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Are You Eligible For The Earned Income Credit?

For lower- and moderate-income families in the United States, the earned income credit (EIC) is one of the most valuable tax credits available to claim on your federal tax return. For tax year 2018, the maximum credit is as follows:

  1. $519.00 with no qualifying children.
  2. $3,461.00 with one qualifying child.
  3. $5,716.00 with two qualifying children.
  4. $6,431.00 with three or more qualifying children.

Enacted in 1975, the earned income tax credit is part of several federal government programs designed to combat poverty and provide relief to working families. It is a refundable credit, meaning that the taxpayer is entitled to the statutory value of the earned income credit even if it exceeds total tax liability. It is such a lucrative credit that many taxpayers will attempt to claim it either negligently or fraudulently. The Internal Revenue Service takes a closer look at tax returns claiming the earned income credit, which may increase the chances of an examination or audit in some circumstances. On the other hand, there are taxpayers who are eligible to claim the EIC but fail to do so because they do not realize they are qualified or fear IRS scrutiny. The Internal Revenue Service estimates that billions of dollars are left in the government coffers every year by taxpayers who do not rightfully claim the credit. It is foolish to pay more federal taxes to the government than they are entitled to.

In order to determine if you are eligible for the EIC, you must satisfy the statutory rules. The following rules apply to EVERYONE:

  • RULE #1: AGI and Earned Income Limits - Your adjusted gross income (AGI) and earned income must both be below the maximum limit. The amount of the credit is gradually phased out as you approach the boundary and eliminated once the threshold is exceeded. The following limits apply for tax year 2018:
  1. If you have NO qualifying children, your AGI and earned income limit for single, qualified widows or head of household filers is $15,270.00 ($20,950.00 if married filing jointly).
  2. If you have ONE qualifying child, your AGI and earned income limit for single, qualified widows or head of household filers is $40,320.00 ($46,010.00 if married filing jointly).
  3. If you have TWO qualifying children, your AGI and earned income limit for single, qualified widows or head of household filers is $45,802.00 ($51,492.00 if married filing jointly).
  4. If you have THREE OR MORE qualifying children, your AGI and earned income limit for single, qualified widows or head of household filers is $49,194.00 ($54,884.00 if married filing jointly).
  • RULE #2: Valid SSN - You, your spouse (if married filing jointly) and every qualifying child must have a valid Social Security Number. 26 U.S.C. §32(c)(1)(E) & (F).
  • RULE #3: No Married Filing Separate Filing Status Allowed - However, if you are legally married and your spouse did not live in your household during the last six months of the tax year, you may be able to claim head of household status. 26 U.S.C. §32(d).
  • RULE #4: Citizenship and Residency - You and your spouse (if married filing jointly) must be a U.S. citizen or a resident alien during the entire tax year. If you were a nonresident alien for any part of the tax year, then you are not eligible for the credit. 26 U.S.C. §32(c)(1)(D).
  • RULE #5: No Foreign Income Exclusion - You cannot claim the earned income credit if you file Form 2555 - Foreign Earned Income or Form 2555EZ - Foreign Earned Income Exclusion for the tax year.
  • RULE #6: Investment Income Limit - Your investment income for the tax year cannot exceed $3,500.00. 26 U.S.C. §32(i).  Investment income includes income (unless derived in the ordinary course of a trade or business) from interest, ordinary dividends, annuities, royalties and individual retirement accounts (IRAs).
  • RULE #7: Earned Income Requirement - You must have earned income during the tax year to claim the EIC. This requirement is satisfied if you (or at least one spouse if married filing jointly) has income for the tax year derived from wages, salaries, tips, self-employment income, statutory employee income, nontaxable combat pay, union strike benefits or disability benefits before retirement age. 26 U.S.C. §32(c)(2).

There are additional rules that apply IF YOU HAVE A QUALIFYING CHILD:

  • RULE #8: Qualifying Child Test - Your qualifying child is all of the following under 26 U.S.C. 152:
  1. Relationship: Your qualifying child is your son, daughter, stepchild, foster child, adopted child, sibling (half- or step-) or a descendant of any of them. 26 U.S.C. §152(c)(2).
  2. Age: Your qualifying child must be under age 19 at the end of the tax year (under age 24 if a student), must be younger than the taxpayer or spouse if filing jointly OR the qualifying child can be claimed at any age if he or she is permanently and totally disabled. 26 U.S.C. §152(c)(3).
  3. Residency: Your qualifying child must have lived with you in the United States more than half of the tax year. 26 U.S.C. §152(c)(1)(B).
  4. Joint Return: Your qualifying child cannot be filing a tax return for the tax year. 26 U.S.C. §152(c)(1)(E).
  • RULE #9: May Only Be Claimed By One Person - Only one taxpayer can claim the qualifying child (or a couple if married filing jointly) to take the EIC. In the event that several people are attempting to claim the same child for the purpose of federal taxes, the following tiebreaker rules are observed:
  1. If only one of the claimants is the child's parent, then the child is considered the qualifying child of the parent. 26 U.S.C. §152(c)(4)(A).
  2. If the parents file a joint tax return and can claim the child as their qualifying child, then the child is considered the qualifying child of the parents. 26 U.S.C. §152(c)(4)(A).
  3. If the parents do not file a joint tax return but both parents can claim the child as their qualifying child, then the child is considered the qualifying child of the parent who the child lived with for the longest period of time. If the child lived with both parents for equal time during the tax year, then the parent with the highest AGI can claim the child. 26 U.S.C. §152(c)(4)(B).
  4. If no parent can claim the child as their qualifying child, then the child is considered the qualifying child of the person with the highest AGI. 26 U.S.C. §152(c)(4)(C).
  5. If a parent can claim the child but fails to do so, then the child is considered the qualifying child of the person with the highest AGI IF that AGI is higher than either parent's AGI. 26 U.S.C. §152(c)(4)(C).
  • RULE #10: Taxpayer Cannot Be Qualifying Child Of Another - If ALL of the criteria in Rule #8 apply to you with respect to another taxpayer, then you are his or her qualifying child and you may not claim the EIC UNLESS that taxpayer declines to file a federal tax return or only files a federal tax return for the purpose of getting a refund of income tax withheld or estimated tax paid. 26 U.S.C. §32(c)(1)(B).

There are additional rules that apply IF YOU DO NOT HAVE A QUALIFYING CHILD:

  • Rule #11: Must Be At Least 25 Years Old But Under 65 Years Old - If you are filing a joint return, either you or your spouse has to meet the requirement. It doesn't matter which one as along as one spouse qualifies. 26 U.S.C. §32(c)(1)(a)(ii)(II).
  • Rule #12: Taxpayer Cannot Be Dependent Of Another - This rule applies even if the other taxpayer does not actually claim you on their federal tax return. 26 U.S.C. §32(c)(1)(a)(ii)(III).
  • Rule #13: Taxpayer Cannot Be Qualifying Child Of Another - If ALL of the criteria in Rule #8 apply to you with respect to another taxpayer, then you are his or her qualifying child and you may not claim the EIC. This rule applies even if the other taxpayer does not actually claim you on their federal tax return. 26 U.S.C. §32(c)(1)(B).
  • Rule #14: Residency in United States At Least Half Of Year - Your home (and your spouse's home, if filing jointly) must be in the United States for more than half of the year. 26 U.S.C. §32(c)(1)(a)(ii)(I).

If you have satisfied the foregoing criteria, you may claim the earned income credit.

Due to the heightened scrutiny surrounding the EIC, there are legal restrictions imposed upon taxpayers seeking to claim the credit after it was disallowed by the IRS in a previous tax year.

  • If your EIC for any tax year was denied or reduced for any reason other than a math or clerical error, then the taxpayer must attach Form 8862 to the next tax return to claim the earned income credit. You will not be required to file Form 8862 after a reduction or disallowance if you already filed Form 8862 in a later year where the EIC was allowed or your EIC was not reduced again in a later year. 26 U.S.C. §32(k)(2).
  • If your EIC was disallowed because the IRS determined that your claim was due to fraud, then you are barred from claiming the EIC for a period of ten (10) taxable years. 26 U.S.C. §32(k)(2)(B)(i).

In addition to these restrictions, a disallowed EIC claim can produce grounds for a 0.5% underpayment penalty (26 U.S.C. §6654), a 20% accuracy-related penalty (26 U.S.C. §6662) or even a 75% fraud penalty on the underpayment (26 U.S.C. §6663). A determination that the tax return was fraudulent can even lead to criminal prosecution!

Even the tax return preparer has duties under the law to ensure that the EIC rules are followed. 26 U.S.C. §6695(g)(2) states "[a]ny person who is a tax return preparer with respect to any return or claim for refund who fails to comply with due diligence requirements imposed by the Secretary by regulations with respect to determining ... eligibility for the amount of, ... the [EIC] shall pay a penalty... for each such failure." For tax year 2018, the penalty is $520.00 per failure.

Treas. Reg. Section 1.6695-2 outlines the following due diligence requirements that tax return preparers must satisfy for clients to claim the EIC:

  • Complete and submit Form 8867 - Paid Preparer's Due Diligence Checklist with the tax return.
  • Complete all the necessary worksheets showing how the credit was computed.
  • Ask the client all the necessary questions to determine eligibility for and the amount of the EITC. It is good practice to keep a record of the questions asked and the answers provided.
  • Keep a copy of all the forms, worksheets and tax documents as well as a record of how and when the information to determine EIC eligibility or amount was collected.

You can avoid guessing about EIC eligibility if you work with a tax professional or lawyer that understands the Internal Revenue Code. If you have questions about the earned income credit or any other aspect of federal tax law, do not hesitate to contact the attorneys at Kershaw, Vititoe & Jedinak PLC.

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