The Earned Income Tax Credit: the IRS's Nemesis

Article Highlights:

• EITC Fraud and Excess Claims 
• IRS Programs to Detect Fraud and Excess Claims 
• EITC Qualifications 
• Special Military Combat Pay Election 

Years ago, Congress created the earned income tax credit (EITC) as a refundable tax credit for people who work but have lower incomes. This credit has been a nemesis for the IRS to administer ever since because, on the one hand, it is the frequent target of fraud and excess credit claims and, on the other hand, 20% to 25% of those who qualify for the credit do not claim it.

A contributing factor to errors in claiming the credit or failure to take the credit when qualified is the complicated rules related to who qualifies for this credit. The rules are quite complex and best addressed by a tax professional.

The government wants those who are entitled to the credit to claim it, and so the IRS widely promotes the credit. On the flip side, the IRS has numerous programs in place to detect fraud and excessive credit claims. The IRS estimates that the dollar value of improper EITC payments for fiscal 2013 was between $13.3 and $15.6 billion.

As an example, the largest credits are paid to individuals with a child. A conflict is created when the parents are divorced or separated. Both may attempt to claim the same child in an effort to qualify for the EITC. In fiscal year 2013, the IRS sent letters to over 110,000 taxpayers alerting them to the fact that another taxpayer also claimed the same qualifying child as they had claimed for EITC purposes.

The IRS is authorized to ban taxpayers from claiming the EITC for two years if it determines during an audit that they claimed the credit improperly due to reckless or intentional disregard of the rules. Last year, there were more than 67,000 two-year bans in effect.

For those entitled to the credit, it could be worth up to $6,143 for 2014. So a taxpayer claiming the credit will pay less federal tax or get a larger refund.

If you are employed for at least part of 2014, you may be eligible for the EITC based on these general requirements:

• You earned less than $14,590 ($20,020 if married filing jointly) and did not have any qualifying children. 
• You earned less than $38,511 ($43,941 if married filing jointly) and have one qualifying child. 
• You earned less than $43,756 ($49,186 if married filing jointly) and have two qualifying children. 
• You earned less than $46,997 ($52,427 if married filing jointly) and have three or more qualifying children. 

In addition, you must meet a few basic rules: 

• You must have a valid Social Security Number, as must any child in order to qualify for the credit. 
• You must have earned income from employment or from self-employment. 
• Your filing status cannot be married, filing separately. 
• You must be a U.S. citizen or resident alien all year, or a nonresident alien married to a U.S. citizen, or a resident alien and filing a joint return. 
• You cannot be a qualifying child of another person. 
• If you do not have a qualifying child, you must:  
   o be age 25 but under 65 at the end of the year,
   o live in the United States for more than half the year, and
   o not qualify as a dependent of another person.  
• You cannot file Form 2555 or 2555-EZ (related to foreign earn income). 

Members of the military can elect to treat all or none of their nontaxable combat pay as earned income for the purposes of computing the EITC. The one providing the larger EITC benefit can be used. 

If you have questions about how the EITC might apply to you, a family member, or a friend, please call this office for additional information. Please understand that a taxpayer who might not normally be required to file a return might still benefit from filing to claim the EITC.

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