What Is the Earned Income Tax Credit (EITC)?
The earned income tax credit (EITC) is a refundable tax credit that helps certain U.S. taxpayers with low earnings by reducing the amount of tax owed on a dollar-for-dollar basis. Taxpayers may be eligible for refunds if their tax credit exceeds their tax liability for the year.
Legislation enacted in 2020 recognized that many taxpayers’ incomes that year were lower than their incomes in 2019 due to the COVID-19 economic crisis and lockdown; this law allows taxpayers to base the EITC claimed on their 2020 tax returns on either their 2019 or 2020 earnings.
For 2021 tax returns, the law liberalizes some EITC rules and makes an increased EITC available to more childless taxpayers.
- The earned income tax credit (EITC) is a refundable tax credit used to supplement the wages of low-income workers and help offset the effect of Social Security taxes.
- The EITC is available only to taxpayers with low or moderate earnings, whether or not they have qualifying dependents.
- To be eligible for the EITC, a taxpayer must have accrued earnings during the tax year. However, investment income cannot have surpassed a specified level.
- The American Rescue Plan Act (ARPA) of 2021 revised a number of EITC rules for the 2021 tax year.
Understanding the Earned Income Tax Credit (EITC)
The earned income tax credit (EITC), also called the earned income credit (EIC), was conceived as a “work bonus plan” to supplement the wages of low-income workers and help offset the effect of Social Security taxes. It continues to be viewed as an anti-poverty tax benefit.
The EITC is available only to taxpayers with low or moderate earnings, whether or not they have qualifying dependents. To claim the credit for 2021, an individual taxpayer (or if the taxpayer is married, the individual or their spouse, filing jointly) with no qualifying dependents must be at least 19 years old and must live in the United States for more than half of the tax year.
Generally, for 2021, qualifying dependents include dependent children who are under age 19, students under age 24, or dependents with a disability. The credit percentage, earnings cap, and credit amount vary according to a taxpayer’s filing status and number of dependents. These factors also determine the income phaseout range over which the credit diminishes to zero. No credit is allowed above the ceiling for the phaseout range.
Because many taxpayers’ 2021 incomes were lower than their 2019 incomes due to the economic crisis, the EITC claimed on 2021 tax returns can be based on 2019 earnings if those earnings are higher.
To be eligible for the EITC, a taxpayer must have earnings but cannot have investment income in excess of a specified level, set at $10,000 for 2021. Age, relationship, and residency requirements also apply with respect to qualifying dependents. The credit reduces the amount of tax owed on a dollar-for-dollar basis. If the amount of the EITC is greater than the amount of tax owed by a taxpayer, then the taxpayer may be eligible for a refund.
The EITC is one of the most important tax credits available to individual taxpayers. To qualify for the EITC in 2021, the taxpayer must be a U.S. citizen or a resident alien for the entire year and have a valid Social Security number by the tax return’s due date. The amount of credit that can be claimed on a tax return depends on the taxpayer’s annual earned income for the tax year, filing status, and number of qualified dependents.
Example of the EITC
A refundable tax credit reduces the value of a taxpayer’s liability, dollar for dollar, and results in a refund if the liability is reduced below zero. For example, an individual who has a tax bill of $2,900 and can claim a $529 credit will owe $2,371 ($2,900 - $529 = $2,371). That lower amount is the total that the taxpayer must pay to the Internal Revenue Service (IRS) for the year. If a taxpayer has a total tax liability of $1,000 and a credit of $1,500, then the taxpayer should be entitled to a refund of $500.
Qualifying for the EITC
To qualify for the EITC, a taxpayer’s earned income and adjusted gross income (AGI) must be below certain income limits. For the 2021 tax year, the limits on the income level, credit amount, and investment income for a single or married taxpayer vary, depending on the number of qualifying dependents in the household, and are shown in the table below:
|2021 Earned Income Tax Credit Qualifications|
|Children or Relatives Claimed||Maximum adjusted gross income (AGI) (Single, Head of Household, Widowed, or Married Filing Separately*)||Maximum AGI (Married Filing Jointly)||EITC Limit|
As shown in the table above, a single filer with no dependents who is earning less than $21,430 in 2021 is eligible for an EITC of up to $1,502, depending on AGI. On the other hand, a married taxpayer and spouse filing jointly, having two children who are qualifying dependents, can claim up to a maximum EITC of $6,728 if the total of the couple’s earned income in 2021 is less than $53,865.
Furthermore, the IRS stipulates that to qualify for the EITC in tax year 2021, investment income should not exceed $10,000.
Beginning in 2021, taxpayers who are married filing separately can qualify for this credit provided that they meet the eligibility requirements under the ARPA. The tax law provides special EITC rules for clergy and members of the military stationed abroad, and specific rules coordinating the credit with the tax laws applicable in Puerto Rico, Guam, and American Samoa.
Changes in the EITC for 2021 Tax Returns
As noted above, the ARPA revised a number of EITC rules for the 2021 tax year and, in particular, increased the amount of—and eligibility rules for—the EITC for taxpayers with no qualifying dependents.
As announced, 2021 income ceilings increased due to inflation, along with phaseout ranges and credit limits, for all eligible taxpayers. Credit and phaseout rates for taxpayers with no qualifying dependents increased from 7.65% to 15.3%; the maximum earned income amount for the credit and the phaseout amount rose to $9,820 and $11,610, respectively. Also in 2021, the law reduced the age threshold for taxpayers with no qualifying dependents to 19 and increased the ceiling on investment income from $3,650 to $10,000.
New rules more consistent with present family law practice allow the EITC on separately filed returns if requirements pertaining to legal agreements and living arrangements are met. In addition, similarly to the special economic crisis relief rule for 2020 returns, returns filed for the 2021 tax year are allowed to base the credit on the taxpayer’s income for 2019 or 2021.
What Is the Difference Between a Tax Credit and a Tax Deduction?
A tax credit lowers the amount of tax you owe on a dollar-by-dollar basis. For example, a $1,000 tax credit means that you owe $1,000 less in taxes. By contrast, a tax deduction lowers your taxable income. If your taxable income drops by $1,000 and you're in the 24% tax bracket, you'd save $240 in taxes.
How Much Income Can You Earn in Investments and Still Take the EITC?
For 2021 taxes, the maximum investment income you can earn rose from $3,650 to $10,000.
Internal Revenue Service. “Publication 596: Earned Income Credit (EIC).”
U.S. Congress. “H.R.1319 — American Rescue Plan Act of 2021.”
Internal Revenue Service. “Changes to the Earned Income Tax Credit for the 2022 Filing Season.”
U.S. House of Representatives, Budget Committee. “The American Rescue Plan Act of 2021 (H.R. 1319), Section-by-Section,” Pages 49–50.
Internal Revenue Service. "Earned Income and Earned Income Tax Credit (EITC) Tables."
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