November 11, 2004

Hi Everybody,

Congress passed and the President just signed the second piece of tax legislation to hit the books this year (it must be an election year) – “The Working Families Tax Relief Act of 2004.” I recently reviewed a summary report of the Act and found little that specifically affects divorcing families. However, one item that does warrant note is a change in the definition of a “qualifying child” as it pertains to the dependency exemption. For divorce taxation, the change in definition will have its biggest impact on the content of the custodial waiver rules.

The new definition of a “qualifying child” replaces the “support test” with a “residency requirement.” In other words, when trying to determine who owns the dependency exemption, the new law looks to where the child lives the majority of the time rather than to who provides more than half the support for that child.

This is very similar to old law for divorced parents: the presumption was that the custodial parent was entitled to the dependency exemption unless he or she specifically relinquished it. We now have a uniform definition of a “qualifying child” that applies to all situations including divorce. And in essence, the dependency exemption test remains the same for divorced parents - if the child lives in your house for more than half the year you are entitled to the exemption.

So what’s new? Under the old rules, when a custodial parent wished to waive his or her right to a dependency exemption a Form 8332 needed to be filed. The custodial parent signed the form waiving the right to the exemption for a specific time period and the form was then filed with the non-custodial parent’s tax return, allowing the deduction on that return.

Under the new rules the required paperwork remains the same. However, instead of just releasing the claim to the dependency exemption, you are now giving up the right to call that child your “qualifying child.” And therefore, you are giving up not only the dependency exemption but also the child tax credit, which is linked to the new definition.

Previously, the dependency exemption and the child tax credit were not necessarily coupled. The child tax credit is worth an additional $1,000 per qualifying child and was extended through the year 2010 under the new Act. So consider the increased stakes before signing those waivers. The waiver does not apply to the earned income credit, the dependent care credit and the head of household status.

I hope this helps and as always I welcome your questions and feedback.

Regards,

Jim