WFTRA's individual income tax provisions.

• Author: Cook, Ellen D.
• Position: Working Families Tax Relief Act of 2004

EXECUTIVE SUMMARY

* The WFTRA provides one definition of a "child" with variations, to be used for the dependency exemption, HOH filing status, the EIC, the child credit and the child and dependent care credit.

* The new law accelerates the EGTRRA and JGTRRA marriage penalty relief provisions, including the increased standard deduction and 10% and 15% brackets for joint fliers; they now apply through 2010.

* Other WFTRA provisions extend the AMT temporary exemptions to 2005, allow all nonrefundable personal credits in full for 2004 and 2005 and extend HSAs through 2005.

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Generally, the Working Families Tax Relief Act of 2004 (WFTRA) affects individuals by accelerating the effective dates of prior legislative changes, creating a uniform definition of a "child" and temporarily extending alternative minimum tax relief. This article analyzes the effect of these and others WFTRA provisions.

The Working Families Tax Relief Act of 2004 (WFTRA), (1) signed into law on Oct. 4, 2004, prevents estimated tax increases of $146 billion for some 94 million taxpayers ($132 billion for individuals; $14 billion for businesses). It also accelerates the effective dates of many of the tax reduction provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA). However, a sunset remains in effect; thus, barring future Congressional action, all of the EGTRRA provisions expire for tax years beginning after 2010.

Even though the title refers only to working Families, the WFTRA also includes benefits and technical corrections affecting other individuals and businesses. This article details the significant changes for individuals; see Exhibit 1 on p. 100 for a summary of the provisions.

The WFTRA represents a number of election-year compromises between members of Congress wanting to make the EGTRRA tax cuts permanent and those who preferred fiscal constraint. The compromise and the margins by which the bill passed (339-65 in the House; 92-3 in the Senate) provide some insight as to the legislative climate and the potential for future changes, which have been altered somewhat after the Presidential election.

Uniform Definition of a "Child"

According to Treasury Secretary Snow, the new law's uniform definition of a child helps realize President Bush's overall goal of simplifying the Code, by creating one definition for purposes of the dependency exemption, head-of-household (HOH) filing status, the earned income credit (EIC), the child credit and the child and dependent care credit. For the most part, the WFTRA did not modify any other requirements of those respective provisions. The discussion below applies to tax years beginning after 2004, and, thus, does not affect 2004 tax liabilities.

Three Tests

Under the uniform definition of a child, a child is a "qualifying child" of the taxpayer if he or she satisfies three tests, as follows, under WFTRA Section 201:

1. The child has the stone principal place of abode as the taxpayer for more than half the tax year (See. 152(c)(1)(B)). As under pre-WFTRA law, temporary absences due to special circumstances, such as education, illness, business, vacation or military service, are not treated as absences.

2. The child has a specified relationship to the taxpayer (Set. 152(c)(2)). The child must be the taxpayer's child (natural child, stepchild, adopted child or eligible foster child); a descendant of the taxpayer's child; the taxpayer's sibling (including half-brother and half-sister) or step-sibling; or a descendant of the taxpayer's sibling or step-sibling. An eligible foster child includes one placed with the taxpayer by an authorized placement agency or by judgment, decree or other order of any court of competent jurisdiction. An adopted child is one lawfully placed with the taxpayer for legal adoption. Noteworthy is the elimination of the pre-WFTRA rule requiring a taxpayer to care for a sibling or step-sibling (or a descendant of such individual) "as if the child were the taxpayer's own child."

3. The child has not yet attained a specified axe (Sec. 152(c)(1)(C)). The age varies according to the benefit. For the dependency exemption, HOH status and the EIC, the child must be under age 19, or under age 24 if a full-time student for any part of five months during the tax year. For purposes of the child credit, the child must be under age 17, according to Sec. 24(a); for purposes of the child and dependent care credit, the child must be under age 13, according to Sec. 21 (b)(l)(A). Except in the case of the child credit, no age limit apples to individuals totally and permanently disabled (within the meaning of Sec. 22(e)(3)) at any time during the year. Further, except for EIC purposes, a child who provides more than one-half of his or her own support would not be a qualifying child, under Sec. 152(c)(1)(D).

   Tiebreaker Rules

   When a person could be treated as a qualifying child on more than one return, WFTRA Section 201 provides tiebreaker rules in amended Sec. 152(c)(4). Ties are broken as follows:

   * If only one of the taxpayers is the child's parent, the child is the qualifying child of that parent.

   * If both taxpayers are the child's parents, the child is the qualifying child of the parent with whom he or she resides for the greatest period of time.

   * If the child resides with both parents for same amount of time, the child is the qualifying child of the parent with the highest adjusted gross income (AGI).

   * If neither taxpayer is the child's parent, the child is the qualifying child of the taxpayer with the highest AGI.

   Dependency Exemption

   For tax years beginning after 2004, Sec. 152(a) allows taxpayers to claim both querying children and relatives as dependents. A qualifying child must meet the uniform definition, as well as the current joint-return and citizenship tests. Neither the gross-income test nor the support test applies, except that the child must not have provided more than one-half of his or her own support during the calendar year in which the taxpayer's tax year begins.

   Under Sec. 152(d), qualifying relatives must meet the five current (pre-WFTRA) tests--the gross-income test, support test, relationship test, joint-return test and citizenship test. A qualifying child of any taxpayer cannot be claimed as a qualifying relative by another taxpayer (i.e., the rules for a qualifying child apply). The requirements are a blend of prior and current law. Exhibit 2 on p. 101 summarizes the updated...