The Earned Income Tax Credit (EITC): What It Is and How to Qualify

A friend asked me recently if the tiny signs he sees by the side of road this time of year promising a $12,000 refund are too good to be true.

The short answer: Yes and no.

Yes, if you earn $70,000 a year.

No, if you are a low-income earner and have children that qualify you for the Earned Income Tax Credit (EITC).

Ah, if only it were that simple.

But like just about everything in the tax code there are many requirements and exceptions for claiming the Earned Income Credit. Here’s what you need to know about this popular tax credit.

Earned Income Tax Credit Overview

What Is the Earned Income Tax Credit?

The Earned Income Tax Credit is a refundable tax credit for taxpayers with low- to-moderate incomes.

It reduces the amount of tax owed by a taxpayer dollar for dollar and can provide an additional refund even if you don’t have taxable income.

The credit can be as high as $6,557 for tax year 2019 and as high as $6,660 for tax year 2020, depending on household size, income and other factors.

Why Did Congress Create the Earned Income Tax Credit?

The Earned Income Tax Credit was enacted in 1975 during the Ford Administration as a way to get low-income people off welfare and reward them for working and earning wages.

The law has been changed numerous times over the years but has remained mostly in its current form since the Tax Reform Act of 1986.

While the Tax Cuts and Jobs Act of 2017 did not change how the credit is applied to tax returns, it did aim to cut down on fraud and abuse.

How to Claim the Earned Income Tax Credit

The process to claim the Earned Income Tax Credit is fairly simple if you have a competent tax professional or good tax preparation software.

As long as your income falls within the qualifying guidelines, it’s just a matter of claiming your children and answering some important questions in your software. There are numerous other qualifiers that must be met, which are addressed below.

How to Qualify for the Earned Income Credit

Income Requirements

• Earned Income Requirement: The taxpayer must have earned income during the tax year, defined primarily as wages, self-employment income, union strike compensation, jury duty pay, long-term disability pay, clergy housing benefits, nontaxable combat pay, and disability retirement benefits claimed before reaching the minimum retirement age.
• Investment Income Requirement: The taxpayer’s investment income may not exceed $3,600 (2019) or $3,650 (2020).
• Foreign Income Requirement: A taxpayer may not claim the credit if he or she is claiming the Foreign Earned Income Exclusion (Form 2555).

Residency Requirements

• Taxpayer Residency Requirement: The taxpayer must be a U.S. resident or a resident alien for the entire tax year and live in the U.S. for more than half of the year.
• Social Security Number Requirement: The taxpayer must have a Social Security number that is valid for employment.
• Taxpayer Age Requirement: There is no age requirement for taxpayers with children claiming the credit. Single filers might also be eligible to claim the Earned Income Tax Credit, but he or she must be at least 25 years old or under 65 years of age at the end of the year.
• Filing Status Requirement: Single, head of household, qualifying widow or widower, and married filing jointly statuses can claim the Earned Income Tax Credit.  The credit is not allowed for married filing separate taxpayers.  The taxpayer may not be the qualifying child of another taxpayer.

Dependent Requirements

Note that you can claim the Earned Income Tax Credit without dependents.  However, if you are claiming dependents for purposes of the Earned Income Tax Credit in order to increase your income limitation and maximum credit, they must meet the requirements below.

• Dependent Age Requirement: The dependent must qualify as a child, which means he or she must be younger than 19, or be a full-time student and under age 24 as of Dec. 31 of the tax year. Adopted children qualify.
• Dependent Residency Requirement: In order for a taxpayer to claim a child for Earned Income Tax Credit purposes, the child must have lived with the taxpayer for more than half of the year. The child must have a valid Social Security number.
• Dependent Social Security Number Requirement: Any claimed dependents must have a Social Security number that is valid for employment.
• Dependent Qualifying Child Requirement: Any claimed dependents may not be the qualifying child of another taxpayer.

How Much Is the Earned Income Tax Credit?

2019 Earned Income Tax Credit

2020 Earned Income Tax Credit

Impact of the Earned Income Tax Credit

Since its inception in the 1970s, there has been much debate about the benefits of the Earned Income Tax Credit. And while the Earned Income Tax Credit generally has had bipartisan support in Congress, it is not without its critics.

Arguments in Favor of the Earned Income Tax Credit

Earned Income Tax Credit supporters argue that the credit reduces poverty by supplementing the earnings of low-wage employees and by encouraging people to work.

Indeed, a 2018 study by the nonpartisan Center on Budget and Policy Priorities found that the Earned Income Tax Credit lifted about 5.6 million people out of poverty, including roughly 3 million children.

In 2015 the Earned Income Tax Credit provided an estimated $69 billion in benefits to 28 million Americans according to the Tax Policy Center.

Arguments Against the Earned Income Tax Credit

The main criticism of the Earned Income Tax Credit is that because the credit is based on an income bell-curve (maximizing between $14,500 and $24,800 for most taxpayers) it discourages recipients from earning more than these amounts during the year.

Many also consider the credit rife with fraud.

Abuse and the Earned Income Tax Credit

The Earned Income Credit is one of the most abused parts the U.S. tax code.

The most common abuse is creating a phantom small business and filing a Schedule C to hit the credit’s bell-curve sweet spot by either increasing or reducing income.

In some instances, taxpayers actually create dependents on their tax returns in order to maximize the credit.

The IRS has tried to crack down on abuse in recent years by requiring anyone claiming the credit to fill out more information on their tax returns as well as by holding refunds until at least February 15 so that the returns can be examined more thoroughly.

A taxpayer can be disallowed the credit for up to ten years if they are found to be abusing the Earned Income Tax Credit.

States with an Earned Income Tax Credit

Twenty-eight states plus the District of Columbia and New York City have some form of Earned Income Credit, generally allowing taxpayers to claim a percentage of the amount taken on their federal return.

Check with your state taxing authority for details.

Frequently Asked Questions

• Can I take the Earned Income Tax Credit even if I don’t have children?

  Yes, as long as you meet the age, residency and income requirements.

• Can I take both the Earned Income Tax Credit and the Child Tax Credit?

  Yes, you can claim both the Earned Income Tax Credit and the Child Tax Credit.

• Can I take the Earned Income Tax Credit if I am self-employed?

  Yes, self-employment wages qualify as earned income.

• Will taking the Earned Income Tax Credit delay my refund?

  Yes, in an effort to combat fraud, the IRS is holding returns claiming the Earned Income Tax Refund until at least February 15. The IRS projects that it will begin issuing refunds by February 22.

• Is the Earned Income Tax Credit refundable?

  Yes, it is fully refundable; there is a dollar-for-dollar reduction in taxes and it can create a refund even if the taxpayer has no taxable income.

• What are the investment income limitations for the Earned Income Tax Credit?

  In 2019, the investment income limit is $3,600. In 2020, the investment income limited is $3,650.

• Does my child need a Social Security number to qualify for the Earned Income Tax Credit?

  Yes, and it must be issued before the due date of the tax return and must be valid for employment.

• Do foster children qualify for the Earned Income Tax Credit?

  Yes, as long as they meet the requirements for being claimed for the credit.