A few days ago, I posted about checking your W-4 for 2010. While you are checking that, it might be a good idea to look into advance on your 2010 Earned Income Credit.
Earned Income Credit (EIC) is a program which started as a way to give lower income taxpayers with children back some of their FICA and Medicare withholdings. Since then, the program has been expanded with inflation adjustments, adjustments for additional children and filing Married Joint and a credit for taxpayers without children. EIC can be very lucrative. It is also a major source of tax fraud. For most lower income taxpayers, EIC is a life saver. It is the little extra that allows them to payoff debts, prepare for large expenses and even save a little. It makes tax refunds an anticipated event. But with Advance EIC, the taxpayer can get some of their EIC in their pay check and less at the end of the year.
Here's how it works. The taxpayer completes a W-5 and give it to their employer. They verify on the W-5 that they expect to have at least one child and qualify for EIC for that year. (That means taxpayers without a qualifying child can't get advance EIC.) They also specify if they are single or married and if married if their spouse is also filing a W-5. The employer uses that information and the IRS charts to give the taxpayer part of their EIC in their pay check. The amount the taxpayer received in their check is dependent on how often they are paid, how much their pay is for that period and if they are single, married and if married if both taxpayers are taking advanced EIC. The maximum advance for 2009 was $1826. The W-5 is only good for that calendar year and must be done on an annual basis.
Example - (Based on 2009 figures)
Mary Taxpayer is a single mom providing a home for her son Timmy. Mary qualifies to file Head of Household and claim Timmy as a dependent. She has W-2 wages of $12,000 paid bi-weekly, unemployment of $3223 ($823 taxable in 2009) and $50 in bank interest. This makes her AGI (adjusted gross income) $12,873. By the time her standard deduction and two exemptions are subtracted she has no income to tax. With no tax, Mary will receive a refund of $4443 ($400 Making Work Pay Credit, $1000 Additional Child Tax Credit and $3043 in Earned Income Credit). Had she elected to take advance EIC payments for the whole year she still would have a refund of $2647 but she would have had an extra $69 in her pay every two weeks.
That is a very simple example but it gives you an idea how the program works. Now for the real world issues. If Mary had 2 or more children living with her, her advanced EIC would have been the same. However, she would have received more EIC on her return. If her income was much higher or lower, the advance would have decreased. The example was created to get the maximum advance. She also has to make sure she qualifies for EIC. If she fills out a W-5 and receives advanced EIC payments then doesn't qualify for EIC she will have to pay back the advance. If she had submitted a W-5 and them realized she doesn't qualify for EIC, Mary would have 10 days to give her employer a new W-5 revoking the payments. It is also Mary's responsibility to monitor her pay checks to make sure the advance payments stop.
Advanced EIC is more work for the employer. If an employee gives them a signed and completed W-5, the employer has to give the advanced payments. These payments are reported on the employee's W-2 in box 9. Advance EIC payments are subtracted from the employer's tax deposit. Say Mary's employer has withheld $250 for Federal withholding, FICA, and medicare from all his employees that pay period. He would subtract her advance EIC of $69 and reduce his deposit to $181.
When Earned Income Credit is discussed, forcing recipients to take advance payments is often proposed. My concern is that these taxpayers assume they qualify for EIC and taking the advance payments then not qualifying and having to pay the money back.
Advance Earned Income Credit payments can be a help to lower income families struggling to make ends meet. But, they should be requested only if there is no doubt that the taxpayer will qualify for EIC and understands how the program works. I have to be honest, in 20+ years of tax preparation, I have never had a client bring in a W-2 with advance EIC payments.