This is the first in a series of posts addressing this year’s tax return filing season to help taxpayers and practitioners understand some key issues and challenges. The IRS announced last week that it will begin accepting tax returns for processing on February 12, 2021. For taxpayers who submit their returns on or before that date, the IRS anticipates that most refunds attributable to the Earned Income Tax Credit (EITC) and Additional Child Tax Credit (ACTC) may be paid around the first week of March. Electronic filing generally reduces return processing times and expedites refund issuance, as does a taxpayer’s election to receive his or her refund by direct deposit.

To varying degrees, most taxpayers are experiencing upheavals in their daily lives as a result of the COVID-19 pandemic. These upheavals may have significant tax consequences for taxpayers claiming the EITC and ACTC. Over the last five years, nearly 27 million taxpayers claimed the EITC annually and over 19 million taxpayers claimed the ACTC, on average.

This blog post discusses four issues that are especially important this filing season:

• Temporary absences from a family’s home;
• Competing tax claims for the same child;
• The effect of reduced earned income; and
• IRS correspondence.

The impact of a temporary absence from a family’s home on claims for the EITC and the ACTC

During 2020, some taxpayers set up a temporary home to quarantine away from their families or while receiving or providing medical care. Temporary absences from home may affect claims for refundable credits. Ordinarily, under IRC § 152(c)(1)(B), a child must live with the taxpayer for more than one-half of the year to be a qualifying child for purposes of the EITC and the ACTC. However, temporary absences (of either the taxpayer or the qualifying child) may not doom an EITC claim.

In Hein v. Commissioner, for example, the taxpayer successfully argued that a temporary absence could include hospitalization, even where the likelihood the claimed individual would return home was remote (Hein v. Comm’r, 28 T.C. 826 (1957)). While that case discussed the effect of a temporary absence in the context of filing status, the principle applies equally in the EITC context. Especially important this year, the IRS recognizes that temporary absences of the taxpayer or the qualifying child due to a special circumstance (such as illness, school attendance, business, vacation, military service, or detention in a juvenile facility) count as time the child lived with the taxpayer for purposes of EITC or ACTC eligibility. (See IRS Publication 596, Earned Income Credit, for the EITC and IRS Publication 972, Child Tax Credit and Credit for Other Dependents, for the ACTC.)

The impact of living arrangements on competing EITC and ACTC claims for the same child

Living arrangements may have changed for some families due to the COVID-19 pandemic, and as a result, it’s possible that a “qualifying child” may be claimed by more than one taxpayer. This might happen if the custodial parent placed his or her child with the non-custodial parent in order to deal with a health emergency, or if a parent was forced to quarantine from his or her child while working in a hospital setting and the child was cared for by another family member for a while.

“Tie-breaker” rules apply where different family members might claim certain refundable credits for the same child. Under IRC § 152(c)(4)(A) & (C), the child is treated as the qualifying child of the taxpayer who is (i) a parent or, (ii) if no parent claims the child, the taxpayer with the highest adjusted gross income for the taxable year. If the parents claiming a qualifying child do not file a joint return, IRC § 152(c)(4)(B) provides that the child is treated as the qualifying child of (i) the parent with whom the child resided for the longest period of time during the taxable year, or (ii) if the child resided with both parents for the same amount of time during the taxable year, the parent with the higher adjusted gross income. Taxpayers who don’t qualify for the EITC with a qualifying child may be eligible to claim the EITC without children. This is a credit taxpayers should familiarize themselves with and discuss with their return preparers.

The effect of reduced income on EITC and ACTC refundable credits

Taxpayer incomes may have changed significantly as a result of the COVID-19 pandemic. COVID-19 caused many individuals to lose their jobs in 2020 and receive unemployment benefits. Although unemployment benefits are taxable, they are not considered “earned income” for purposes of computing the EITC or the ACTC. As a result, many taxpayers who received unemployment benefits ordinarily could have become ineligible for EITC and ACTC benefits or could have qualified for reduced amounts on their 2020 tax return.

Last Spring, Senators Sherrod Brown and Bill Cassidy and Representatives Brian Higgins and Mike Kelly introduced legislation to provide taxpayers with the option of using their 2019 incomes (instead of 2020 incomes) to qualify for EITC and/or ACTC benefits in 2020, so long as the 2019 income was higher. Their proposal was enacted in late 2020. As a result, taxpayers will have the option of using their 2019 incomes to qualify for EITC or ACTC benefits, if that income is higher. Note that a taxpayer must affirmatively elect to use 2019 income for ETIC or ACTC purposes. As with other facets of the EITC and the ACTC, this is an election taxpayers should familiarize themselves with and discuss with their return preparers.

As a side note, TAS recently proposed three legislative recommendations involving disaster-related EITC provisions: (i) making permanent the selection of the preceding year’s income for current-year EITC claims whenever a disaster is declared; (ii) issuing childless EITC payments automatically to eligible taxpayers, and (iii) treating unemployment compensation as qualifying earned income in computing the EITC.

IRS correspondence about refundable credits

The EITC and the ACTC provide valuable tax benefits, which for some low-income households account for 25 percent or more of their annual incomes. Yet these benefits are often hard to understand or correctly apply. The EITC and the ACTC eligibility rules are complex in the best of times, and given the unique challenges posed by COVID-19, it is more important than ever that the rules be clearly explained by the IRS and understood by taxpayers and preparers.

TAS continues to recommend that when the IRS audits the return of a taxpayer claiming these benefits, it should assign an employee with whom the taxpayer can work rather than require the taxpayer to speak with the first available agent on any telephone call or route taxpayer correspondence to the general correspondence unit. Taxpayers audited for refundable credit claims need consistency, guidance, and answers. To allow for timely resolution of audits, the IRS should provide taxpayers with the name, telephone number, and unique identifying number of an IRS employee who can serve as their direct contact throughout the correspondence audit process, along with the employee’s secure email address so the taxpayer can send and receive documents and communicate electronically with the assigned examiner.

The EITC and the ACTC can provide taxpayers with valuable benefits, but their eligibility rules are complex. If you have questions about your eligibility for the EITC or the ACTC, you may qualify for free tax preparation through the Volunteer Income Tax Assistance (VITA) program or free legal representation through a Low Income Taxpayer Clinic.