What is the Earned Income Credit?

Q. What is the Earned Income Credit?

A. A common question from my tax preparation clients each year is “Why is my refund so big?”  Many of my clients can’t understand that they are getting a refund bigger than the total of the tax they had withheld from their check during the year.  One major reason for lower income clients is the Earned Income Credit.

What is It?

The Earned Income credit is a refundable credit that low or moderate income taxpayers are eligible for.  It acts like the child tax credit because those who are eligible receive a credit against their tax owed because of this credit.  According to the IRS website, it was originally designed to offset the amount of Social Security and Medicare taxes paid by people in this category.

How is it Calculated?

For 2011, the IRS offered the following chart to calculate the amount of EIC you may be eligible for:

Earned Income and adjusted gross income (AGI) must each be less than:

• $43,998 ($49,078 married filing jointly) with three or more qualifying children
• $40,964 ($46,044 married filing jointly) with two qualifying children
• $36,052 ($41,132 married filing jointly) with one qualifying child
• $13,660 ($18,740 married filing jointly) with no qualifying children

Tax Year 2011 maximum credit:

• $5,751 with three or more qualifying children
• $5,112 with two qualifying children
• $3,094 with one qualifying child
• $464 with no qualifying children

Investment income must be $3,150 or less for the year.

I thought this came in my paychecks throughout the year

This was called the Advanced Earned Income Credit or AEIC.  In the old days, taxpayers eligible for the EIC could get the money early throughout the year by submitting Form W-5 to their employer.  Effective January 1, 2011, because of the Education Jobs and Medicaid Assistance Act of 2010, this no longer happens.  The program was full of fraudulent payments and difficult to administer.  If a taxpayer was eligible in the beginning of the year and for some reason went above the threshold limit during the year and did not stop the payments, they could actually end up owing extra tax at the end of the year. I’m glad it’s gone.  Fortunately, this means taxpayers get a bigger refund if they fall into one of the categories listed above.

Tax software generally checks to make sure you are actually getting credits like this that you may be eligible for.  If you forget to include some of your income when preparing your own return and claim this credit by mistake, there could be some very serious penalties and interest in store for you.  For that reason, I always recommend a professional preparer no matter what level of income you receive.  The tax laws these days are just too complex to navigate alone. Visit my Tax Services page to learn more about how my firm can help with your tax preparation needs.

Learn About Payroll

Q.  I just started a new job and my employer wants me to do the payroll too. How do I learn some more about it so I don’t mess it up?

A. Thank you for looking for more education.  So many people think that payroll is nothing more than taking out taxes.  The payroll process has grown so complex in the last 15 to 20 years that it takes some serious education and study to keep up with everything.  There are several places you can look for payroll education.

1. I don’t know what state you are in, but there is likely a local chapter of the American Payroll Association close to you.  You can find the one closest to you using this chart.  Local chapter meetings allow you to network with your payroll peers and gives you a chance to ask questions as you learn.
2. The American Payroll Association itself has courses and books available that can guide you through issues you may be having.  They also offer an email list-serve and member hotline that can be useful resources as well.
3. PayrollTalk.com is a good resource.  It is a free online forum for discussion payroll topics.  Everything from tax calculation, to international payroll, to handling complaints is discussed.  You can read and search other posts or add your own after registering.  There are already several thousands members of this community who actively discuss payroll issues each day.
4. PaycheckCity.com can help you learn about the effect of different pay frequencies and W-4 values on your paycheck.  It can even be used for training your employees how to read their paycheck and the impact on take home pay of making changes to their W4.
5. Your local community college likely offers a class or two about payroll.  If not, payroll is often included as part of the accounting curriculum.
6. Publication 15 is the document published by the IRS that spells out fairly clearly your responsibilities as an employer for paying withholding taxes from employees.

Live in one state, work in another

Q. I live in Michigan and just started a new job working in Illinois.  I’ve never been in a situation with two states before.  My payroll department wants me to fill out all these different forms.  What should I do?

A. I love multi-state tax situations!  It’s like job security for accountants.  The answer to your question Read more »