Those with low incomes and children can benefit from the Earned Income Tax Credit (EITC), a refundable tax credit. Earned income credit levels are determined by a taxpayer's taxable income and the number of children in their household; this credit reduces or eliminates the taxpayer's tax burden, the total amount of tax debt owed by an individual, company, or other organization to a taxing body such the Internal Revenue Service (IRS).

An Overview of the Earned Income Credit

In 1975, Congress passed the Earned Income Tax Credit (EITC) as a short-term aid measure for low-wage earners with dependent children. In 1978, Congress declared it a permanent law, and in the years thereafter, it has been expanded multiple times. The latest extension of the EITC was made permanent by the Protecting Americans from Tax Hikes (PATH) Act of 2015.

The EITC has significantly expanded since its creation, from $5.5 billion in 1975 (in 2015 USD) to $68.5 billion in 2015. In the years when Congress increased funding for it—1990, 1993, 2001, and 2009—the price tag skyrocketed.

Advantages and Disadvantages EITC

The key benefits of the Earned Income Tax Credit are that it is specifically designed to help low-income employees and that it encourages people to enter the workforce. However, there are several problems with the EITC, including its complexity, high mistake rate, encouragement to work above a specific income threshold, marriage penalties, and unfairness between employees with and without children.

How Earned Income Tax Credit Works?

To obtain the credit, you must first apply for it. It should go without saying, right? Despite this, the IRS estimates that 20% of qualified people do not submit a claim for federal credit. It's complicated because workers' eligibility for the EITC might fluctuate based on their marriage status, parenting, and financial circumstances, and since the incomes of many low-income people are so poor that they owe no federal tax.

On the other hand, if you have earned income and petitioned for a tax credit, you can get paid even though you have no tax liability. If your tax liability for the year is less than your tax credit, the IRS will issue you a refund check for the difference. This includes any taxes withheld from your wages.

It's important to note that tax credits are often more valuable than deductions. Unlike deductions, which only decrease your taxable income, tax credits reduce your tax liability immediately. Comparatively, a $1,000 tax deduction would reduce your tax liability by just $250 if you were in the 25% tax bracket, while a $1,000 tax credit would reduce your liability by $1,000.

A parent's eligibility for federal earned income tax credits changes significantly depending on whether or not they have children. The numbers show that in 2021, a single person or married couple with no children can receive a maximum credit of $1,502, while a family with one child can receive up to $3,618, and a family with three children can receive up to $6,728.

Do I Qualify for The EITC?

To qualify for the EITC, you must meet all three of the following conditions:

Income:

Working and making money is essential. You don't need to keep working all through the year. Income from all sources, including investments, cannot exceed the required amount for EITC. Wages, salaries, tips, disability payments from an employer, earnings from self-employment, military pay, and union strike compensation all count as earned income.

Identification Number of the Taxpayer:

In order to qualify for the EITC, you, your spouse, and your children must all have valid Social Security numbers that allow them to work. Citizenship is not required to qualify for the EITC with a Social Security number. When filing taxes, using an ITIN will prevent you from receiving the federal EITC.

Now, California, Colorado, Maine, Maryland, and New Mexico residents may apply for the state EITC using only their ITINs.

Children Who Qualify

To be eligible for the EITC, a child must fit the criteria for a "qualified child." Additional information is provided below.

The following are additional requirements that some individuals must meet in order to qualify for the EITC:

• If you are not filing a claim for a dependent child, you must be 19 or older to apply.
• You can't use the "married filing separately" option.

Is My Child Eligible for The EITC?

There are three requirements that a "qualified kid" must meet before they may be claimed as part of your EITC.

Relationship:

The kid must be your biological or legally adopted son, daughter, grandchild, stepchild, or adoptive child; a younger sibling, stepsibling, half-sibling, or descendant; or a child put with you in foster care by a government agency.

Age:

The kid must be under the age of 19 or under 24 if they attend school full-time; however, there is no upper age limit if the child is fully and permanently incapacitated.

Residency:

The child must spend over half the year residing in the United States with you. You and your partner do not have to spend your entire time together living in the same place.

Earned Income Tax Credit Policy

Every personal tax credit is an example of the government's effort to influence citizens toward a desired course of action. The purpose of the EITC is to incentivize people to enter and remain in the labor field so they may raise their household's quality of living and aid in expanding the national economy. Several senators and representatives want to widen the pool of eligible voters. For instance, the American Rescue and Reinvestment Act's increase in the EITC for working families without children is only temporary. The Build Back Better Act would make this change permanent. There are over 17 million low-income, childless employees who potentially benefit from this bill.

Although the EITC has been in existence for some time, it is not uncommon for its particulars to change from year to year. In 1986, Rhode Island became the first state to establish its own Earned Income Tax Benefit (EITC), which reinforced the federal credit.

Bottom Line

Working families can benefit from earned income tax credits that can be anywhere from several hundred dollars to over $6,500. Income level, marital status, and the number of dependents are all relevant factors in determining eligibility. This credit is similar to a grant since it may be available even if your income is so low that you owe zero or very little in income taxes. There are resources available to assist you in figuring things out, including free tax preparation counseling and online tools.