste scarce resources and do too little to encourage saving for low- and moderate-income families. Families often lack the necessary tools to build assets alone. We should help these families help themselves.
For today’s threatened middle- and working-class families, assets provide much needed economic dignity in an uncertain world. As economist Amartya Sen said in his Nobel Prize acceptance speech, “I have tried to argue in favor of judging individual advantage in terms of the respective capabilities, which the person has, to live the way he or she has reason to value.” An emphasis on capabilities is at the heart of an asset-based approach. It broadens the possibility to achieve and allows families to invest in their future welfare. It is empowering in a way that income transfers are not.
As with any story, there are caveats. An asset-based strategy should complement rather than displace income-based policies. We are not arguing for a smaller social safety net. Instead, we advance a system that both encourages lower-income families to save and provides them with essential income transfers and other support when needed. We are also not calling for universal homeownership. The past few years have made it clear that homeownership is not right for everyone, though it’s still important to lower homeownership barriers and offer incentives for capable families.
Economic opportunity and asset accumulation go hand-in-hand. Low- and moderate-income families need to rely on assets to navigate tough times and prosper as productive members of society. It is time to harness the broad and bipartisan support for these ideas to make them a reality.
This symposium was supported by the Corporation for Enterprise Development (CFED), which hosted its biennial Assets Learning Conference on September 19-21 in Washington, D.C.