Download Gulf Opportunity Zone Act of 2005

12/26/2005
The Gulf Opportunity Zone Act of 2005
Public Law 109-135
Signed into law by the President on 12/21/2005, the Gulf Opportunity Zone Act of 2005
provides tax benefits for businesses and individuals affected by Hurricanes Katrina, Rita,
and Wilma. The act also contains non-hurricane related provisions. The following is
TheTaxBook™ coverage of this new law.
Author’s comment. This law was passed after the printing of our 2005 tax year
edition. Many of these tax law changes apply to 2005 tax returns. We have
provided page references where information in our book is affected. If you have
clients affected by Hurricanes Katrina, Rita, or Wilma, we suggest that you print
and save the following coverage as a supplement to TheTaxBook™ and write
“See the Gulf Opportunity Zone Act of 2005 Supplement” at each location in
TheTaxBook™ that is referenced.
Gulf Opportunity Zone
The new law establishes three areas in the Gulf Opportunity Zone that qualify for special
tax provisions:
• Gulf Opportunity Zone (GO Zone): The portion of the Hurricane Katrina disaster area
declared by the President before September 14, 2005 to be eligible for federal
assistance.
• Rita GO Zone: The portion of the Hurricane Rita disaster area declared by the
President before October 6, 2005 to be eligible for federal assistance.
• Wilma GO Zone: The portion of the Hurricane Wilma disaster area declared by the
President before November 14, 2005 to be eligible for federal assistance.
Special Depreciation Allowance
Page 9-16, TheTaxBook™. The 50% special depreciation allowance has been extended
for qualified Gulf Opportunity Zone property.
Qualified property. The term Qualified Gulf Opportunity Zone property means:
• Property that is one of the following:
1) Tangible property with a recovery period of 20 years or less, or
2) Computer software that is available for purchase by the general public, or
3) Water utility property, or
4) Qualified leasehold improvement property (See TheTaxBook™ page 9-17 for a
definition of qualified leasehold improvement property), or
5) Nonresidential real property or residential rental property.
• Property for which substantially all of the use is in the Gulf Opportunity Zone by a
trade or business.
• Property for which the original use of the property in the Gulf Opportunity Zone
began with the taxpayer, and was purchased by the taxpayer on or after August 28,
2005 (no written binding contract for the acquisition was in place prior to August 28,
2005), and placed in service on or before December 31, 2007 (December 31, 2008, in
the case of nonresidential real property and residential rental property). Note: This
means used property may qualify so long as it has not previously been used within the
Gulf Opportunity Zone. In addition, additional capital expenditures incurred to
recondition or rebuild property original used in the Gulf Opportunity Zone by the
taxpayer will satisfy the original use requirement.
Exceptions: The term Qualified Gulf Opportunity Zone property does not apply to any of
the following:
• Property subject to the alternative depreciation system rules (ADS).
• Tax-exempt bond financed property.
• Qualified revitalization buildings where the taxpayer has made an election under
Section 1400I(a).
• Any class of property for which the taxpayer makes an election not to claim the 50%
bonus depreciation allowance.
AMT. The 50% bonus depreciation deduction is also allowed for purposes of computing
the alternative minimum tax.
Recapture rules. The benefit of the 50% bonus depreciation deduction must be
recaptured for any qualified Gulf Opportunity Zone property which ceases to be qualified
Gulf Opportunity Zone property during its recovery period.
Real property. The provision allowing 50% special depreciation allowance for
nonresidential real property and residential rental property is similar to the provision
allowing the 30% special depreciation allowance for nonresidential real property and
residential rental property located in the New York Liberty Zone.
Extension of time. The law also authorizes the IRS to grant taxpayers affected by
Hurricane Katrina, Hurricane Rita, or Hurricane Wilma an extension of time up to one
year to place assets in service in order to qualify for the special depreciation allowance
provided by the Jobs and Growth Tax Relief Reconciliation Act of 2003. The IRS is to
consider an extension of time on a taxpayer by taxpayer basis, determined by only taking
into account the effect of one or more hurricanes on the date property is placed in service.
Elect out. Taxpayers can elect out of the special depreciation allowance.
Section 179 Expense
Page 9-15, TheTaxBook™. The maximum Section 179 deduction is increased by the
lesser of $100,000, or the cost of qualified Section 179 Gulf Opportunity Zone property
placed in service during the year. The investment limit in Section 179 is increased by the
lesser of $600,000, or the cost of qualified Section 179 Gulf Opportunity Zone property
placed in service during the year. This means a business located in the Gulf Opportunity
Zone can expense up to $205,000 under Section 179 during 2005.
Qualified Section 179 Gulf Opportunity Zone property. The increased Section 179
expense provision applies to qualified Section 179 Gulf Opportunity Zone property
acquired on or after August 28, 2005, and placed in service on or before December 31,
2007. The $25,000 overall SUV limit under the regular Section 179 rules is unchanged by
this new law.
Recapture rules. The benefit of the increased Section 179 deduction must be recaptured
for any qualified Section 179 Gulf Opportunity Zone property which ceases to be
qualified Section 179 Gulf Opportunity Zone property during its recovery period.
Empowerment zones and renewal communities. For purposes of the increased Section
179 deduction for empowerment zones and renewal communities, qualified section 179
Gulf Opportunity Zone property will not be treated as qualified zone property or qualified
renewal property, unless the taxpayer elects not to take such qualified section 179 Gulf
Opportunity Zone property into account.
Demolition and Clean-up Costs
Page 8-7, TheTaxBook™. A taxpayer may elect to treat 50% of qualified Gulf
Opportunity Zone clean-up costs as current expenses rather than add them to the cost
basis of the land where the demolished structure was located. Qualified Gulf Opportunity
Zone clean-up costs means amounts paid or incurred during the period beginning on
August 28, 2005, and ending on December 31, 2007, for the removal of debris from, or
the demolition of structures on real property located in the Gulf Opportunity Zone. The
real property must be used by the taxpayer in a trade or business, or for the production of
income, or held as inventory by the business.
Net Operating Losses
Page 8-15, TheTaxBook™. If a portion of an NOL for any year is a qualified Gulf
Opportunity Zone loss, the following rules apply:
• The 2-year carryback period is increased to a 5-year carryback period.
• The NOL is not taken into account in determining a casualty or presidentially
declared disaster NOL (3-year carryback).
• The 90% of AMT income limitation in calculating the alternative tax net operating
loss deduction does not apply.
• The portion of the NOL that is a qualified Gulf Opportunity Zone loss is the lesser of:
1) The excess of:
a) The NOL for the year, over
b) The specified liability loss for the year that qualifies for the 10-year carryback
period, or
2) The total of the following to the extent taken into account in computing the NOL
for the year:
a) Any deduction for a qualified Gulf Opportunity Zone casualty loss.
b) Any deduction for moving expenses after August 27, 2005, and before
January 1, 2008 if the taxpayer’s principal residence was located in the Gulf
Opportunity Zone before August 28, 2005, the taxpayer was not able to
remain in the residence due to Hurricane Katrina, and the taxpayer’s place of
employment after the moving expense is located in the Gulf Opportunity
Zone. Moving expenses used in computing a qualified Gulf Opportunity Zone
loss may include moving costs to move back into the same residence if the
initial vacating of the residence was caused by Hurricane Katrina.
c) Expenses after August 27, 2005, and before January 1, 2008, to temporarily
house an employee of the taxpayer whose principal place of employment is in
the Gulf Opportunity Zone.
d) A deduction for the 50% special depreciation allowance for qualified Gulf
Opportunity Zone property.
e) Deductions allowed for repair expenses, including expenses for removal of
debris, paid or incurred after August 27, 2005, and before January 1, 2008,
with respect to damages caused by Hurricane Katrina to property located in
the Gulf Opportunity Zone.
Tax Benefits Not Available to Certain Property
Property used in connection with a private or commercial golf course, country club,
massage parlor, hot tub facility, suntan facility, liquor store, gambling, or animal racing
property cannot take advantage of any of the following Gulf Opportunity Zone tax
provisions:
• The extension of the 50% special depreciation allowance for new qualified Gulf
Opportunity Zone property purchased on or after August 28, 2005.
• The increase of the Section 179 deduction for the cost of qualified Section 179 Gulf
Opportunity Zone property placed in service during the year.
• Using the 50% special depreciation allowance or a casualty loss in calculating a
qualified Gulf Opportunity Zone net operating loss.
Education Tax Benefits
Page 12-2, TheTaxBook™. Students who attend college or other eligible educational
institutions located in the Gulf Opportunity Zone during 2005 or 2006 can take advantage
of the following expanded provisions when claiming the Hope and Lifetime learning
credits:
• Expenses eligible for the credits are expanded to include the cost of room and board
for students enrolled at least half-time, as well as tuition, fees, books, supplies, and
equipment required for the student’s enrollment.
• The dollar amounts for calculating the Hope Scholarship credit are doubled. For
example, in 2005, the Hope credit is 100% of the first $2,000 of eligible expenses,
and 50% of the next $2,000 of eligible expenses, for a maximum credit of $3,000.
• The percentage for calculating the Lifetime Learning credit is doubled to 40%. For
example, in 2005, the maximum Lifetime Learning credit is 40% of the first $10,000
of eligible expenses, or $4,000.
Employer Provided Housing Benefits
Page 13-27, TheTaxBook™. The following tax benefits apply if an employer furnished
housing located in the Katrina Go Zone to individuals affected by Hurricane Katrina:
• An employee can exclude the value of employer provided housing benefits from
income, including the benefit provided to the employee’s spouse and dependents. The
exclusion is limited to $600 for each month that lodging is furnished.
• An employer can claim a tax credit for housing employees affected by Hurricane
Katrina. The credit equals 30% of amounts excludable from a qualified employee’s
gross income that are not otherwise excludable under Section 119.
Qualified employee. For purposes of the special employer provided housing benefit
rules, a qualified employee is an individual who had a principal residence in the Gulf
Opportunity Zone on August 28, 2005, and worked in the Gulf Opportunity Zone for an
employer which furnished lodging to such individual. A person related to the employer is
not a qualified employee. For example, an employee who owns more than 50% of a
corporation that is his or her employer is not a qualified employee. Similar rules apply to
employees of a controlled group of corporations and employees of partnerships and
proprietorships which are under common control.
Qualified employer. For purposes of the special employer provided housing benefit
rules, a qualified employer is an employer with a trade or business located in the Gulf
Opportunity Zone.
Time period. The exclusion and tax credit for employer provided housing applies to
lodging furnished to an employee beginning January 1, 2006 and ending on July 1, 2006.
Child Tax Credit and Earned Income Credit
Page 1-13, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. In the case of a
qualified individual, if the earned income for 2005 (calendar year taxpayer) is less than
the earned income for 2004, the taxpayer can elect to calculate the refundable portion of
the Child Tax Credit and the Earned Income Credit by substituting 2004 earned income
for 2005 earned income.
Qualified individual. For purposes of this rule, a qualified individual means any
individual whose principal place of residence on
• August 25, 2005 for Hurricane Katrina,
• September 23, 2005 for Hurricane Rita, or
• October 23, 2005 for Hurricane Wilma,
was located in the core disaster area, or in the hurricane disaster area (but outside the core
disaster area) and such individual was displaced from his or her principal residence by
reason of the hurricane.
Earned Income. Has the same meaning as earned income for purposes of calculating the
Earned Income Credit.
MFJ. For a joint return in 2005, these rules apply if either spouse is a qualified
individual, and the earned income of the taxpayer for 2004 is the sum of the earned
income of each spouse for 2004.
Uniform application of election. If the taxpayer elects to use these rules, they must be
used for purposes of calculating both the Child Tax Credit and the Earned Income Credit.
No effect on determination of gross income. This rule does not change the determination
of the amount of income included in gross income. The substituting of 2005 earned
income with 2004 earned income only applies with regard to calculation of the credits,
not the calculation of gross income.
Casualty Losses Limitations Suspended
Page 1-13, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. The 10% AGI
limitation and the $100 per casualty reduction does not apply to casualty losses in the
hurricane disaster area on or after:
• August 25, 2005 for losses attributable to Hurricane Katrina,
• September 23, 2005 for losses attributable to Hurricane Rita, or
• October 23, 2005 for losses attributable to Hurricane Wilma.
In the case of any other losses, the casualty loss rules are applied without regard to the
losses from the hurricanes.
Temporary Suspension of Limitations on Charitable Contributions
Page 1-13, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. Taxpayers can
elect to not have the 50%, 30%, and 20% AGI limits for individuals, and the 10% of
taxable income limit for C corporations apply to qualified charitable contributions. In
place of these limits, qualified contributions are allowed to the extent they do not exceed
100% of AGI (without regard to NOLs) for individuals, and 100% of taxable income for
C corporations.
Itemized Deduction Limits Do Not Apply. The reduction of itemized deductions for
taxpayers with AGI over $145,950 ($72,975 MFS) does not apply to the portion of the
itemized deductions attributable to qualified contributions paid during the year.
Qualified contributions. Refers to any charitable contribution paid during the period
beginning on August 28, 2005 and ending on December 31, 2005 in cash to a charitable
organization (other than a private foundation). In the case of a C corporation, the
contribution must be paid for relief efforts related to one of the hurricanes (not a
requirement for individuals). A qualified contribution does not include amounts
segregated into an account where the donor has some kind of advisory privileges with
respect to distributions or investments by reason of the donor’s status as a donor.
Partnerships and S corporations. The election to have the provisions of these rules
apply is made at the partner or shareholder level.
Qualified Hurricane Distributions from Retirement Plans and IRAs
Page 1-14, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. Qualified
hurricane distributions are defined as any distribution from an employer qualified
retirement plan or IRA made on or after:
• August 25, 2005, and before January 1, 2007, to an individual whose principal place
of residence on August 28, 2005, is located in the Hurricane Katrina disaster area and
who sustained an economic loss by reason of the hurricane.
• September 23, 2005, and before January 1, 2007, to an individual whose principal
residence on September 23, 2005, is located in the Hurricane Rita disaster area and
who has sustained an economic loss by reason of the hurricane.
• October 23, 2005, and before January 1, 2007, to an individual whose principal
residence on October 23, 2005, is located in the Hurricane Wilma disaster area and
who has sustained an economic loss by reason of the hurricane.
The following rules apply to qualified hurricane distributions:
• Qualified distributions have a lifetime limit of $100,000 per individual.
• The 10% early withdrawal penalty under Section 72(t) does not apply.
• The mandatory 20% federal income tax withholding rules on distributions from
qualified plans do not apply.
• The restriction on not allowing 401(k), 403(b) or 457 distributions until after
separation from service, death, disability, or reaching age 59½ (70½ for 457 plans)
does not apply.
• Taxpayers have up to 3 years to rollover funds into another qualified retirement plan
or IRA to avoid tax on the distribution.
• A rollover is treated as if it is a trustee to trustee transfer, meaning the rules that limit
rollovers to once per year do not apply.
• Unless the taxpayer elects otherwise, any taxable distribution (because it was not
rolled over) is included in gross income ratably over the 3-taxable year period
beginning with the year of distribution. For this purpose, the same rules that applied
to 1998 Roth IRA conversions apply. For example, one of the rules required that if
the individual dies during the income inclusion period, any remaining amounts are
reported on the decedent’s final return, unless the surviving spouse is the beneficiary.
Cancellation of Plans to Purchase or Construct a Home
Page 1-14, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. If a taxpayer
had taken a qualified distribution from a retirement plan or IRA to purchase or construct
a principal residence in a hurricane disaster area, but such plans were cancelled because
of the hurricane, the following rules apply:
• Any amounts contributed back into a qualified retirement plan or IRA during the
period beginning on
1) August 25, 2005 for Hurricane Katrina,
2) September 23, 2005 for Hurricane Rita, or
3) October 23, 2005 for Hurricane Wilma,
and ending on February 28, 2006 are treated as tax free rollovers.
• The original qualified distribution to purchase or construct a principal residence must
have been received after February 28, 2005 and before:
1) August 29, 2005 for Hurricane Katrina,
2) September 24, 2005 for Hurricane Rita, or
3) October 24, 2005 for Hurricane Wilma.
• The qualified distribution to purchase or construct a principal residence must have
been made under one of the following:
1) A hardship distribution from a 401(k) plan,
2) A distribution from a 403(b) plan due to attaining age 59½, separation from
service, death, disability or financial hardship, or
3) A distribution from an IRA for a first time home buyer. The same definition as the
exception to the 10% early withdrawal penalty for a first time home buyer applies.
Loans from Qualified Plans
Page 1-15, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. Under Section
72(p), qualified retirement plans can allow participants to borrow money from their plan,
up to $50,000, if the loan is repaid within 5 years. IRAs do not allow participants to
borrow from the account. A participant can borrow the lesser of:
• $50,000, or
• The greater of:
1) $10,000, or
2) 50% of the participant’s nonforfeitable accrued benefit in the plan.
Exception for Hurricanes Katrina, Rita, and Wilma. An individual whose principal
residence on
• August 28, 2005 was located in the Hurricane Katrina disaster area,
• September 23, 2005 was located in the Hurricane Rita disaster area, or
• October 23, 2005 was located in the Hurricane Wilma disaster area,
and who sustained an economic loss due to one of the hurricanes can borrow from his or
her qualified retirement plan under the following terms:
• Maximum amount that can be borrowed is increased to $100,000.
• The maximum amount that can be borrowed is not subject to the 50% of the
participant’s nonforfeitable accrued benefit rule.
• The loan must be made sometime after:
1) September 23, 2005 and before January 1, 2007 in the case of Hurricane Katrina.
2) December 21, 2005, and ending on December 31, 2006 in the case of Hurricane
Rita and Wilma.
If a qualified individual described above had an outstanding loan on or after August 25,
2005 from a qualified employer plan, the following applies:
• If the due date for repayment occurs during the period beginning on
1) August 25, 2005 in the case of Hurricane Katrina,
2) September 23, 2005 in the case of Hurricane Rita, or
3) October 23, 2005 in the case of Hurricane Wilma,
and ending on December 31, 2006, the due date is delayed for one year.
• Any subsequent repayments shall be appropriately adjusted to reflect the repayment
delay.
• The delay period is not counted towards the 5 year repayment schedule requirement.
Employee Retention Credit for Employers Affected by the Hurricanes
Page 1-15, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. An eligible
employer is allowed a tax credit equal to 40% of the first $6,000 of qualified wages paid
to an eligible employee under the Employee Retention Credit.
Eligible employer. One who conducted an active trade or business on:
• August 28, 2005 in a core disaster area and is inoperable on any day after August 28,
2005 and before January 1, 2006 as a result of damage sustained by Hurricane
Katrina.
• September 23, 2005 in a core disaster area and is inoperable on any day after
September 23, 2005 and before January 1, 2006 as a result of damage sustained by
Hurricane Rita.
• October 23, 2005 in a core disaster area and is inoperable on any day after October
23, 2005 and before January 1, 2006 as a result of damage sustained by Hurricane
Wilma.
Under the original Katrina rules, an eligible employer did not include a business that
employed on average more than 200 employees. The new law retroactively eliminates
this restriction.
Eligible employee. One whose principal place of employment on:
• August 28, 2005 in the case of Hurricane Katrina,
• September 23, 2005 in the case of Hurricane Rita, or
• October 23, 2005 in the case of Hurricane Wilma.
was with the employer in a core disaster area.
Qualified wages. For purposes of this credit, qualified wages means wages paid or
incurred on any day after:
• August 28, 2005 and before January 1, 2006 in the case of Hurricane Katrina,
• September 23, 2005 and before January 1, 2006 in the case of Hurricane Rita, or
• October 23, 2005 and before January 1, 2006 in the case of Hurricane Wilma,
which occurs during the period beginning on the date the trade or business first became
inoperable at the location affected by the hurricane, and ending on the date the trade or
business resumes significant operations at that location. Qualified wages can include
wages for which the employee performs no services, performs services at a different
location, or performs services at the inoperable location before significant operations
have resumed.
No double benefit. An employee is not an eligible employee for purposes of this credit if
the employer is allowed to claim the Section 51 Work Opportunity Tax Credit on the
employee during the period. The Employee Retention Credit is part of the General
Business Credit.
Work opportunity credit. The new law did not extend the special work opportunity tax
credit for Hurricane Katrina employees to business affected by Hurricanes Rita or Wilma
(covered on page 1-15 in TheTaxBook™).
Extension of Deadlines
Page 1-15, TheTaxBook™. The same extension of deadlines under the Katrina
Emergency Tax Relief Act of 2005 has been extended to victims of Hurricanes Rita and
Wilma. In the case of any taxpayer affected by the Presidentially declared disasters
relating to the three hurricanes, any relief provided by the IRS shall be for a period
ending not earlier than February 28, 2006. This applies to deadlines for filing tax returns
and making payments for income, estate, gift, excise, and employment taxes.
Mortgage Revenue Bonds
Page 1-15, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. The new law
allows taxpayers whose homes were rendered uninhabitable by any of the hurricanes to
qualify for low interest rate mortgages without the first-time homebuyer requirement. The
law also allows up to $150,000 of loan proceeds to be used to repair damaged homes. The
new law also extends this provision through 2010 instead of 2007 for victims of all three
Hurricanes.
Dependency Status
Page 1-15, TheTaxBook™. The same provision under the Katrina Emergency Tax Relief
Act of 2005 has been extended to victims of Hurricanes Rita and Wilma. The IRS is
directed to see to it that taxpayers do not lose any deduction or credit or experience a
change of filing status by reason of temporary relocations by reason of hurricanes
Katrina, Rita, or Wilma. The IRS shall also ensure that an individual is not taken into
account by more than one taxpayer with respect to the same tax benefit.
Other Provisions Related to the Hurricanes
The new law also contains the following provisions:
• Authorizes the issuance of Gulf Opportunity Zone bonds as tax-exempt facility bonds
to be used mainly for the cost of acquisition, construction, reconstruction, and
renovation of nonresidential real and residential rental property and public utility
property in the GO Zone.
• Expresses the sense of Congress that the Secretary of the Treasury should designate a
series of bonds or certificates as Gulf Coast Recovery Bonds in response to
Hurricanes Katrina, Rita, and Wilma.
• Allows the issuance of mortgage revenue bonds and qualified veterans’ mortgage
bonds in the GO Zone.
• Increases low-income housing credit dollar amounts in the GO Zone.
• Extends expensing for environmental remediation costs in connection with a
contaminated site located in the GO Zone.
• Increases the rehabilitation credit with respect to qualified rehabilitated buildings or
certified historic structures located in the GO Zone.
• Increases the expensing allowance for reforestation costs of small timber producers
(500 acres or less) located in the GO Zone, the Rita GO Zone, or the Wilma GO
Zone.
• Allows small timber producers located in the GO Zone, the Rita GO Zone, and the
Wilma GO Zone to receive 5-year NOL carryback treatment as a farming loss.
• Increases the limit for public utility casualty losses incurred in the GO Zone.
• Allows a tax credit for investment in Gulf Tax Credit bonds issued by the states of
Alabama, Louisiana, or Mississippi after December 31, 2005, and before January 1,
2007.
• Increases the new markets tax credit for qualified community development entities
that make qualified low-income community investments within the Gulf Opportunity
Zone.
Other Provisions Not Related to the Hurricanes
Combat pay. TheTaxBook™, page 11-5: For purposes of the earned income credit, if a
taxpayer was a member of the U.S. Armed Forces and served in a combat zone, the
taxpayer could elect to include the nontaxable combat pay in earned income when
figuring the EIC. This provision was set to expire on January 1, 2006. The new law
extends this provision until January 1, 2007.
Children of divorced or separated parents. TheTaxBook™, page 3-14: Under the
Working Families Tax Relief Act of 2004, a provision in the code allowed a noncustodial
parent to treat his or her child as a qualifying child or qualifying relative if among other
requirements, a decree of divorce or separate maintenance or written separation
agreement between the parents that applied to 2005 provided that the noncustodial parent
could claim the child as a dependent. Section 152(e)(2) has been amended to delete this
provision. Under the new law, a noncustodial parent can only claim a dependency
exemption deduction if the custodial parent signs Form 8332, or a substantially similar
statement, that he or she will not claim the child as a dependent in 2005.
Another new provision that applies to children of divorced parents is that for purposes of
determining the support of a child in the case of a remarriage, support provided by a new
spouse of a parent is treated as being provided by that parent. This rule is applicable
because in order for the member of household test for a qualifying child to apply to a
noncustodial spouse, one or both parents combined must provide over half of the child’s
support for the year.
Example: Roxi and Danny are divorced with a 10 year old son named Jesse, who
lives with his mother Roxi. Danny provides about 25% of Jesse’s support through
child support payments. Roxi is remarried to Chuck, who supports both Roxi and
75% of Jesse’s support. Roxi has no income. Without this new law, it was not
clear whether Roxi could sign over the dependency exemption to Danny. The
special rule for divorced parents requires over one-half of the child’s support
during the year to come from the parents, and Chuck is not a parent. Under the
new rules, Chuck’s support of Jesse is counted as coming from Roxi.
Technical corrections. The new law provides numerous technical corrections and
clerical corrections to previous laws dating all the way back to 1987.
Copyright 2005, Tax Materials, Inc.
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