From the general business tax credit to the new markets credit, there are endless tax credit opportunities for your small business to save money on your taxes.
At their core, tax credits are a very particular type of benefit designed to offset the actual tax liability associated with SMBs around the country. This isn't the same thing as a tax deduction, which lowers that business's actual income. Tax credits are typically offered to incentivize everything from hiring more workers in order to stimulate the economy to making meaningful contributions to specific industries.
While certain tax credits are obvious, others are decidedly less so. This is why proper tax planning is essential as a small business owner — you need to be proactive about getting every last penny that is owed to you. There are a number of essential small business tax credits in particular that you'll definitely want to take advantage of when tax season rolls around.
The General Business Tax Credit
As the name suggests, this is something of a "kitchen sink" tax credit made up of a number of smaller, individual credits. Collectively, they are designed to act as a way to motivate savvy business owners such as yourself to participate in certain activities. If you purchased a qualified electric vehicle for your business, branched out into a new market, or retained a certain number of employees, you may very well be qualified.
Paid Family and Medical Leave
This particular tax credit is relatively new, having only just been authorized in 2017. Again, it's intended to act as motivation — this time, so that small business owners will provide paid leave to all employees who themselves are covered by the Family and Medical Leave Act. Employees that qualify are entitled to up to 12 weeks of totally unpaid, job-projected leave — all while still retaining access to their group health benefits as well. Note that this is something that happens every year.
The credit itself is equal to a percentage of the wages that an employer pays to those qualified employees while they're on leave for things like unexpected medical emergencies or even giving birth.
Credits for Qualified Research Expenses
Depending on the specific type of small business you're running, you may have to engage in a significant amount of research and development in order to better serve your own customers. The United States government would like to encourage you to do as much of that as possible, which is how the qualified research expenses credit (otherwise known as the "Increasing Research Activities Credit") came into being.
In order to qualify for this credit, you need to engage in domestic research and development for the purposes of things like certification testing, environmental testing, developing or applying for patents, prototype and model development, and more. Research associated with the development of new or even improved products, processes, and formulas would also qualify.
This credit can cover up to 20% of all of your related expenses that fall under this umbrella.
The New Markets Credit
Last but not least, we have the New Markets Credit — one designed to encourage investment in Community Development Enterprises and Community Development Financial Institutions, otherwise known as CDEs and CDFIs, respectively. These are the types of organizations that assist lower income communities around the country and, obviously, they need all the help they can get.
The vast majority of all qualified projects involve either purchasing, renovating or constructing real estate in areas that have a 20% poverty rate or with median family incomes that don't exceed 80% of that of the larger area. This means building or renovating hospitals, for example, or industrial buildings that go on to create jobs.
Note that while all of these small business tax credits are critical, they represent just a small fraction of those that may be available to you. For the complete list, be sure to review the IRS' official website devoted to that very topic. As always, you should also enlist the help of a qualified tax professional to prepare your business taxes as well. Not only can we help ensure you're taking full advantage of these and other critical credits, but we can also help you avoid the types of costly mistakes that small business owners and the self-employed often make when they attempt to do everything themselves. Contact our office for more information today.
Taxation news blog
Showing posts with label tax credit. Show all posts
Showing posts with label tax credit. Show all posts
Friday, January 31, 2020
Wednesday, January 29, 2020
Is It Better to Have a Tax Credit or a Deduction?
People often say that an expense is “a tax write-off”; most everyone interprets this to mean that the expense will have a tax benefit. Generally, such a benefit takes the form of either a deduction or a credit; these benefits’ effects are quite different, however, and each type has various categories. As a result, the tax implications may not be as expected. This is especially true when the write-off claim comes from a salesperson who is touting the tax benefits of a product or service, as such individuals often leave out key details. In general, a deduction reduces taxable income, whereas a credit reduces the tax itself.
Article Highlights:
Tax Deductions – In one way or another, tax deductions reduce the taxable portion of an individual’s income, which thus reduces the tax on that income.
Itemized Deductions – When taxpayers think of deductions, they typically think of the itemized deductions that are claimed on Schedule A. This is the only way to deduct personal expenses such as medical costs, state and local tax payments, investment and home-mortgage interest, charitable contributions, disaster-casualty losses, and various rarely encountered expenses. In some cases, itemized deductions are limited. For instance, medical expenses are only deductible to the extent they exceed 10% of the taxpayer’s adjusted gross income (AGI). Similarly, state and local tax payments (including those for income, sales, and property taxes) are capped at $10,000. On top of that, itemization only reduces taxable income to the extent that the total of the itemized deductions exceeds the standard deduction. When the sum does not exceed the standard deduction, the itemized deductible expenses provide no tax benefits at all.
Above-the-Line Deductions – Certain deductions actually reduce income. These are commonly called above-the-line deductions because, when applied, they reduce the income figure that is used to calculate AGI. Thus, their benefits apply regardless of whether the taxpayer uses itemized deductions. Above-the-line deductions include educators’ expenses; contributions to health savings accounts, traditional IRAs, and certain qualified retirement plans; deductible alimony payments; and student-loan interest. Most of these deductions have annual maximums.
Business Deductions – Taxpayers who operate noncorporate businesses can deduct from their business income any expenses that they incur when operating their businesses. These deductions (which cover advertising fees, employee wages, office-supply costs, etc.) are used to reduce profits, which in turn reduces taxable income and, ultimately, income tax. In addition, most self-employed taxpayers pay Social Security and Medicare taxes on their net business income, so any reduction in their business profits also reduces their Medicare taxes and possibly their Social Security taxes.
Asset-Sale Deductions – An individual who sells an asset is allowed to deduct that asset’s cost from the sale price to determine the taxable profit. Good recordkeeping is helpful here because the original expense may have been incurred years prior, even though it is only deductible when the asset is sold. For example, any improvements that an individual makes to a home over years of ownership are not deductible until the home is sold. At that point, the individual can reduce the taxable gain from the sale by counting the improvements as part of the home’s cost.
Tax Credits – Tax credits come in several varieties, and the amount of benefit can vary:
If you have questions related to how you might benefit from tax credits or deductions, please call this office or visit our website.
Article Highlights:
- Itemized Deductions
- Above-the-Line Deductions
- Business Deductions
- Asset-Sale Deductions
- Refundable Credits
- Nonrefundable Credits
- Carryover Credits
- Business Tax Credits
Tax Deductions – In one way or another, tax deductions reduce the taxable portion of an individual’s income, which thus reduces the tax on that income.
Itemized Deductions – When taxpayers think of deductions, they typically think of the itemized deductions that are claimed on Schedule A. This is the only way to deduct personal expenses such as medical costs, state and local tax payments, investment and home-mortgage interest, charitable contributions, disaster-casualty losses, and various rarely encountered expenses. In some cases, itemized deductions are limited. For instance, medical expenses are only deductible to the extent they exceed 10% of the taxpayer’s adjusted gross income (AGI). Similarly, state and local tax payments (including those for income, sales, and property taxes) are capped at $10,000. On top of that, itemization only reduces taxable income to the extent that the total of the itemized deductions exceeds the standard deduction. When the sum does not exceed the standard deduction, the itemized deductible expenses provide no tax benefits at all.
Above-the-Line Deductions – Certain deductions actually reduce income. These are commonly called above-the-line deductions because, when applied, they reduce the income figure that is used to calculate AGI. Thus, their benefits apply regardless of whether the taxpayer uses itemized deductions. Above-the-line deductions include educators’ expenses; contributions to health savings accounts, traditional IRAs, and certain qualified retirement plans; deductible alimony payments; and student-loan interest. Most of these deductions have annual maximums.
Business Deductions – Taxpayers who operate noncorporate businesses can deduct from their business income any expenses that they incur when operating their businesses. These deductions (which cover advertising fees, employee wages, office-supply costs, etc.) are used to reduce profits, which in turn reduces taxable income and, ultimately, income tax. In addition, most self-employed taxpayers pay Social Security and Medicare taxes on their net business income, so any reduction in their business profits also reduces their Medicare taxes and possibly their Social Security taxes.
Asset-Sale Deductions – An individual who sells an asset is allowed to deduct that asset’s cost from the sale price to determine the taxable profit. Good recordkeeping is helpful here because the original expense may have been incurred years prior, even though it is only deductible when the asset is sold. For example, any improvements that an individual makes to a home over years of ownership are not deductible until the home is sold. At that point, the individual can reduce the taxable gain from the sale by counting the improvements as part of the home’s cost.
Tax Credits – Tax credits come in several varieties, and the amount of benefit can vary:
Refundable Credits – A refundable credit offsets current tax liability; it is so called because any amount of unused credit is refunded to the taxpayer. Refundable credits include the Earned Income Tax Credit, the Additional Child Tax Credit, and the Premium Tax Credit (net of any advances received), as well as the American Opportunity Tax Credit (an education credit that is 40% refundable). As a matter of general interest, these credits are subject to significant filing fraud because of their refundability. The IRS also considers prepayments such as income-tax withholding and estimated tax payments to be refundable credits.
Nonrefundable Credits – A nonrefundable credit only offsets tax liability; any unused amount is lost (unless it can be carried over to another year; see below). Over time, Congress has become more generous with credits; most credits that are not refundable now carry over for a given period. Nonrefundable credits include the Saver’s Credit, the Lifetime Learning Credit, and the personal portion of the Electric Vehicle Credit.
Carryover Credits – For some nonrefundable credits, any unused current-year credit can be carried over to the next tax year (or for a longer period) until the carryover amount is used up. These credits include the Adoption Credit (which can carry over for up to five years) and the Home-Solar Credit (which carries over through at least 2021; tax law is unclear on whether it will expire then).
Business-Tax Credits – Numerous business-tax credits are available; however, they are grouped into the General Business-Tax Credit, which is nonrefundable but which carries forward for twenty years and back for one year. (This allows a business owner to amend the prior year’s return so as to claim the credit.) This category includes the business portion of the Electric Vehicle Credit.
Nonrefundable Credits – A nonrefundable credit only offsets tax liability; any unused amount is lost (unless it can be carried over to another year; see below). Over time, Congress has become more generous with credits; most credits that are not refundable now carry over for a given period. Nonrefundable credits include the Saver’s Credit, the Lifetime Learning Credit, and the personal portion of the Electric Vehicle Credit.
Carryover Credits – For some nonrefundable credits, any unused current-year credit can be carried over to the next tax year (or for a longer period) until the carryover amount is used up. These credits include the Adoption Credit (which can carry over for up to five years) and the Home-Solar Credit (which carries over through at least 2021; tax law is unclear on whether it will expire then).
Business-Tax Credits – Numerous business-tax credits are available; however, they are grouped into the General Business-Tax Credit, which is nonrefundable but which carries forward for twenty years and back for one year. (This allows a business owner to amend the prior year’s return so as to claim the credit.) This category includes the business portion of the Electric Vehicle Credit.
If you have questions related to how you might benefit from tax credits or deductions, please call this office or visit our website.
Friday, January 24, 2020
Who Claims the Children You or Your Ex-Spouse?
If you are a divorced or separated parent with children, a commonly encountered but often misunderstood issue is who claims the child or children for tax purposes. This is sometimes a hotly disputed issue between parents; however, tax law includes some very specific but complicated rules about who profits from the child-related tax benefits. At issue are a number of benefits, including the children’s dependency, child tax credit, child care credit, higher-education tuition credit, earned income tax credit, and, in some cases, even filing status.
Article Highlights:
This is actually one of the most complicated areas of tax law, and inexperienced tax preparers or taxpayers preparing their own returns can make serious mistakes, especially if the parents are not communicating well. If parents will cooperate with each other, they often can work out the best tax result overall, even though it may not be the best for them individually, and compensate for it in other ways.
Physical Custody (Custodial Parent) – If a family court awards physical custody of a child to one parent, tax law is very specific in awarding that child’s dependency to the parent with physical custody, regardless of the amount of child support provided by the other parent. However, the custodial parent may release that dependency to the non-custodial parent for tax purposes by completing the appropriate IRS form. The release can be granted on a yearly basis or for multiple years at one time. But once made, it is binding for the specified period.
Joint Custody – On the other hand, if the family court awards joint physical custody, only one of the parents may claim the child as a dependent for tax purposes. If the parents cannot agree between themselves as to who will claim the child and the child is actually claimed by both, the IRS tiebreaker rules will apply. Per the tiebreaker rules, the child is treated as a dependent of the parent with whom the child resided for the greater number of nights during the tax year; or if the child resides with both parents for the same amount of time during the tax year, the parent with the higher adjusted gross income will claim the child as a dependent. Parents in the process of divorcing should be aware that for tax purposes, the IRS’s rules as to who can claim a child’s dependency takes precedence over what a divorce decree says or what a judge may have ruled. So, for example, if the family court awards full custody of a child to Parent A but says that Parent B can claim the child as a tax dependent, the IRS’s position is that the child is a tax dependent of Parent A unless Parent A releases the dependency to Parent B, as explained above.
Child’s Exemption Allowance –While there is no longer (through 2025) a monetary tax deduction (also referred to as an exemption allowance) for a dependent child, it still matters who claims the child as a dependent because certain tax credits are only available to the taxpayer claiming the child as a dependent.
Head of Household Filing Status – An unmarried parent can claim the more favorable head of household, rather than single, filing status if he or she is the custodial parent and pays more than half of the costs of maintaining, as his or her home, a household that is the child’s principal place of abode for more than half the year. This is true even when the child’s dependency is released to the non-custodial parent.
Tuition Credit – If the child qualifies for either the American Opportunity or the Lifetime Learning higher-education tax credit, the credit goes to whoever claims the child as a dependent. Credits are significant tax benefits because they reduce the tax amount dollar-for-dollar, while deductions reduce income to arrive at taxable income, which is then taxed according to the individual’s tax bracket. For instance, the American Opportunity Tax Credit (AOTC) provides a tax credit of up to $2,500, of which 40% is refundable. However, both education credits phase out for higher-income taxpayers. For instance, the AOTC phases out between $80,000 and $90,000 for unmarried taxpayers and $160,000 and $180,000 for married taxpayers.
Child Care Credit – A nonrefundable tax credit is available to the custodial parent for child care while the parent is gainfully employed or seeking employment. To qualify for this credit, the child must be under the age of 13 and be a dependent of the parent. However, a special rule for divorced or separated parents provides that if the custodial parent releases the child’s exemption to the non-custodial parent, the custodial parent can still qualify to claim the child care credit, and it cannot be claimed by the noncustodial parent.
Child Tax Credit – A $2,000 credit is allowed for a child under the age of 17. That credit goes to the parent claiming the child as a dependent. However, this credit phases out for higher-income parents, beginning at $200,000 for unmarried parents and $400,000 for married parents filing jointly.
Earned Income Tax Credit (EITC) – Lower-income parents with earned income (wages or self-employment income) may qualify for the EITC. This credit is based on the number of children (under age 19 or a full-time student under age 24) the custodial parent has, up to a maximum of three children. Releasing the dependency of a child or of children to the noncustodial parent will not disqualify the custodial parent from using the children to qualify for the EITC. In fact, the noncustodial parent is prohibited from claiming the EITC based on the child or children whose dependency has been released by the custodial parent.
As you can see, some complex rules apply to the tax benefits provided by the children of divorced parents. It is highly recommended that you consult this office to prepare your return. If you are the custodial parent, you should also consult with this office before deciding whether to release a child as a tax dependent.
Article Highlights:
- Custodial Parent
- Dependency Release
- Joint Custody
- Tiebreaker Rules
- Child’s Exemption
- Head of Household Filing Status
- Tuition Credit
- Child Care Credit
- Child Tax Credit
- Earned Income Tax Credit
This is actually one of the most complicated areas of tax law, and inexperienced tax preparers or taxpayers preparing their own returns can make serious mistakes, especially if the parents are not communicating well. If parents will cooperate with each other, they often can work out the best tax result overall, even though it may not be the best for them individually, and compensate for it in other ways.
Physical Custody (Custodial Parent) – If a family court awards physical custody of a child to one parent, tax law is very specific in awarding that child’s dependency to the parent with physical custody, regardless of the amount of child support provided by the other parent. However, the custodial parent may release that dependency to the non-custodial parent for tax purposes by completing the appropriate IRS form. The release can be granted on a yearly basis or for multiple years at one time. But once made, it is binding for the specified period.
CAUTION – The decision to relinquish dependency should not be taken lightly, as it impacts a number of tax benefits.
Joint Custody – On the other hand, if the family court awards joint physical custody, only one of the parents may claim the child as a dependent for tax purposes. If the parents cannot agree between themselves as to who will claim the child and the child is actually claimed by both, the IRS tiebreaker rules will apply. Per the tiebreaker rules, the child is treated as a dependent of the parent with whom the child resided for the greater number of nights during the tax year; or if the child resides with both parents for the same amount of time during the tax year, the parent with the higher adjusted gross income will claim the child as a dependent. Parents in the process of divorcing should be aware that for tax purposes, the IRS’s rules as to who can claim a child’s dependency takes precedence over what a divorce decree says or what a judge may have ruled. So, for example, if the family court awards full custody of a child to Parent A but says that Parent B can claim the child as a tax dependent, the IRS’s position is that the child is a tax dependent of Parent A unless Parent A releases the dependency to Parent B, as explained above.
Child’s Exemption Allowance –While there is no longer (through 2025) a monetary tax deduction (also referred to as an exemption allowance) for a dependent child, it still matters who claims the child as a dependent because certain tax credits are only available to the taxpayer claiming the child as a dependent.
Head of Household Filing Status – An unmarried parent can claim the more favorable head of household, rather than single, filing status if he or she is the custodial parent and pays more than half of the costs of maintaining, as his or her home, a household that is the child’s principal place of abode for more than half the year. This is true even when the child’s dependency is released to the non-custodial parent.
Tuition Credit – If the child qualifies for either the American Opportunity or the Lifetime Learning higher-education tax credit, the credit goes to whoever claims the child as a dependent. Credits are significant tax benefits because they reduce the tax amount dollar-for-dollar, while deductions reduce income to arrive at taxable income, which is then taxed according to the individual’s tax bracket. For instance, the American Opportunity Tax Credit (AOTC) provides a tax credit of up to $2,500, of which 40% is refundable. However, both education credits phase out for higher-income taxpayers. For instance, the AOTC phases out between $80,000 and $90,000 for unmarried taxpayers and $160,000 and $180,000 for married taxpayers.
Child Care Credit – A nonrefundable tax credit is available to the custodial parent for child care while the parent is gainfully employed or seeking employment. To qualify for this credit, the child must be under the age of 13 and be a dependent of the parent. However, a special rule for divorced or separated parents provides that if the custodial parent releases the child’s exemption to the non-custodial parent, the custodial parent can still qualify to claim the child care credit, and it cannot be claimed by the noncustodial parent.
Child Tax Credit – A $2,000 credit is allowed for a child under the age of 17. That credit goes to the parent claiming the child as a dependent. However, this credit phases out for higher-income parents, beginning at $200,000 for unmarried parents and $400,000 for married parents filing jointly.
Earned Income Tax Credit (EITC) – Lower-income parents with earned income (wages or self-employment income) may qualify for the EITC. This credit is based on the number of children (under age 19 or a full-time student under age 24) the custodial parent has, up to a maximum of three children. Releasing the dependency of a child or of children to the noncustodial parent will not disqualify the custodial parent from using the children to qualify for the EITC. In fact, the noncustodial parent is prohibited from claiming the EITC based on the child or children whose dependency has been released by the custodial parent.
As you can see, some complex rules apply to the tax benefits provided by the children of divorced parents. It is highly recommended that you consult this office to prepare your return. If you are the custodial parent, you should also consult with this office before deciding whether to release a child as a tax dependent.
Tuesday, January 21, 2020
Earned Income Tax Credit: Used, Abused and Altered
Article Highlights:
- Purpose of the Earned Income Tax Credit
- Qualifications
- Earned Income
- Qualified Child
- Credit Phaseout
- Computing the Credit
- Investment Income Limit
- Combat Pay Election
- Fraud
- Safeguards
The EITC is a refundable credit, meaning if any unused credit remains after offsetting all of a taxpayer’s tax liability, that remainder is refunded to the taxpayer. This refundable feature has made the EITC a giant target for fraud, which is discussed later in this article. In addition to the other requirements discussed below, the EITC is not allowed to married couples filing separately, nor can the taxpayer claiming the credit be a dependent of another taxpayer. In addition, the taxpayer must have been a U.S. citizen or resident alien all year and have a Social Security Number (SSN). Any children used to qualify the taxpayer for the credit are also required to have an SSN. Furthermore, because this credit is meant for lower-income individuals, if a taxpayer is working overseas and is able to exclude foreign earned income, he or she is barred from claiming the EITC. Taxable Earned Income – As previously mentioned, the EITC is based, in part, on the amount of a taxpayer’s (or in the case of a married couple, both a filer’s and a spouse’s) taxable earned income. For example, taxable earned income includes:
- Wages, salaries, and tips;
- Union strike benefits;
- Long-term disability benefits prior to minimum retirement age; and
- Earnings from self-employment.
Qualified Children – The EITC is also based upon the number of the taxpayer’s qualified children who lived with the taxpayer in the United States for more than half of the year for which the credit is being claimed. Generally, for EITC purposes, a qualified child must be younger than the taxpayer and be under the age of 19 or a full-time student under the age of 24 who had the same principal place of abode as the taxpayer for more than half of the tax year and is not married and filing a joint return (exceptions may apply).
For the EITC, “child” is defined as the taxpayers:
- Son, daughter, adopted child, stepchild, eligible foster child, or a descendant of any of them (for example, a grandchild); or brother, sister, half-brother, half-sister, stepbrother, stepsister, or a descendant of any of them (for example, a niece or nephew).
Exceptions to the residency requirement include temporary absences from the home, such as for school, vacations, illness, and military service.
Computing the Credit and Phaseout – The amount of the EITC increases as the earned income increases until it reaches the maximum credit amount, and then it phases out as the taxpayer’s modified adjusted gross income (MAGI) increases above the phaseout threshold. The following table illustrates how the credit is determined and the maximum amount of the credit for 2019.
| Number of Qualifying Children | Credit Percentage | Earned Income | Maximum Credit |
| None | 7.65 | $6,920 | $529 |
| One | 34.00 | $10,370 | $3,526 |
| Two | 40.00 | $14,570 | $5,828 |
| Three or more | 45.00 | $14,570 | $6,557 |
If a taxpayer has no qualifying children, the taxpayer must be age 25 or older but under the age of 65 before the end of the year. This is to prevent children and retired individuals from claiming the credit. As can be seen from the table above, the credit for a taxpayer who doesn’t have a qualifying child is significantly less than for someone with one or more children.
Example #1: Ted and Jane have two qualifying children, and their only income is Ted’s wages (earned income) of $31,738. From the table above, based on two children, we determine their EITC before the phase-out as being the lesser of $12,695 (40% of $31,738) or $5,828 (the maximum for taxpayers with two qualifying children). Thus, in this case, the EITC before phaseout is $5,828.
Phaseout – The tax law limits the EITC to lower-income taxpayers by phasing out (reducing) the credit as a taxpayer’s MAGI increases above a threshold, with the credit fully phased out when the MAGI reaches the complete phaseout amount shown in the table below.
| Number of Qualifying Children | Phaseout Percentage | Phaseout Threshold | Complete Phaseout |
| None | 7.65 | Joint Filers: $14,450 Others: $8,650 | $21,370 $15,570 |
| One | 15.98 | Joint Filers: $24,820 Others: $19,030 | $46,884 $41,094 |
| Two | 21.06 | Joint Filers: $24,820 Others: $19,030 | $52,493 $46,703 |
| Three or more | 21.06 | JointFilers:$24,820 Others: $19,030 | $55,952 $50,162 |
Example #2: Using Ted and Jane from example #1, who have two qualifying children, we had determined that their EITC before phaseout was $5,828. The next step is to determine their credit after phaseout. We do that using the chart above, and for a married couple with two qualified children, the phaseout threshold begins at $24,820 and the phaseout percentage is 21.06%. Ted and Jane’s only income was Ted’s wages, so their MAGI is also $31,738. Their MAGI exceeds the phaseout threshold by $6,918 ($31,738 – $24,820). Multiplying that amount by the 21.06 phaseout percentage equals $1,457, which is the amount of the EITC that will be phased out. Thus, Ted and Jane’s EITC for 2019 will be $4,371 ($5,828 − $1,457).
Each year, the IRS develops credit look-up tables that take into account the taxpayer’s filing status, the number of qualifying children, earned income, MAGI, and phaseout, so that the math we did in the above example is not needed.
Investment Income Limit – Congress further limited the credit so that taxpayers with substantial financial assets will not qualify for the credit. A taxpayer’s income from investments is used as a gauge for financial assets, and for 2019, taxpayers with investment income of $3,600 or more are disqualified from the credit.
Special Election for Combat Pay – Military members can elect to include their nontaxable combat pay as earned income for the credit. If that election is made, then the military member must include in his or her earned income all nontaxable combat pay received. If spouses are filing a joint return and both spouses received nontaxable combat pay, then each one can make a separate election.
Fraud – As mentioned earlier, the EITC is also a target of major fraud by unscrupulous tax preparers and ID thieves. In fact, the fraud has been so prevalent that the IRS has developed procedures, and Congress has passed tax laws, to combat the abuse.
One of the major areas of fraud was scammers filing returns with stolen IDs and phony income as soon as the IRS began accepting e-filed returns around the end of January. Filing early prevented the IRS from verifying the reported income because employers were not required to file W-2s and 1099s until the end of February. That also minimized the chances that the individuals whose IDs the fraudsters were using would file before them and cause the IRS to reject the return. In fact, many scammers would file married joint returns using the names and SSNs of two unrelated individuals, taking advantage of the IRS’s privacy policies; thus, if one of the victims contacted the IRS, the IRS would be unable to communicate with the individual because the victim would not know the name or SSN of the other filer on the bogus joint tax return. Of course, the income reported on the fraudulent returns was an amount meant to maximize the EITC and minimize the phaseout. The scammers also took advantage of the automatic refund deposit feature and had the refunds deposited into bank accounts that they opened in the names of the individuals whose IDs they were using on the fraudulent returns. Once the refunds were deposited into the accounts, the accounts were quickly cleaned out, leaving absolutely no trace of the scammers who were rarely caught. However, in a notable case in Florida, the scammer got away with millions of dollars in bogus credits and would not have ever been caught had she not bragged about her exploits online.
The IRS has since altered its return-processing procedures and plugged that hole, by not issuing refunds that include the EITC until after mid-February. The filing due dates for W-2s and 1099s have been moved up to January 31, giving the IRS adequate time to verify the earned income before issuing the refunds.
The IRS has also established the Identity Protection Specialized Unit to assist taxpayers who have been victims of ID theft. These taxpayers can file their returns by using an Identity Protection PIN provided annually by the IRS. Taxpayers who are or suspect they are victims of ID theft can call the IRS at 877-438-4338 for assistance.
Safeguards – Congress has also included consequences for taxpayers who have been found to abuse the EITC rules and has included mandatory taxpayer identification procedures for tax preparers.
- Taxpayers – For taxpayers who recklessly or intentionally disregard the EITC rules, the IRS can make them ineligible for the credit in the two subsequent years, and if fraud is involved, the suspension period can be for ten years.
- Tax Preparers – Tax preparers are required to follow mandated EITC due diligence procedures that require them to complete an EITC due diligence check sheet and verify the identity of anyone claiming the EITC before a return can be filed. Failure to adhere to these safeguards can result in a $530 tax-preparer penalty for each failure to comply with the due diligence requirements.
Many taxpayers who legitimately qualify for this credit are failing to claim it because they don’t fully understand the credit. For instance, the IRS estimates that 1.5 million taxpayers don’t realize that taxable long-term retirement benefits received before reaching minimum retirement age qualify as earned income, making them eligible for the EITC. The IRS also estimates that between 20 and 25 percent of the individuals who qualify for the EITC don’t claim it.
If you have questions about your qualifications for this credit or need help amending or filing a prior year’s return to claim the credit, please give this office a call or visit our website.
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