The dependency exemption is a valuable deduction that may be lost in many situations simply because some basic rules for qualification are not followed. Classifying someone as a dependent can also entitle you to other significant deductions or credits. Here is a rundown of some of the rules and their implications.
Exemptions reduce your adjusted gross income. There are two types of exemptions: personal exemptions and exemptions for dependents. For each exemption you can deduct $3,800 on your 2012 tax return. In computing the amount to be withheld from an employee’s wages, the employee is entitled to an allowance equal to the exemption amount used to calculate the personal exemption deduction. On a joint return, you may claim one personal exemption for yourself and one for your spouse. If you’re filing a separate return, you may claim the exemption for your spouse only if he or she had no gross income, is not filing a joint return, and was not the dependent of another taxpayer.
Exemptions for dependents. You generally can take an exemption for each of your dependents. A dependent is your qualifying child or qualifying relative. In some circumstances, even an aged parent who lives with you may qualify. No personal exemption is allowed for a dependent or any other individual unless the taxpayer identification number (TIN) of that individual is included on the return claiming the exemption. The TIN generally must be a social security number (SSN).
Support test. A qualifying 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. In contrast, the taxpayer must provide at least one-half of a qualifying relative’s support in order to claim the relative as a dependent.
As of the close of the calendar year in which the taxpayer’s tax year begins, a qualifying child must not have attained the age of 19, or must be a student who has not attained the age of 24. This age test does not apply to a child who is permanently and totally disabled at any time during the calendar year in which the taxpayer’s tax year begins. A student for this purpose is an individual who, during each of five calendar months of the calendar year in which the taxpayer’s tax year begins, is a full-time student at an educational organization, or is pursuing a full-time course of instructional on-farm training. This five-month rules generally enables most parent of college students graduating in May to take their child as an exemption “one last time.”
An adoptive parent in the process of a domestic adoption who has custody of the child pending the final adoption and who provides enough financial support during the year is entitled to claim a dependency exemption for the child.
Possible downsides of being a dependent. If someone else – such as your parent – claims you as a dependent, you may not claim your personal exemption on your own tax return. Further, some people cannot be claimed as your dependent. Generally, you may not claim a married person as a dependent if they file a joint return with their spouse. Also, to claim someone as a dependent, that person must be a U.S. citizen, U.S. resident alien, U.S. national or resident of Canada or Mexico for some part of the year. There is an exception to this rule for certain adopted children.
An individual who qualifies as another taxpayer’s dependent cannot claim any amount for a personal exemption, even if the individual files a return and the other taxpayer does not actually claim the individual as a dependent. For instance, in a court case in which a college student filed his own return, he was not entitled to any deduction for his personal exemption because he also qualified as his parent’s dependent, even though they did not actually claim his exemption.
Ancillary benefits. As discussed, a dependent cannot file joint returns or claim dependency exemptions. In addition, a dependent who is a qualifying relative cannot have income in excess of the annual exemption amount. However, these restrictions do not apply to a person’s classified as dependents for several other tax items. If a person would qualify as a dependent but for filing a joint return, claiming dependency exemptions, or having gross income in excess of the exemption amount, the person is nonetheless treated as a dependent for the following purposes (not a complete list):
- the taxpayer’s head-of-household filing status;
- the exception from the early distribution penalty for qualified retirement plan distributions used to pay health insurance premiums for an unemployed taxpayer’s dependents;
- the exclusion from income of amounts received under accident and health insurance plans;
- the definition of a highly compensated participant for purposes of cafeteria plans;
- the exception from the rules that allow certain amounts paid to maintain a student in the taxpayer’s home to qualify as deductible charitable contributions;
- the deduction for medical expenses incurred by the taxpayer’s dependent;
- the exclusion for distributions from an Archer medical savings account (MSA) that are used to pay a dependent’s medical expenses;
- the rules governing the deduction for qualified student loan interest; and the treatment of educational and medical indebtedness in calculating the value of a decedent’s qualified family-owned business interests for purposes of the estate tax.
As you may gather, the rules associated with the dependency exemption can get complex rather quickly. If you need any assistance in sorting out any dependency exemption or related benefits, please you do hesitate to contact this office at (908) 725 4414.