Archive for Children
January 2, 2013 John R. Dundon II Capital Gain, Charitable Contribution, Children, Earned Income Tax Credit, Education Expense, Estate Tax, Paying Taxes, Payroll Tax Problems, Self Employ, Small Business, Social Security Tax, Tax Filing Status, Tax Guidance & Preparation, Tax Preparer, Tax Problems & Requests, Tax Relief, Taxable Income Our esteemed President has proven to me to be extraordinarily disingenuous with his statements about the middle class and their purported tax obligations as pretty much everyone’s taxes will go up in 2013 as a direct result of the cumulative efforts of our ‘elected officials’ over the last few days. Please don’t get me wrong as I find the man’s leadership in most regards to be much more stoic than any other President in my life time.
What I find particularly galling however is that everyone it seems from pundits to established economists speak about the need to create jobs in America as the best way to reduce the deficit. I believe as a matter of principal that the best way to create jobs from a policy or legislative perspective is to drastically reduce employment tax and to completely eliminate self employment tax as these are some of the biggest costs and risks associated with being an employer or job creator.
Either way if you would like to read the actual legislation a pdf version can be found here at the US Government Printing Office and summaries can be found here at the Library of Congress. The following are some highlights of what to expect:
Starting in 2013, there will be a new 39.6% rate placed on these thresholds:
Married Filing Jointly: $450,000 of taxable income
Qualifying Widow(er): $450,000 of taxable income
Head of Household: $425,000 of taxable income
Single: $400,000 of taxable income
Married Filing Separately: $225,000 of taxable income
Starting in 2013 the tax rates on long-term gains would be:
0% if income falls below the 25% tax bracket
15% if income falls at or above the 25% tax bracket but below the new 39.6% rate
20% if income falls in the 39.6% tax bracket
The Senate proposes the following AMT exemption amounts for 2012 indexed for inflation starting after 2012:
Married Filing Jointly: $78,750
Qualifying Widow(er): $78,750
Single: $50,600
Head of Household: $50,600
Married Filing Separately: $39,375
The proposed threshold amounts at which itemized deductions would start to be limited are:
Married Filing Jointly: $300,000 of AGI
Qualifying Widow(er): $300,000 of AGI
Head of Household: $275,000 of AGI
Single: $250,000 of AGI
Married Filing Separately: $150,000 of AGI
The Senate proposes to re-instate the personal exemption phase-out starting in 2013. Taxpayers would see their total personal exemptions reduced by two percent for each $2,500 by which adjusted gross income exceeds the threshold. The proposed threshold amounts for 2013:
Married Filing Jointly: $300,000 of AGI
Qualifying Widow(er): $300,000 of AGI
Head of Household: $275,000 of AGI
Single: $250,000 of AGI
Married Filing Separately: $150,000 of AGI
The Senate proposes that the following tax provisions be extended through the end of the year 2017:
American Opportunity Credit
Child Tax Credit at $1,000 maximum and partially refundable
Earned Income Credit for 3 or more dependents
The following provisions would be extended through 2013:
Educator expenses deduction
Exclusion for cancellation of debt on primary residences
Mass transit and parking benefits excluded from income set at maximum of $175 per month.
Mortgage insurance premium deduction
Deduction for state and local sales taxes
Charitable deduction for donating real property for conservation purposes
Tuition and fees deduction
Exclusion for charitable distributions from individual retirement accounts
A taxpayer came to me today for verification on dependent care expenses. Their basic profile may be similar to yours. A husband and wife with two children in day care. The wife is a full time student that does not work outside of the house. The husband was laid off from his former job and has been regularly seeking gainful employment throughout the duration of the tax year in question.
These good people were told by a cog in a tax preparation franchise that they did not qualify for dependent care expenses because neither had employment income. Of course I got pissed off because I’m just so sick and tired of tax practitioner ineptitude and deceit that I felt compelled to throw down this post at the end of a long day which is basically a brief overview of IRS Publication 503, Child and Dependent Care Expenses reported on IRS Form 2441.
This can be a hard topic to understand. Here’s the basic deal on dependent care – expenses paid while either working, seeking employment or attending school are qualified dependent care expenses under IRC [§21(e)(7); Reg. §1.21-1(a)(3)]. As long as the husband/wife file a joint return, the expenses paid while the wife attends school full-time for at least five months of the year and the expenses paid while the husband actively seeks employment are qualifying dependent care expenses.
A taxpayer who is a student is deemed to have earned $250 per month thus meeting the earned income requirement of §21. This is what tripped up the neophyte tax practitioner.
Regarding the Child and Dependent Care Tax Credit, according to IRS Tax Topic 602 this tax credit is “generally a percentage of the amount of work-related child and dependent care expenses you paid to a care provider. The percentage depends on your adjusted gross income. Work-related child and dependent care expenses qualifying for the credit are those paid for the care of a qualifying individual to enable you to work or actively look for work for any period when you had one or more qualifying individuals. Expenses are paid for the care of a qualifying individual if the primary function is to assure the individual’s well being and protection.”
Three points that tend to trip taxpayers up are:
1. In general. amounts paid for services outside your household qualify for the credit if the care was provided for a qualifying individual who (i) was your qualifying child under age 13 or (ii) regularly spent at least 8 hours each day in your household.
2. The expenses qualifying for the credit must be reduced by the amount of any dependent care benefits provided by your employer that you excluded from gross income.
3. The total expenses qualifying for the credit are capped at $3,000 (if you had one qualifying individual) or at $6,000 (if you had two or more qualifying individuals), and may not exceed the lesser of your and your spouses earned incomes.
A qualifying individual is:
1. Your dependent who was under age 13 when the care was provided and was your qualifying child
2. Your dependent who was physically or mentally incapable of self-care and who had the same principal place of abode as you for more than half of the year, or
3. An individual who was physically or mentally incapable of self-care, had the same principal place of abode as you for more than half of the year, and was your dependent. For this purpose, whether the individual was your dependent is determined without regard to the individual’s gross income, whether the individual filed a joint return with the individual’s spouse, or whether you or your spouse could be claimed as a dependent on someone else’s return.
If your minor child has been blessed with the opportunity to be endowed with income producing investments be wary as I have witnessed this can indeed become a curse for you on many levels. As if parenting isn’t hard enough it seems to only be complicated more so when children – particularly adolescents – are aware of and empowered by their tangible net worth.
This post is a brief review of IRS Publication 929, Tax Rules for Children and Dependents as well as an introduction to:
IRS Form 8615, Tax for Certain Children Who Have Investment Income of More Than $1,900 and instructions
IRS Form 8814, Parent’s Election to Report Child’s Interest and Dividends
Applicable for 2011 investment income includes interest, dividends, capital gains and other unearned income. Your child’s tax on investment income must be figured using your tax rate if investment income for the tax year is greater than $1,900 and meets one of three age requirements:
Was under age 18 at the end of the year,
Was age 18 at the end of the year and did not have earned income that was more than half of his or her support, or
Was a full-time student over age 18 and under age 24 at the end of the year and did not have earned income that was more than half of his or her support.
To figure your child’s tax using your tax rate fill out Form 8615, and attach it to the child’s federal income tax return. When certain conditions are met, you may be able to avoid having to file a tax return for the child by including the child’s income on the their personal tax return. In this situation file file Form 8814, Parents’ Election To Report Child’s Interest and Dividends.
Generally the five tax benefits of having children are the dependency exemption, the child tax credit, the earned income credit (EIC), the child and dependent care credit and the head of household filing status. These benefits can be split only when the parents are separated under a divorce or separation agreement and one parent is the custodial parent. You cannot split the five benefits allowed when you live together with your “qualifying child or children.”
If the children live in the same home with you either custodial parent is eligible for all the benefits for one or all of the children. If you don’t file a married/joint tax return you need to decide which parent claims which child or if one parent claims all children. This is usually where divorced or separated parents seem to run into trouble by a failure to effectively communicate who claims which child on their individual tax returns. I am of the opinion that the best way to communicate with the other parent as well as the IRS in these regards is via IRS Form 8332, Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent.
If both parents happen to claim the same child usually the person who files their tax forms first will have the return processed and the person who files second will have their tax return either recalculated without consideration for the child as a dependent or maybe even have the tax return considered for examination.
The last point of significance is that only one parent is eligible to file as head of household and that parent must claim at least one of the children to use this status.
According to IRS Publication 970 the modified version of the Hope Credit is now referred to as the American Opportunity Tax Credit (AOTC) and extended through 2012. The AOTC is available for the first four years of post-secondary education. It has been expanded so that qualified tuition and related expenses now include expenses for course books, supplies, and equipment needed for a course of study, whether or not the materials are purchased from the educational institution as a condition of enrollment or attendance. Additionally:
• The credit is equal to 100% of the first $2,000 spent and twenty-five percent of the next $2,000 per student each year. The full $2,500 credit may be available to a taxpayer who pays $4,000 or more in qualifying expenses for an eligible student.
• Forty percent of the credit is refundable, so even those who owe no tax can get up to $1,000 of the credit for each eligible student as cash back.
• You cannot claim the tuition and fees tax deduction in the same year that you claim the AOTC or the Lifetime Learning Credit. You must choose to either take the credit or the deduction, whichever is more beneficial.
The Lifetime Learning Credit helps parents and students pay for post-secondary education. The Lifetime Learning Credit is a tax credit for any person who takes college classes. It provides a tax credit of up to $2,000 on the first $10,000 of college tuition and fees. You can claim the Lifetime Learning Credit on your tax return if you, your spouse, or your dependents are enrolled at an eligible educational institution and you were responsible for paying college expenses. Unlike the Hope Credit, the person need not be enrolled at least half-time. Even if you took only one class, you may take advantage of the Lifetime Learning Credit.
There is no limit on the number of years the Lifetime Learning Credit can be claimed for each student. However, you cannot claim the AOTC and Lifetime Learning Credit for the same student in one year. The Lifetime Learning Credit in my opinion may be particularly helpful to graduate students, students who are only taking one course, and those who are not pursuing a degree.
Generally, you can claim the Lifetime Learning Credit if all three of the following requirements are met:
1. You pay qualified education expenses of higher education.
2. You pay the education expenses for an eligible student. The eligible student is yourself, your spouse, or a dependent for which you claim an exemption on your tax return.
3. If you are eligible to claim the Lifetime Learning Credit and also eligible to claim the AOTC for the same student in the same year, you can choose to claim either credit, but not both.
If you pay qualified education expenses for more than one student in the same year, you can choose to take credits on a per-student, per-year basis. This means that you can claim the AOTC for one student and the Lifetime Learning Credit for another student in the same year. Both Credits are claimed on IRS Form 8863 and answers to additional questions can be found here.
According to Internal Revenue Code Section 21, the maximum tax credit as of this posting date remains at $1,050 (35% of $3,000) for one qualifying individual and $2,100 (35% of $6,000) for two or more. This credit is for expenses paid for the care of your qualifying children under age thirteen, or for a disabled spouse or dependent, to enable you or your spouse (if Married Filing Jointly) to work or look for work.
A qualifying person is a dependent child, age twelve or younger and/or your spouse or other certain individuals who are physically or mentally incapable of self-care.
In order to qualify you (or your spouse if MFJ) must have earned income from wages, salaries, tips, other taxable employee compensation, or net earnings from self-employment.
Additionally:
1. Payments for care can not be made to a spouse or dependent.
2. You are precluded from the credit if your filing status is Married/separate.
3. The qualifying person must have lived in the home with you for more than 6 months.
4. You may use up to $3,000 of expenses paid in a year for one qualifying individual or $6,000 for two or more qualifying individuals to figure the credit.
5. Qualifying expenses must be reduced by the amount of any dependent care benefits provided by your employer that are excluded from income.
Most importantly:
If an individual is paid to come to your home and care for your dependent or spouse, you pretty much by default become a household employer liable for employment tax reporting and payment obligations. Check out IRS Publication 926.
A qualifying child for the child tax credit is someone who meets the qualifying criteria of seven tests: age, relationship, support, dependent, joint return, citizenship and residence.
1. Age test To qualify, a child must have been under age 17 – age 16 or younger – at the end of 2011.
2. Relationship test To claim a child for purposes of the Child Tax Credit, the child must be your son, daughter, stepchild, foster child, brother, sister, stepbrother, stepsister or a descendant of any of these individuals, which includes your grandchild, niece or nephew. An adopted child is always treated as your own child. An adopted child includes a child lawfully placed with you for legal adoption.
3. Support test In order to claim a child for this credit, the child must not have provided more than half of his/her own support.
4. Dependent test You must claim the child as a dependent on your federal tax return.
5. Joint return test The qualifying child can not file a joint return for the year (or files it only as a claim for refund).
6. Citizenship test To meet the citizenship test, the child must be a U.S. citizen, U.S. national or U.S. resident alien.
7. Residence test The child must have lived with you for more than half of 2011. There are some exceptions to the residence test, found in IRS Publication 972, Child Tax Credit.
The credit is limited if your modified adjusted gross income is above a certain amount. The amount at which this phase-out begins varies by filing status. For married taxpayers filing a joint return, the phase-out begins at $110,000. For married taxpayers filing a separate return, it begins at $55,000. For all other taxpayers, the phase-out begins at $75,000. In addition, the Child Tax Credit is generally limited by the amount of the income tax and any alternative minimum tax you owe.
If the amount of your Child Tax Credit is greater than the amount of income tax you owe, you may be able to claim the Additional Child Tax Credit.
Payments for the services of a child under the age of twenty-one who works for his or her parent whether or not in a trade or business, are not subject to federal unemployment taxes (FUTA). These exceptions are not the case with a corporation (C or S), even if the corporation is completely controlled by the child’s parents. Significant tax shelter is provided through the employment of children in a sole proprietorship or partnership by shifting income to persons in lower tax brackets. A child is allowed to earn the amount of the standard deduction tax-free every year ($5,700 in 2010). Above that level, the child can receive income and pay tax at the lower ten percent and fifteen percent rates.
Of course, the employment arrangement must be bona fide, and the compensation must be appropriate for the age and skill set
of the child. But as the child matures, it is reasonable that compensation would increase. For a parent who would like to put money away for a child’s education, the family business still provides a great opportunity.
Section 152(e) of the tax code specifies how to determine the dependent status of children of divorced parents. This code section states that the noncustodial parent can claim the dependency exemption for a child when the custodial parent signs a written
declaration that the custodial parent will not claim such child as a dependent for any taxable year beginning on the date of such taxable year. I always recommend doing this using IRS Form 8332.
According to Leslie Himes, et ux., v. Commissioner TC Memo 2010-97 when a custodial parent does not release the dependency exemption, the custodial parent is deemed to be the taxpayer who is entitled to claim the exemption for the child.
Children with investment income may have part or all of this income taxed at their parents’ tax rate rather than at the child’s rate. Investment income includes interest, dividends, capital gains and other unearned income. Your child’s tax must be figured using the parents’ rates if the child has investment income of more than $1,900 and meets one of three age requirements for 2010:
Was under age 18 at the end of the year,
Was age 18 at the end of the year and did not have earned income that was more than half of his or her support, or
Was a full-time student over age 18 and under age 24 at the end of the year and did not have earned income that was more than half of his or her support.
To figure the child’s tax using the parents’ rate for the child’s return, fill out Form 8615, Tax for Certain Children Who Have Investment Income of More Than $1,900, PDF 49K and attach it to the child’s federal income tax return. (Instructions for IRS Form 8615 PDF 24K). When certain conditions are met, a parent may be able to avoid having to file a tax return for the child by including the child’s income on the parent’s tax return. In this situation, the parent would file Form 8814, Parents’ Election To Report Child’s Interest and Dividends. PDF 43K. More information can be found in IRS Publication 929, Tax Rules for Children and Dependents. PDF 220K
