Chapter 5: Earned Income Credit
Chapter Description
Upon completion of this chapter, students will have a working knowledge of the Earned Income Credit. Students will be able to identify earned income as it relates to the earned income credit. An understanding of the requirements for qualifyin...
Chapter 5: Earned Income Credit
Chapter Description
Upon completion of this chapter, students will have a working knowledge of the Earned Income Credit.
Students will be able to identify earned income as it relates to the earned income credit. An
understanding of the requirements for qualifying children and how taxpayers may qualify for this credit
without having a qualifying child will be obtained. Students will become adept at completing Schedule
EIC and able to transfer the information over to Form 1040. Due diligence will also be examined.
The following content is based on 2022 tax law for 2021 tax returns; however, discussions of
prior year tax law will be addressed as applicable.
NOTE: There are a variety of temporary changes impacting the Earned Income Credit for the
2021 tax year. These changes will be highlighted throughout the chapter.
Learning Objectives
1) Examine the most common tax credit, the Earned Income Credit (EIC).
2) Define earned income as it relates to the Earned Income Credit.
3) Identify the eligibility rules for the Earned Income Credit which apply to everyone.
4) Summarize the additional eligibility rules which apply to taxpayers with a qualifying child.
5) Describe how taxpayers without children may qualify for Earned Income Credit.
6) Determine how to complete Schedule EIC and where to put the information from the
appropriate worksheet on Form 1040.
7) Discuss circumstances when the IRS would disallow the Earned Income Credit.
8) Examine IRS due diligence requirements.
9) Recognize when special rules apply to a taxpayer claiming Earned Income Credit.
Key Terms
• Adopted Child
• Due Diligence
• Earned Income Credit (EIC)
• Foster Child
• Grandchild
• Married Child
• Permanently and Totally Disabled Child
• Qualifying Child of More than One Person
• Student
Objective #1: Earned Income Credit (EIC)
What is a Credit?
A tax credit reduces the taxpayer’s current tax liability dollar for dollar. There are two categories of
credits.
, Nonrefundable credits may reduce the taxpayer’s tax liability to zero. If the credit is more than the
tax liability, the excess is not refunded. Most credits are nonrefundable. A nonrefundable credit may
reduce the tax due to zero but will not produce payments to the taxpayer. The most common
nonrefundable credits include the foreign tax credit, credit for child and dependent care expenses,
Refundable credits are treated as tax payments. The credit amount is added to federal income tax
withheld. If the total of these credits is more than the tax liability, the excess will be refunded. There
are a number of refundable credits, including:
• Earned Income Credit (Schedule EIC)
• Additional child tax credit (Form 8812) Note: The Child Tax Credit may be fully refundable to
certain taxpayers in 2021.
• Excess Social Security and tier 1 RRTA tax withheld
• Credit for federal tax paid on fuels (Form 4136)
• Credit for taxes paid by regulated investment companies (Form 2439)
• Credit for prior year minimum tax (Form 8801)
• Health coverage tax credit (Form 8885)
• Claim of right credit
As shown in the following example, if the taxpayer had a refundable credit, the results would be
different. The excess amount of credit would be refunded to the taxpayer.
Example: Total Tax $481
Earned Income Credit - 500
Refund $ 19
Partially refundable credits include certain tax credits that fit into both categories (nonrefundable
and refundable). This type of credit is considered partially refundable because only a portion of the
tax credit can be refunded to the taxpayer. An example of a partially refundable credit is the American
Opportunity credit (Form 8863). Up to 40% of the $2,500 credit is refundable.
This chapter covers the Earned Income Credit. The other credits will be discussed in a later chapter.
What is the Earned Income Credit?
NOTE: The American Rescue Plan Act of 2021 (ARPA) significantly modified the Earned
Income Tax Credit, Child Tax Credit, and Child and Dependent Care Credit for the 2021 tax
year. Both this chapter and Chapter 15 will cover the new ARPA provisions related to the 2021
Earned Income Tax Credit. Additionally, this chapter will discuss how the Earned Income Tax
Credit will change after the temporary ARPA provisions expire.
The Earned Income Credit (EIC, also known as EITC, Earned Income Tax Credit) is a refundable
credit available to taxpayers with and without children. EIC is a tax benefit available for taxpayers who
worked and had earned income under a specified amount that is adjusted annually.
, In order for a taxpayer to receive EIC, he or she must qualify by meeting certain rules (discussed later
in this chapter), and he or she must file a return even if he or she does not owe federal taxes, doesn’t
meet the filing requirements for his filing status, and does not have federal income taxes withheld
from his or her pay.
According to the IRS, 25 million taxpayers received the EIC in tax year 2020, and the average EIC
was $2,411. 1
The following table, “Earned Income Credit in a Nutshell,” from Publication 596 is a well-known
resource used by taxpayers to determine whether they are eligible to claim the EIC.
Earned Income Credit in a Nutshell
2
Earned Income Tax Credit (EITC) Limitations
The American Rescue Plan Act (ARPA) temporarily expanded the EITC in 2021. Specifically, ARPA
implemented the following changes to the EITC:
• Age Requirement: ARPA reduced the applicable minimum age for the credit from 25 years
old to 19 years old, unless the individual was a specified student or qualified former foster
youth or qualified homeless youth. Under these scenarios, the applicable minimum age for
purposes of the EITC is 24 years old. ARPA also eliminated the maximum age limit of 65,
meaning there is no maximum age limit for purposes of claiming the EITC. The age
requirement changes are applicable for the 2021 tax year only.
• Increase in the Childless EITC Amount: As discussed below, EITC temporarily increased
the childless EITC amount for the 2021 tax year. Notably, it raised the credit percentage and
phaseout percentage from 7.65% to 15.3% and raised the income at which the maximum
childless EITC is reached to $9,820. As a result of these changes, the maximum “childless”
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