IRS Changes Position on Claiming Childless EIC; Amended Returns May be in Order

(Parker Tax Publishing February 2017)

The IRS issued proposed regulations which reflect a change in the IRS's position on the interaction of the Code Sec. 152(c)(4) tiebreaker rules, which goes into effect when two or more people can claim a child as a qualifying child for tax purposes, with the Code Sec. 32 earned income credit rules. Under the revised position, if an individual is not treated as a qualifying child of a taxpayer after applying the tiebreaker rules in Code Sec. 152(c)(4), then the individual will not prevent that taxpayer from qualifying for the childless earned income credit. REG-137604-07 (1/19/17).

Background

Under Code Sec. 32, a taxpayer may claim an earned income credit (EIC) if the taxpayer:

(1) has earned income,

(2) has adjusted gross income not in excess of certain limits,

(3) does not have more than a specified amount of investment income,

(4) is a U.S. citizen or resident for the entire year,

(5) does not file as married filing separately,

(6) has a valid social security number, and

(7) does not claim the foreign earned income exclusion or the foreign housing exclusion or deduction.

The credit is available to taxpayers with a qualifying child or qualifying children, as well as taxpayers without a qualifying child, although different sets of rules apply.

Sometimes an individual meets the tests to be a qualifying child of more than one person. However, only one of these persons can treat the child as a qualifying child for EIC and other child-related tax benefit purposes (such as the child tax credit and the credit for child and dependent care expenses). The other person(s) cannot claim any of these benefits based on the qualifying child. A tiebreaker rules in Code Sec. 152(c)(4) determine who, if anyone, can claim the EIC when an individual is a qualifying child of more than one person.

A taxpayer who does not have a qualifying child for the tax year, but who meets the general requirements to claim the EIC, can claim the "childless EIC" under Code Sec. 32(c)(1)(A) and (B) if the taxpayer (1) is age 25 through 64, or files jointly with someone who meets this age test; (2) lives in the U.S. for more than half the tax year; (3) cannot be claimed as a dependent on another taxpayer's return for the year; and (4) is not a qualifying child of another taxpayer for the year.

Proposed Regulations

Last week, the IRS issued proposed regulations dealing with the dependency exemption deduction, the EIC, and the tiebreaker rules. In the preamble to the proposed regulations, the IRS noted a problem with the tiebreaker rules in Code Sec. 152(c)(4) that determine who is eligible for the EIC where an individual is the qualifying child of more than one person. The problem, the IRS said, can be illustrated by the following example. Two sisters, Betty and Carol, live together and each of them is a low-income taxpayer. Neither has a child and each may claim the childless EIC. Later, Betty has a child and Betty's child meets the definition of a qualifying child for both Betty and Carol. However, under the tiebreaker rules of Code Sec. 152(c)(4), the child is treated as the qualifying child of Betty and Betty may claim the EIC as an eligible individual with a qualifying child.

Although there is no regulatory guidance on this issue, the IRS had taken the position in Publication 596, Earned Income Credit, that if someone meets the definition of a qualifying child for multiple individuals, including the taxpayer, but is not treated as the qualifying child of a particular individual under the tiebreaker rules, the taxpayer is precluded from claiming the childless EIC. Thus, under the current rule, Carol would not be allowed to claim the childless EIC.

The IRS said that allowing Carol to continue to claim the childless EIC after the child is born is both equitable and consistent with the purpose of Code Sec. 32 to assist working low-income taxpayers. As a result, Prop. Reg. Sec. 1.32-2(c)(3) provides that, if an individual is not treated as a qualifying child of a taxpayer after applying the tiebreaker rules of Code Sec. 152(c)(4), then the individual will not prevent that taxpayer from qualifying for the childless EIC.

Effective Date

Prop. Reg. 1.32-2(c)(3) is effective when finalized. However, taxpayers can apply the proposed regulations to any open tax years. Thus, if the proposed regulation applies to a taxpayer who had been denied the EIC as a result of the IRS's previous interpretation of the EIC tiebreaker rules, an amended return may be filed to obtain a refund. Generally, under Code Sec. 6511(a), a claim for refund must be filed within three years of the date the return was filed or two years from the date the tax was paid, whichever is later. If the taxpayer was not required to file a return for the prior year, the claim for refund must be filed within two years of the date the tax to be refunded was paid.

Caution: The White House has issued a moratorium on the implementation of regulations with effective dates after January 20. As a result, it is unclear whether these regulations may be immediately applied.

For further discussion of the rules for claiming the earned income credit, see Parker Tax ¶102,100.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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