by Michael “Your Plan of A-Tax” Isenhart, E.A.
Will you still be able to claim your child as a dependent for 2009 and forward? Did you know that final regulations going into effect this year that allow the revocation of a child exemption granted to you in a previous year? Are you aware that beginning January 1, 2009 there is only one best way to ensure the tax deduction for your child remains valid going forward?
These final regulations are now in play for individual calendar year taxpayers, effective with the 2009 tax year. The results may have favorable or unfavorable consequences but, like it or not, these are now the rules that apply to all parents who are divorced, legally separated, or who have not lived together at all during the last six months of the year, whether married or not.
Through 2008, either a Form 8332 signed by the custodial parent, a written declaration substitute that conformed to Form 8332, or having a similar statement in a decree or state court order was sufficient to allow the non-custodial parent to claim a child as a dependent. Form 8332, for those who are not aware, is the tax form that allows the custodial parent to release the child as an exemption, which is normally for the benefit of the non-custodial parent.
There are three major changes to these final regulations that will affect separated parents.
First of all, a decree or state order can no longer be used as a written declaration for purposes of substituting Form 8332. Although you can still use a written declaration that conforms to Form 8332, it must be for the sole purpose of releasing the claim. The substitute form must unconditionally release the exemption, as well as specify the year(s).
The one best way to ensure the tax deduction for your child remains valid going forward is to use IRS form 8332 exclusively, to minimize problems.
Secondly, the definition of the “custodial parent” has been revised. The custodial parent has the right to keep or sign away the child exemption for tax purposes. The custodial parent, for 2009 and forward, is the one with whom the child resides the greater number of nights during the year. This is referred to as the “counting nights rule”. It does not matter, with this rule, at what time the child goes to sleep. Residing is defined as “at the parent’s residence” (even if the parent is not present) or “in the company of the parent”. A parent on vacation with a child would be an example.
There is one exception to the counting nights rule. This exception addresses the problem that arises when a parent works a night shift. In these situations the custodial parent will be the one with whom the child spent the majority of days. For this purpose, child is treated as residing with the parent whose primary residence is registered with the child’s school.
The effect of the non-custodial spouse having the exemption for the child goes beyond the tax deduction itself. He or she would also receive the Child Tax Credit and any allowable Hope or Lifetime Learning Educational Tax Credits. The dependency deduction (using 2008 exemption amount) can reduce tax liability by over a $1,000.00. The Child Tax Credit alone has the potential to eliminate up to $1,000.00 of tax liability. The Education credits have the ability to eliminate up to another $2,000.00 off of a tax bill.
In addition to having the right to keep or release the dependency deduction, the custodial parent may qualify for additional tax benefits, such as filing as Head of Household, the Earned Income Credit, and the Child and Dependent Tax Credit. The custodial parent is the only parent eligible for these benefits and retains these rights even if the exemption is released to a non-custodial spouse. In addition, if they do not release the exemption they may also be entitled to the other benefits mentioned above.
Most taxpayers, in years past, have incorrectly assumed that, for tax purposes, the custodial parent is the one who was granted this status by court order, and that this status carried on from year to year. This assumption was further complicated by the increase of joint physical custody arrangements, where children are splitting their time between parents and by parents not keeping track of the time spent with the child.
A third significant change grants the custodial parent the ability to unilaterally revoke the release of a child exemption for calendar years 2009 and forward! This revocation is available for multiple year releases of a child exemption, even if the release was made prior to 2009. This is true regardless of whether it satisfied Form 8332 or its substitute at the time the release was made.
To complicate matters even more, although one parent may be defined as the custodial parent in the divorce decree or court order, these final regulations require a year-by-year analysis in order to make the proper determination of who is entitled to custodial parent status. Although there is potential for the status of custodial parent to change, having the signed document in hand initially would eliminate problems that could arise from having to request it later. Everyone wants to create and maintain good relationships, particularly with ex-spouses, but it isn’t a perfect world.
Let’s take a look at one possible scenario. You were not designated the custodial spouse when the divorce agreement went into effect, and the divorce decree granted you the dependency deduction every other year for multiple years.
If you become the custodial parent for tax purposes due to the “counting nights rule”, you now have the right to keep or release the dependency deduction. This would also include any of the “off years”. Additionally, keeping the dependency deduction offers more tax benefits to the custodial parent than the non-custodial parent receives from this deduction. Since the custodial parent could change from year to year, all parents need to be aware of how this will affect their tax situation.
Those who are newly entitled to custodial parent status and make their rightful claim may encounter problems when the other parent, who has lost that parental status, refuses or chooses to ignore this change. There does not seem to be any real clear-cut method for actually proving that the child was with you each night. For example, let’s assume that both parents work day jobs (to avoid confusion with the counting nights rule “exception”). It is conceivable that the child’s residence may be listed at the school with one parent and yet they actually live the majority of the time with the other parent. Keeping a log or diary might help prove your point. Perhaps making a game out of it with your child by having the child write their name, mark or initial on the calendar each night they stay with you.
Another concern that was addressed is whether or not custodial parent status remains is retained after the child reaches the age of majority. Does this affect the exemption and related tax benefits? The final regulations provide that a child can only be in the custody of the parent when one or both parents have the right under state law to physical custody. The child’s birth date must also be factored in to see if the parents will have had custody for over half year or not. If so, the right is retained, if not, then the parents no longer have the right to grant the exemption. This is of importance when dealing with children going to college.
In summation, the impact of these three changes will greatly affect how the dependency deduction is taken going forward.
Watch a video discussion of this tax article on DadsDivorce Live.
Read the entire IRS document mentioned in this article.
Michael Isenhart is an Enrolled Agent and CEO of Isenhart Tax & Financial Services. ITFS was established in 1982 and concentrates on the tax, accounting, and financial needs of the individual and small business. Mr. Isenhart, in addition to authoring “Our Plan of A-Tax”, is a frequent guest speaker on a variety of tax subjects and has taught Individual & Business Income Tax at Southwestern Illinois College for 12 years. More information can be obtained at www.isntax.com
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