Filing tax returns can quickly become quite complex, especially if you run a business. An important aspect of filing taxes is to know when and who you can claim as a dependent on your tax return. Dependents can help reduce your tax obligation and often allow you to claim a tax credit.
In this post, we’ll take a look at who the IRS legally defines as a dependent, learn who is a qualifying dependent, and discuss the benefits of claiming dependents on tax returns. We’ll discuss other relevant factors about claiming dependents on your tax return, along with obtaining an employer identification number (EIN) for your business.
Let’s dig right into the specifics of claiming dependents on taxes as outlined by the IRS.
What is a Dependent?
A dependent is defined as a child or other qualifying relative in your household that you financially support. For tax purposes, a dependent is a person who is not “the taxpayer or spouse” who qualifies as a dependent on another person’s tax return. Other dependents on tax return rules the IRS applies to qualifying individuals include:
● Dependent must be a U.S. citizen, resident alien, national, or a resident of Canada or Mexico
● Dependents cannot claim any dependents on their own tax returns
● Generally speaking, a person can only be claimed as a dependent on one tax return
● The person must get more than half their financial support from the taxpayer claiming them
● Dependent must have a valid Social Security number or other taxpayer identification number
To claim a dependent, the person must have lived with you for over half of the tax year (there are a handful of exceptions to this rule).
Important Things to Know About Dependents
Family members who you can claim as a dependent include your child(ren), stepchild(ren), siblings, half-siblings, or parents. In some cases, you may be able to claim a domestic partner as a dependent if they don’t support themselves. The age limit for dependents on tax return forms is as follows:
● The child must be under the age of 19 or, if a full-time student, under 24
● Dependents can be of any age if permanently and totally disabled
Claiming dependents on taxes is sometimes complex since the rules apply differently, depending upon your situation. The IRS uses qualifying factors for all types of dependents.
How the IRS determines if you have a qualifying child
To determine if you have a qualifying child, the IRS states a taxpayer’s situation must satisfy five tests to be a qualifying child. Factors the federal agency states you must satisfy include the following:
● Relationship test. An individual must be your child or a stepchild, foster child, sibling, or step-sibling (or a descendent of any of these individuals)
● Age test. The individual must be a) under 19 years old at the end of the tax year, b) under 24 years old if a full-time student and younger than the taxpayer, or c) any age if the individual has a permanent or total disability.
● Residency test. The individual must share a principal residence with the taxpayer for more than six months of the tax year. Some exceptions may apply.
● Support test. The individual must provide less than half of the money used to support them during the tax year.
● Joint return. The individual must not file a joint return for the tax year (the IRS gives an exception if the dependent is only filing to claim a refund of income tax withheld or estimated taxes they paid).
How the IRS determines if you have a qualifying relative
Similarly to the qualifying child test, the IRS sets four tests to determine qualifying relatives.
● It is not a qualifying child test. The individual cannot be your or another taxpayer’s qualifying child.
● Member of household/relationship test. The individual must reside in the taxpayer’s home all year as a member. Otherwise, they must be related as a child, stepchild, foster child, or their descendants. Other qualifying relatives include parents, step-parents, grandparents, or other direct ancestors, including aunts, uncles, nieces, nephews, and in-laws (father, mother, sister, or brother). Foster parents of the taxpayer do not qualify.
● Support test. Taxpayers must provide more than 50% of the dependent’s total support for the tax year.
● Gross income test. The dependent’s gross income for the year must be less than $5,500 in 2024 (this amount will undoubtedly change in future tax years). If the dependent is disabled and earns income from a sheltered workshop, this income is excluded from this test.
Benefits of Claiming Dependents on a Tax Return
As a taxpayer, claiming dependents on a tax return offers several benefits, ranging from cost savings to specific tax credits, tax deductions, and other advantages.
Common tax credits
The following types of tax credits are beneficial because, with a qualifying dependent, they reduce the amount of tax you owe on a dollar-for-dollar basis.
● Child Tax Credit
● Adoption Tax Credit
● Earned Income Tax Credit
● Child and Dependent Care Credit
● American Opportunity Tax Credit
These, along with other tax credits not necessarily connected to claiming dependents, can also help reduce your overall tax obligation. If you have a business, including a home business, you can also claim certain other credits.
Common tax deductions
Tax deductions are advantageous because they lower your overall taxable income, resulting in you owing less tax dollars. The following common tax deductions can apply if you have a qualifying dependent.
● Medical expense deductions
● Dental expense deductions
● Student loan interest deduction
When you combine these with other qualifying deductions, you can take a dent out of your tax bill and put more money back into your pocket.
Understanding head of household status
While not a tax credit or tax deduction, you can lower your tax bill if you’re eligible to claim head of household status. To be eligible, individuals using this tax status must meet the following conditions:
● Have a qualifying dependent
● Are unmarried on the last day of the tax year
● Paid more than half the cost of home upkeep during the year
An exception to the head of household status is if the qualifying dependent is your parent. Tax law does not require them to live in your physical home to claim this special tax status
Apply for EIN for Business Taxes
Many small business owners file their business tax returns within their individual tax returns. If they do not have any employees, they theoretically don’t need an Employer Identification Number (EIN). However, it is still a good idea for even the smallest of businesses to have one.
As a business owner without an EIN, it is difficult to separate your personal and business finances. You’ll also want to consider that you will have to provide your Social Security number to clients, vendors, and other potential agencies to include on their tax documents. This puts your SSN at risk of identity theft, whereas if you use an EIN instead, you can keep your SSN private.
How to obtain an EIN
To file your taxes, you’ll need your SSN, or you can also use an EIN for the business aspect of your tax return. If you don’t already have an EIN to use as a tax ID, it’s a good idea to obtain one. Here’s what you need to do.
● Check your eligibility
● Assemble necessary information
○ Company’s legal name
○ DBA (“doing business as”) designation
○ Business address
○ Business entity type
○ Date business commenced (either started or acquired)
● List the individual responsible for the business
● Include the taxpayer ID of the responsible person (either a Social Security number or an Individual Tax Identification Number)
● List the company’s business structure, e.g., sole proprietorship, partnership, LLC, or corporation
● Select the reason why you need an EIN
● Provide an estimated number of employees who currently work for you (or how many you plan to hire)
● Submit your EIN application and wait for a response
Obtaining an employer identification number for your small business is beneficial for many reasons, even if you technically do not need one to conduct business in the immediate future. Think about potential growth and needs your company may have in the more distant future.
Aside from filing taxes, you’ll need an EIN if you plan to hire employees, open business accounts, qualify for business loans, and apply for specific permits and licenses. By applying for your EIN now, you avoid delays down the road when you want to obtain funding, expand, or otherwise make strategic business moves.
Conclusion
Claiming dependents on a tax return can be beneficial financially, but you want to be 100% sure that you qualify. When filing your taxes, ensure you file your return correctly and do not claim a dependent who does not pass any qualifying tests, lest you potentially face costly fines and penalties.
Additionally, an incorrect tax return could result in an audit, and this is something every business should try to avoid since this process is stressful, drawn out, and potentially expensive.
Understanding the tax return rules about dependents can be challenging. However, working with an accountant, attorney, or other tax specialist can help you determine whether you can claim an individual as a dependent.