Taxpayers may be surprised to know that, prior to the enactment of the Tax Cut and Jobs Act of 2017 (TCJA), under certain conditions illegal aliens or undocumented immigrants could be claimed as a dependent on individual tax returns, which also allowed the taxpayers to claim various tax credits. Section 10 of the TCJA has repealed the old law, making it now impossible to claim this dependency deduction. The law does still allow individuals to claim qualifying aliens for certain tax credits. There are tax preparer due diligence requirements for some of these tax credits, and a new provision in the TCJA extends due diligence to apply to individuals filing as heads of households [Internal Revenue Code (IRC) section 6695(g)].
This article discusses specific considerations when claiming dependency and tax credits for individuals without legal immigration status. The authors review the law prior to the TCJA as important foundational information for claiming tax credits under the new law, as well as for filing amended returns. It will also serve as future reference material when and if the newly enacted laws sunset on December 31, 2025.
Who Are Illegal/Undocumented Aliens?
There is no uniform definition of the term “illegal alien” that has been applied across all contexts; it appears in federal statutes, case law, and federal agency websites. The Department of Homeland Security (DHS) has jurisdiction over immigration matters. In the context of the e-verify system, DHS defines an illegal alien as “as a foreign national who (a) entered the United States without inspection or with fraudulent documentation or (b) who, after entering legally as a non-immigrant, violated status and remained in the United States without authority” (Glossary, DHS, 2018, http://bit.ly/2vOoFRl). Generally, illegal aliens are considered nonresidents, but there are exceptions, as discussed below.
An “alien” is an individual who does not have U.S. citizenship and is not a U.S. national [8 USC 1101(a)(3)]. U.S. tax laws take the view that one is either a resident alien or a nonresident alien. A resident alien will be treated as a U.S. citizen for tax purposes, while a nonresident alien is neither a citizen of the United States nor a resident alien. Immigration officials use other terms to describe non-residents, such as “aliens,” “illegal aliens,” or “undocumented non-citizen (aliens).”
Who Are Dependents?
A dependent is a qualifying child or a qualifying relative [IRC section 152(a)], but the term does not include an individual who is not a citizen or national of the United States unless such individual is a resident of the United States or a contiguous country [IRC section 152(b)(3)(A)]. The TCJA did not repeal the meaning of a qualifying child or relative, as it is applied for uses other than dependency deduction criteria. Therefore, the term “dependent” and its traditional meaning serve as an underlying basis for claiming tax credits.
Generally, qualifying dependents who are non-U.S. citizens can reside in Canada, Mexico, Puerto Rico, Guam, the U.S. Virgin Islands, American Samoa, or the Commonwealth of the Northern Mariana Islands.
It is worth noting that there is a difference between the terms “dependent” and “dependency deduction.” One must be a dependent to be claimed for a dependency deduction; however, one must also be a dependent to be claimed for certain tax credits. This article will use the term “dependent” to distinguish it from a “dependency deduction.” This article will use the phrase “claiming as a dependent” to generally mean that one can claim an individual as either a qualifying child or relative, for whatever lawful purpose that entails.
There is no uniform definition of the term “illegal alien” that has been applied across all contexts; it appears in federal statutes, case law, and federal agency websites.
How to Become a U.S. Resident for Tax Purposes
An alien has several possible paths to resident status. The most commonly known path is obtaining an alien registration number, also known as a green card, during any part of the tax year. The lesser known paths are passing a substantial presence or a first-year choice test.
Substantial presence test.
Under the substantial presence test [IRC section 7701(b)(3)], during the tax year in question, the potentially qualifying dependent must be in the United States for at least 31 days, and at least 183 equivalent days, calculated as follows:
- All the days present in the tax year in question, plus
- One-third of the days present in the preceding tax year in question, plus
- One-sixth of the days present in the second year preceding the tax year in question.
The “at least 31 days” requirement in the tax year in question is part of the 183-equivalent day requirement; that is, if a potentially qualifying dependent is present for 183 days during the tax year in question, that person does not have to be present an additional 31 days. For example, if a person is in the United States for 60 days in 2015, 99 days in 2016, and 140 days in 2017, he is considered substantially present, calculated as follows: (60 days × 1/6 = 10 days) + (99 days × 1/3 = 33 days) + 140 days = 183 equivalent days.
First-year choice test.
An alternative to the substantial presence test is the first-year election [IRC section 7701(b)(4)]. The following criteria must be met to qualify:
- The individual does not meet the substantial presence test the year the undocumented enters in the United States.
- The individual is not a resident of the United States in the calendar year immediately preceding the year he enters the United States.
- The individual is substantially present in the year after he enters the United States.
- The individual is present in the United States at least 31 consecutive days in the year he enters the United States.
- The individual is present in the United States in the year he enters for at least 75% of the time from entering until the end of the year (with up to five days allowed for absence).
An illegal alien will be treated as a resident of the United States for the portion of the year he is in the country. For example, if Tony enters the United States on October 1, 2017, and remains for the remainder of 2017 and all of 2018, an election can be made under the first-year choice test, since he was not a resident in 2016, is substantially present in 2018 (residing in the United States at least 183 days), and in the United States for more than 75% of the time in 2017. Tony will be considered a resident for tax purposes from October 1 until December 31, 2017.
The TCJA did not repeal the meaning of a qualifying child or relative, as it is applied for uses other than dependency deduction criteria.
Claiming a Qualifying Child
The IRS summarizes the requirements to be a qualifying child under five tests: relationship, age, residency, support, and joint return [IRC section 152(b)(3)(A)–(E)].
The child must be a lineal descendent of the taxpayer, or a lineal descendent of the taxpayer’s siblings or half-siblings; this includes adopted and foster children. Because illegal aliens do not possess an alien registration number, proving the relationship test may be more challenging. For minors, a taxpayer can apply for an Individual Taxpayer Identification Number (ITIN) by submitting a Form W-7. If taxpayers have an ITIN for the dependent, they should have some level of documentation to establish a relationship.
Under the age test, a qualifying child must be under age 19 or a full-time student under age 24 at the end of the year and younger than the taxpayer (or the taxpayer’s spouse, if filing jointly), or permanently and totally disabled at any time during the year, regardless of age. Generally, for illegal aliens, the age test is not a significant concern for those under age 19, especially if the dependent is an applicant for a green card. United States Customs and Immigration Services (USCIS) forms require the taxpayer to extensively document family relationships, including age.
The residency test for a qualifying child should not be confused with the citizenship or resident test. The tests are similar, because both require at least 183 days in residency; however, the citizenship or resident test can be met through the substantial presence test or first-year choice election, while the residency test must be met with residency during the tax year in a single household. Therefore, the scope of the citizenship or resident test broadly encompasses residence in the United States, Canada, or Mexico, while the qualifying child test narrowly requires residency in a single household. The qualifying child must have the same principal place of abode as the taxpayer for more than half of a taxable year; barring exceptions for temporary absences, children who were born or died during the year, kidnapped children, and children of divorced or separated parents.
To meet this test, the child cannot have provided more than half of her own support for the year. A concern is off-the-books income earned by potentially qualifying dependents. There is a widespread belief that illegal aliens or undocumented immigrants are more likely to work off the books and not report all income. Teenagers may work and earn enough money to provide over half of their own support, but not report the income, which may jeopardize passing the support test.
Claiming a Qualifying Relative
The IRS summarizes the requirements to be a qualifying relative under four tests: not a qualifying child, member of household or relationship, gross income, and support [IRC section 152(d)(1)(A)–(D)]. Unlike the qualifying child test, age is not of concern. Qualifying relatives are only limited to those who are residents of the United States, Canada, Mexico, Puerto Rico, Guam, the U.S. Virgin Islands, American Samoa, or the Commonwealth of the Northern Mariana Islands because the dependent must reside in one of those locations.
Not a qualifying child test.
A child cannot be the qualifying child of any taxpayer. It is not uncommon for illegal aliens or undocumented immigrants to live in a residence with several adults; this test prevents adults at such a residence from claiming a child as their qualifying relative when the child is in fact the qualifying child of another.
Member of household or relationship test.
To meet this test, a potentially qualifying dependent must either live with the taxpayer all year as a member of the household, or be related to the taxpayer as either 1) a sibling or half-sibling; 2) a lineal descendant, including step-, foster, and adopted children; 3) a direct or other ancestor; or 4) an in-law. Cousins, aunts, and uncles are excluded unless living with the taxpayer the whole year.
Gross income test.
To meet this test, an individual’s gross income (GI) for the calendar year in which such taxable year begins must be less than the exemption amount [as defined in section 151(d)]. In 2017, the exemption amount is $4,050. GI includes all income in the form of money, property, and services that are not exempt from tax and all taxable unemployment compensation. The TCJA did not overtly state how to measure the GI test in 2018 and beyond, nor has the IRS provided guidance at the time of this writing.
To meet this test, the taxpayer must provide over one-half of the individual’s total support for the calendar year in which such taxable year begins. Total support includes amounts spent to provide food, lodging, clothing, education, medical and dental care, recreation, transportation, and similar necessities. One area of common confusion is that food stamps, public house housing, or government medical insurance benefits are considered support provided by the state, not support provided by the taxpayer claiming the dependent.
Joint return and dependent taxpayer tests.
Potential dependents must also pass the dependency test [IRC section 152(b)(1)] and the joint return test [IRC section 152(b)(2)]. A taxpayer may not claim a dependent if that person could be claimed by another taxpayer. If an illegal alien is married, a taxpayer cannot claim that person as a dependent unless that joint return is filed only to claim a refund of withheld income tax or estimated tax paid.
The following discussion examines the specific tax credits that taxpayers with dependents who are illegal aliens can claim. They include the child tax credit, the American opportunity credit, and the child and dependent care credit, as well as a deduction for student loan interest. Note that taxpayers cannot claim illegal aliens as a qualifying person for the earned income credit, as a valid Social Security number is required.
Child tax credit (CTC).
Prior to the enactment of the TCJA, taxpayers could claim illegal aliens under the child tax credit [IRC section 24(h)]. Taxpayers could claim up to $1,000 per qualifying child, an amount that phased out as a taxpayer’s modified adjusted gross income (MAGI) reached threshold limits based on filing statuses. Effectively, an individual could be claimed as a qualifying child as long as the dependent met the qualifying child tests used for the dependency deduction and was under 17 at year end. In addition, a taxpayer identification number could be used in lieu of a Social Security number.
Although under the TCJA, the income thresholds before phasing out have increased and the credit has doubled, the qualifying child must now possess a valid Social Security number to receive the full benefit of the credit.
Although under the TCJA, the income thresholds before phasing out have increased to $400,000 for a married couple ($200,000 for other filing statuses), and the credit has doubled to $2,000 per qualifying child, the qualifying child must now possess a valid Social Security number to receive the full benefit of the credit. Per IRC section 24(h)(4), however, any taxpayer can claim a $500 nonrefundable child tax credit, as long as the dependent has a taxpayer identification number [TIN, per Treasury Regulations section 301.6109-1(a)(1)], resides in the United States, and meets either the qualifying child test or the qualifying relative test (with the modification of being a nonchild).
Camila, a DACA student, came to the United States with her parents when she was 10 years old. She is now 13 and meets the substantial presence test. Her parents applied for and obtained an ITIN for her, and she passes the qualifying child test for CTC purposes; therefore, her parents can claim up to a $500 nonrefundable credit, assuming sufficient earned income. Her parents cannot claim more than a $500 credit, however, because Camila does not have a Social Security number.
A dependent cannot obtain a Social Security number after the due date of the return and amend a tax return to claim a child tax credit refund. Per IRC section 24(h)(7)(B), the Social Security number must be disclosed prior to the due date of the return. The TCJA does not address whether the due date includes extensions.
American Opportunity Credit.
Individuals without legal immigration status can continue to qualify for the American Opportunity Credit (AOC) under the TCJA. Under the AOC, a taxpayer can claim up to a $2,500 tax credit per eligible student per tax year for qualified tuition expenses for the first four years of post-secondary education in a degree or certificate program. The credit is dollar-for-dollar credit for the first $2,000 spent and 25% for the next $2,000. The credit AGI is phased out between MAGI of $160,000 and $180,000 for a married couple filing jointly, and between $80,000 and $90,000 for others. The AOC is partially refundable up to 40% of the allowable credit. An ITIN qualifies as a TIN.
Liam came to the United States from Ireland with his parents on a tourist visa when he was 8 years old, and they never returned after the visa expired. Liam’s parents filed a W7 and obtained an ITIN for him. He is now 18 years old enrolled as a full-time undergraduate student in an accounting degree program at a local college. His parents lawfully claim their $75,000 income and pay all of Liam’s educational expenses, totaling $3,500 per year. Liam’s parents can claim an AOC because they meet the income limitations, the whole family meets the substantial presence test (and are U.S. residents for tax purposes), and Liam is a full-time student in a degree program. His parents can claim $2,375 in qualified tuition expenses (the first $2,000, plus 25% of the next $1,500) as a nonrefundable credit.
The TCJA significantly curtailed taxpayers’ ability to claim deductions and credits related to undocumented aliens, but the surviving credits and deductions can still be significant.
Note that the AOC is distinct from the lifetime learning credit, for which there is only vague guidance regarding whether an illegal alien can be claimed as a dependent.
Child and dependent care credit.
The child and dependent care credit (CDCC) remains intact under the TCJA. If a taxpayer paid expenses for the care of a qualifying individual to enable the taxpayer to work or actively look for work, the taxpayer may be able to claim a nonrefundable CDCC. The amount of the credit is limited to $3,000 for each qualifying person, and only two persons can be claimed.
A qualifying person is a qualifying child who is a dependent who is under age 13, or certain people who are not physically or mentally able to care for themselves, and who has lived with the taxpayer for more than half the year. The dependent must also be a qualifying child or a qualifying relative.
The credit is claimed on Form 2441. On line 2(b), the form asks the taxpayer to enter the qualifying person’s Social Security number; however, the instructions inform the taxpayer to use an ITIN or ATIN (adoption taxpayer identification number) if the qualifying person cannot get a Social Security number. Therefore, an illegal alien meeting the dependent tests can be a qualifying person. Incidentally, a care provider need only provide an ITIN to the taxpayer claiming the credit.
Wesley and Marie are illegal aliens residing and working in the U.S. since 2012. They arrived with their 1-year-old son, Yves. In 2013, they filed a Form W-7 and obtained ITINs for the whole family so they could properly report earned income. In 2017, Wesley and Marie calculated $50,000 in AGI. Because they work all day, they needed after school care for Yves, now attending first grade. They paid their friend Julie, who is also an illegal alien with an ITIN, $10,000 in qualifying childcare expenses. On Form 2441, line 2(b), Wesley and Marie will insert Yves’ ITIN. On line 1(c), they will insert Julie’s ITIN (even though Form 2441 states to insert a Social Security or employer identification number). The amount of the nonrefundable dependent and childcare credit will be $2,000 (20% of $10,000).
Student loan interest.
Although this is an above-the-line deduction and not a credit, a qualifying taxpayer could deduct interest paid on a qualified student loan on behalf of an illegal alien. The taxpayer cannot file as married filing separately and must have MAGI less than $165,000 if married filing jointly or $80,000 for others. The undocumented alien can be any person who was the taxpayer’s dependent when the loan was taken out; however, the dependent cannot have had gross income that was equal to or more than the exemption amount for that year ($4,050 for 2017).
Passing the Tests
Tax issues with respect to illegal aliens or undocumented immigrants can be complex. The TCJA significantly curtailed taxpayers’ ability to claim deductions and credits related to undocumented aliens, but the surviving credits and deductions can still be significant. CPAs can take comfort when consulted by individuals who would like to claim an undocumented alien; however, to help such individuals navigate meeting dependency tests, CPAs should stress the importance of candor, especially regarding the taxpayer’s lifestyle, living conditions, and family relationships. Although the burden of proof will be born by the taxpayer, tax preparers must abide by due diligence requirements with respect to claiming the credits discussed above.