IV. Federal Taxation of Individuals-Tax Credits

Question 1

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

I. Order of Credits—Credits are applied against the tax liability in a predetermined order.

Answer 1

1. The order of applying credits against tax is determined by the nature of the credit:
   
   1. Personal (i.e., nonrefundable) credits are limited to gross tax, and there is no carryover of any excess.
   2. The general business credit is limited to a percentage of gross tax after personal credits, and any excess carries over (back one year and forward 20 years).
   3. Refundable credits (see list above) are applied last because these credits have no limit based upon tax (any excess, or a portion of the excess, is refunded to the taxpayer).
2. AMT—See the “Alternative Minimum Tax and Other Taxes” lesson for discussion of credits for the AMT.

Question 2

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

II. Child Credit—A $2,000 Child Credit is allowed for each qualifying child (as defined under the dependency rules) younger than age 17.

Answer 2

1. Qualifying children’s names and Social Security numbers must be included on the return.
2. The credit is phased out for married taxpayers with AGI in excess of $400,000 ($200,000 for unmarried). The credit is reduced $50 for each $1,000 (or portion) over the trigger AGI amount. These amounts are not indexed for inflation.

Example

TP is married (filing jointly) with two dependent children under the age of 17. This year TP has an AGI of $423,500. TP will be able to claim a credit of $2,800 because TP’s gross credit of $4,000 is reduced by $1,200 ($423,500 − $400,000) / 1,000 = 23.5. So there are $24 units of $50 each (24 × $50 = $1,200).

3. Beginning in 2018, the maximum amount of the credit that is refundable is increased to $1,400 per qualifying child, and this amount is indexed for inflation. The additional child tax credit is refundable to the extent of 15% of the taxpayer’s earned income in excess of $2,500.

Example

The Carlsons file married filing joint and have earned income of $16,000 and one qualifying child. The Carlsons’ $2,000 CTC is refundable up to the maximum of $1,400, because 15% of the excess of their earned income is $2,025 ($16,000 – $2,500 = $13,500 × .15). If the Carlsons have earned income of $8,000, only $825 of their $2,000 CTC is refundable (15% of $5,500, i.e., $8,000 over $2,500).

Question 3

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

III. Family Tax Credit

Answer 3

1. A $500 nonrefundable credit is allowed for dependents who are not “qualifying children” for purposes of the $2,000 child tax credit.
2. Examples of individuals who may qualify taxpayers for a $500 credit are:
   
   1. A parent who is a qualifying relative
   2. Other dependents who are qualifying relatives
   3. Children who are 17 years and older since they are not eligible to be claimed for the child tax credit
   4. Children less than age 24 who are full-time college students

Question 4

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

IV. Education Credits

Answer 4

A. AOTC:

1. 100% of 2000 + 25% of 2000
2. 160,000 ~ 180,000
3. applies per student ($2,500 per student)

B. LLC:

1. 20% of 10,000
2. 116,000 ~ 136,000
3. applies per tax return (maximum $2,000 credit per year)

Question 5

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

V. A “Saver’s Credit”—Is allowed for voluntary contributions to IRA and qualified retirement accounts.

Answer 5

1. The credit is a maximum of $1,000 (in addition to any exclusion or deduction that would otherwise apply) and is based upon IRA contributions (Roth or Traditional).
2. The taxpayer must be 18 or older, not a full-time student, nor claimed as a dependent on another return, and cannot receive a distribution from the account.
3. No credit is allowed for taxpayers with an AGI (2019) in excess of $64,000 ($48,000 for head of household and $32,000 for single taxpayers).
4. Qualifying taxpayers multiply IRA contributions by 50%, 20%, or 10% depending on the level of AGI (indexed for inflation).

Question 6

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

VI. Dependent Care Credit

Answer 6

1. The credit percentage begins at 35% if an AGI is less than $15,000, and is reduced by 1% for each $2,000 increment (or part) in an AGI above $15,000. The minimum dependent care credit is 20%.
2. Taxpayers with an AGI over $43,000 will receive the minimum dependent care credit of 20%.
3. The maximum amount of expense eligible for the credit is $3,000 ($6,000 if more than one individual qualifies for care) or, if lower, earned income (of the lesser-earning spouse if married).

Question 7

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

VII. Adoption Credit

Answer 7

1. A $14,080 (2019) adoption credit is available for children with special needs regardless of actual expenses.
2. The credit begins to be phased out for taxpayers with an AGI (2019) in excess of $211,160, and is completely phased out for taxpayers with modified adjusted gross income of $251,160.
3. The credit is limited to the regular tax liability, but any excess credit is carried forward for five years.
4. Qualified adoption expenses incurred or paid during a tax year prior to the year in which the adoption is finalized may be claimed as a credit in the tax year following the year the expense was incurred.

Question 8

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

VIII. Credit for the Elderly and the Disabled

1. Married individuals must file a joint return to claim the credit unless they have not lived together at all during the year.
2. Credit cannot be claimed if Form 1040A or 1040EZ is filed.
3. Credit is 15% of an initial amount reduced by certain amounts excluded from gross income and AGI in excess of certain levels.

Answer 8

1. Initial amount varies with filing status.
   
   1. $5,000 for single or joint return where only one spouse is 65 or older
   2. $7,500 for joint return where both spouses are 65 or older
   3. $3,750 for married filing a separate return
   4. Limited to disability income for taxpayers under age 65
2. Reduced by annuities, pensions, Social Security, or disability income that is excluded from gross income.
3. Also reduced by 50% of the excess of AGI over:
   
   1. $7,500 if single;
   2. $10,000 if joint return;
   3. $5,000 for married individual filing separate return.

Example

H, age 67, and his wife, W, age 65, file a joint return and have adjusted gross income of $12,000. H received Social Security benefits of $2,000 during the year. The computation of their credit would be as follows:

Initial amount $7,500

Less: Social Security $2,000

50% of AGI over $10,000 1,000 3,000

Balance 4,500

X 15%

Amount of credit (limited to tax liability) $675

Question 9

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

IX. Earned Income Credit (EIC)

Answer 9

1. The credit is disallowed if disqualified income, such as interest, dividends, tax exempt interest, and other investment income exceeds $3,600 (2019).
2. Taxpayers between the ages of 25 through 64 without qualifying children are also eligible if they are not claimed as a dependent on another’s return and lived in the United States for more than half the year.
3. A paid preparer must also complete Form 8867 which provides a checklist to insure that the preparer met all due diligence requirements for taking the EIC on the return. There is a $510 penalty for each failure to meet these requirements.

Question 10

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

IX. Earned Income Credit (EIC)

Which of the following disqualifies an individual from the earned income credit?

1. The taxpayer’s qualifying child is a 17-year-old grandchild.
2. The taxpayer has earned income of $5,000.
3. The taxpayer’s five-year-old child lived in the taxpayer’s home for only eight months.
4. The taxpayer has a filing status of married filing separately.

Answer 10

1. A qualifying child must be a descendant of the taxpayer under the age of 19 (i.e., the definition of a “qualifying child” for the dependency rules). Therefore, a grandchild meets the definition of a qualifying child and this response is incorrect.
2. The credit is disallowed if unearned income, such as interest, dividends, tax exempt interest and other investment income exceeds $3,600 (2019). A taxpayer must have earned income to qualify for the earned income credit, so this response is incorrect.
3. A child meets the definition of a qualifying child for purposes of the earned income credit as long as the child meets the definition of a “qualifying child” for the dependency rules. Therefore, the child needs to live in the taxpayer’s home for more than half of the year. Thus, eight months would not disqualify the taxpayer from meeting the earned income credit rules.
4. A married taxpayer must file as married filing jointly to qualify for the earned income credit.

Question 11

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

Steve and Leslie are a married filing joint couple with AGI of $350,000 in 2019. They have a daughter, Lily, who is 16 years old and lives with them. Dennis, Leslie’s father, also lives with them and has income from a part-time job of $4,000. Lily and Dennis both qualify as dependents. How much child tax credit and family tax credit may Steve and Leslie claim on their tax return?

1. $0
2. $2,000
3. $2,500
4. $4,000

Answer 11

C.

Correct! Taxpayers may claim a $2,000 child tax credit in 2019 for each qualifying child who is under age 17 at the end of the tax year and who is claimed as their dependent. Taxpayers may also claim a $500 family credit for qualifying dependents other than qualifying children. These credits begin to phase out when AGI reaches $400,000 for married filing joint and $200,000 for other filing statuses.

Question 12

IV. Federal Taxation of Individuals

4. Tax Credits
5. Personal Tax Credits

Which of the following credits can result in a refund, even if the individual had no income tax liability?

1. Credit for prior year minimum tax
2. Elderly and permanently and totally disabled credit
3. Earned income credit
4. Child and dependent care credit

Answer 12

C.

Certain tax credits can result in a refund, even if the individual had no income tax liability. Tax credits resulting in a refund are credits for earned income, tax withheld, excess Social Security tax withheld, and excise tax for certain nontaxable uses of fuels and lightweight diesel vehicles.