Earned Income Tax Credit and Pre Tax Deductions

The Earned Income Tax Credit (EITC) is a refundable tax credit that supplements the income of parents with qualifying children.  Pre tax payroll deductions lower the amount of your reportable W2 income, which in turns helps preserve eligibility for the Earned Income Tax Credit.

A Flexible Spending Account can be combined with pre tax health insurance elections to reduce your earned income, and generate significant tax savings.  See below for an example of how $7,000 in deductions might improve you positin with the Earned Income Tax Credit.

The Earned Income Tax Credit allows a filer with one qualifying child to receive a maximum credit of $2,853. For two or more qualifying children, the maximum credit is $4,716.

The IRS definitions for earned income, qualifying children, and credit calculation are very complex.  Please consult your tax advisor.

Here's the bottom line. .  The tax savings depends on where your net Earned Income falls relative to the phase in, plateau, and phase out figures.  With a maximum credit of $4,716 spread across $25,993 of Earned Income - your potential savings could be as much as $1,270. 

For our purposes, you need to know three key phrases and Earned Income figures (for 2007)

• Phase In - Where the tax credit begins to accumulate
  • 2 Children - $11,790
  • 1 Child - $8,391
• Plateau -  Where the tax credit peaks
  • 2 Children - $11,791
  • 1 Child - $15,399
• Phase Out - Where the tax credit moves to zero
  • 2 Children - $37,783
  • 1 Child - $33,241