Publication 17
Your Federal Income Tax

For Individuals

For use in preparing 2002 Returns

38. Other Credits

Important Changes

Adoption credit.   This credit, part of which was scheduled to end after 2001, has been permanently extended. In addition, beginning in 2002, the maximum adoption credit has been increased to $10,000. The income limit based on modified adjusted gross income (AGI) has also increased. A modified AGI of more than $150,000 will reduce your credit. No credit will be available if your modified AGI is $190,000 or more. See Adoption Credit, later.

Retirement savings contributions credit.   If you contribute to an individual retirement arrangement (IRA) or to a retirement plan sponsored by your employer, you may qualify for a tax credit of up to $1,000 ($2,000 if married filing jointly). This credit begins in 2002 and will be in effect through 2006. See Retirement Savings Contributions Credit, later.

Excess withholding of social security tax and tier 1 railroad retirement tax.   Social security and tier 1 railroad retirement tax (RRTA) are both withheld at a rate of 6.2% of wages. The maximum wages subject to this tax increased to $84,900 in 2002. If you had two or more employers and they withheld too much social security or RRTA tax during 2002, you may be entitled to a credit of the excess withholding. For more information about the credit, see Credit for Excess Social Security Tax or Railroad Retirement Tax Withheld under Refundable Credits, later.

Health insurance credit.   Beginning December 2002, there is a new credit based on health insurance premiums paid by certain workers who are displaced by foreign trade or who are receiving a pension from the Pension Benefit Guarantee Corporation. See Health Insurance Credit at the end of this chapter.

Introduction

This chapter discusses the following credits.

• Adoption credit.
• Foreign tax credit.
• Mortgage interest credit.
• Retirement savings contributions credit.
• Credit for prior year minimum tax.
• Credit for electric vehicles.
• Credit for excess social security tax or railroad retirement tax withheld.
• Credit for tax on undistributed capital gain.
• Health insurance credit.

Several other credits are discussed in other chapters in this publication.

• Child and dependent care credit (chapter 33).
• Credit for the elderly or the disabled (chapter 34).
• Child tax credit (chapter 35).
• Education credits (chapter 36).
• Earned income credit (chapter 37).

Nonrefundable credits.   The first part of this chapter, Nonrefundable Credits, covers six credits that you subtract directly from your tax. These credits may reduce your tax to zero. If these credits are more than your tax, the excess is not refunded to you.

Refundable credits.   The second part of this chapter, Refundable Credits, covers three credits that are treated as payments and are refundable to you. These credits are added to the federal income tax withheld and any estimated tax payments you made. If this total is more than your total tax, the excess will be refunded to you.

Useful Items

You may want to see:

Publication

• 502   Medical and Dental Expenses
• 514   Foreign Tax Credit for
  Individuals
• 530   Tax Information for First-Time Homeowners
• 535   Business Expenses
• 564   Mutual Fund Distributions
• 590   Individual Retirement Arrangements (IRAs)
• 968   Tax Benefits for Adoption

Form (and Instructions)

• 1116   Foreign Tax Credit (Individual, Estate, or Trust)
• 2439   Notice to Shareholder of Undistributed Long-Term Capital Gains
• 8396   Mortgage Interest Credit
• 8801   Credit For Prior Year Minimum Tax - Individuals, Estates, and Trusts
• 8828   Recapture of Federal Mortgage Subsidy
• 8834   Qualified Electric Vehicle Credit
• 8839   Qualified Adoption Expenses
• 8880   Credit for Qualified Retirement Savings Contributions
• 8885   Health Insurance Credit for Eligible Recipients

Nonrefundable Credits

The following credits are discussed in this part.

• Adoption credit.
• Foreign tax credit.
• Mortgage interest credit.
• Retirement savings contributions credit.
• Credit for prior year minimum tax.
• Credit for electric vehicles.

Adoption Credit

You may be able to take a tax credit of up to $10,000 for qualifying expenses paid to adopt an eligible child.

If your modified adjusted gross income (AGI) is more than $150,000, your credit is reduced. If your modified AGI is $190,000 or more, you cannot claim the credit.

Prior-law dollar limits of $5,000 ($6,000 for special needs child) continue to apply to expenses paid or incurred before 2002, even if you are determining the credit for a year after 2001.

Qualifying expenses.   Qualifying adoption expenses are reasonable and necessary adoption fees, court costs, attorney fees, traveling expenses (including amounts spent for meals and lodging) while away from home, and other expenses directly related to, and whose principal purpose is for, the legal adoption of an eligible child.

Nonqualifying expenses.   Qualifying adoption expenses do not include expenses:

• That violate state or federal law,
• For carrying out any surrogate parenting arrangement,
• For the adoption of your spouse's child,
• Paid using funds received from any federal, state, or local program,
• Allowed as a credit or deduction under any other federal income tax rule, or
• Paid or reimbursed by your employer or any other person or organization.

Eligible child.   The term eligible child means any individual:

1. Under 18 years old, or
2. Physically or mentally incapable of caring for himself or herself.

Child with special needs.   An eligible child is a child with special needs if:

1. He or she is a citizen or resident of the United States (including the District of Columbia and U.S. possessions) and
2. A state determines that the child cannot or should not be returned to his or her parents' home and probably will not be adopted unless adoption assistance is provided to the adoptive parents.

Factors used by states to determine if a child has special needs could include:

• The child's ethnic background,
• The child's age,
• Whether the child is a member of a minority or sibling group, or
• Whether the child has a medical condition or physical, mental, or emotional handicap.

A foreign child cannot be treated as a child with special needs.

Foreign child.   If the child is not a U.S. citizen or resident, you cannot take the credit unless the adoption becomes final.

When to claim the credit.   Generally, for any year before the adoption becomes final, you take the credit in the year after your qualified expenses are paid or incurred. See Publication 968 for more specific information on when to claim the credit.

How to claim the credit.   To claim the credit, you must complete Form 8839 and attach it to your Form 1040 or Form 1040A. Enter the credit on line 51, Form 1040, or line 34, Form 1040A.

Foreign Tax Credit

You generally can choose to claim income taxes you paid or accrued during the year to a foreign country or U.S. possession as a credit against your U.S. income tax. Or, you can deduct them as an itemized deduction (see chapter 24).

You cannot take a credit (or deduction) for foreign income taxes paid on income that is exempt from U.S. tax under the foreign earned income exclusion or the foreign housing exclusion.

Limit on the credit.   Your foreign tax credit cannot be more than your U.S. tax liability (line 42, Form 1040) multiplied by a fraction. The numerator of the fraction is your taxable income from sources outside the United States. The denominator is your total taxable income from U.S. and foreign sources. See Publication 514 for more information.

How to claim the credit.   Complete Form 1116 and attach it to your Form 1040. Enter the credit on line 45, Form 1040.

Election not to file Form 1116.   You will not be subject to the limit and may be able to claim the credit without using Form 1116 if all the following requirements are met.

1. You are an individual.
2. Your only foreign source income for the tax year is passive income (dividends, interest, royalties, etc.) that is reported to you on a payee statement (such as a Form 1099-DIV, Dividends and Distributions, or 1099-INT, Interest Income).
3. Your qualified foreign taxes for the tax year are not more than $300 ($600 if filing a joint return) and are reported on a payee statement.
4. You elect this procedure for the tax year.

If you qualify and elect not to file Form 1116, enter the amount of your foreign taxes paid on line 45, Form 1040.

If you make this election, you cannot carry back or carry over any unused foreign tax to or from this tax year.

Mortgage Interest Credit

Mortgage credit certificates issued by state and local governments may entitle a certificate holder to a mortgage interest credit. The certificate must be used in connection with the purchase, qualified rehabilitation, or qualified home improvement of the certificate holder's main home.

Who qualifies.   You may be able to claim a mortgage interest credit if you were issued a mortgage credit certificate (MCC) under a qualified MCC program. The MCC must relate to your main home.

Amount of credit.   If your mortgage is equal to (or smaller than) the certified indebtedness amount (loan) shown on your MCC, you multiply the certified credit rate, shown on your MCC, by all the interest you paid on your mortgage during the year.

If your mortgage is larger than the certified indebtedness amount shown on your MCC, you multiply the certified credit rate (shown on your MCC) by only the interest allocated to the certified indebtedness amount shown on your MCC.

If someone else (other than your spouse if filing jointly) also holds an interest in your home, you must divide the credit based on each person's interest. See Publication 530 for further information.

If the certificate credit rate is more than 20%, the credit cannot be more than $2,000.

Carryforward.   If your allowable credit is more than your tax liability reduced by certain credits, you can carry forward the unused portion of the credit to your next 3 tax years or until used, whichever comes first.

If you are subject to the $2,000 limit because your certificate credit rate is more than 20%, no amount over the $2,000 (or your prorated share of the $2,000 if you must allocate the credit) may be carried forward.

How to claim the credit.   Figure your 2002 credit and any carryforward to 2003 on Form 8396, and attach it to your Form 1040. Be sure to include any credit carryforward from 1999, 2000, and 2001.

Include the credit in your total for line 52, Form 1040, and check box a.

Reduced home mortgage interest deduction.   If you claim the credit and itemize your deductions on Schedule A (Form 1040), you must reduce your home mortgage interest deduction. Reduce your deduction by the amount on line 3 of Form 8396, even if part of that amount is to be carried forward to 2003. For more information about the home mortgage interest deduction, see chapter 25.

Recapture of federal mortgage subsidy.   If you received an MCC with your mortgage loan, you may be subject to a recapture rule. The recapture may be required if you sell or dispose of your home at a gain during the first 9 years after the date you closed your mortgage loan. See Publication 523, Selling Your Home, for more information.

Retirement Savings Contributions Credit

Beginning in 2002, you may be able to take a tax credit of up to $1,000 ($2,000 if married filing jointly) for making eligible contributions to an employer-sponsored retirement plan or to an individual retirement arrangement (IRA). The credit is a percentage of the qualifying contributions, with the highest rate for taxpayers with the least income.

You cannot claim this credit if any of the following apply.

1. The amount of your 2002 adjusted gross income (discussed next) is more than $25,000 ($37,500 if head of household, $50,000 if married filing jointly).
2. You were born after January 1, 1985.
3. You are claimed as a dependent on another person's 2002 tax return.
4. You were a full-time student in 2002.

The amount of credit you can take depends on your filing status, your adjusted gross income (AGI), and your eligible contributions.

Adjusted gross income (AGI).   This is generally the amount on Form 1040, line 36, or Form 1040A, line 22. However, you must add to that amount any exclusion or deduction claimed for the year for:

• Foreign earned income,
• Foreign housing costs,
• Income for residents of American Samoa, and
• Income from Puerto Rico.

You can use Table 38-1 to find the percentage of your eligible contributions you qualify to use. For example, if you are single with an AGI of $15,000, you may be entitled to a credit equal to 50% of your eligible contributions (defined next).

Eligible contributions.   These include contributions to a traditional or Roth IRA and salary reduction contributions to most employer-sponsored retirement plans. They also include certain voluntary after-tax employee contributions.

Contributions reduced.   Your eligible contributions must be reduced by certain taxable and nontaxable distributions made after 1999 and before the due date (including extensions) of your 2002 tax return.

See Publication 590, chapter 5, for more specific information on eligible contributions and the reductions you must make.

Limit on the credit.   After your contributions are reduced, the maximum annual contributions on which you can base the credit is $2,000 per person. This makes the maximum possible credit $1,000 per return ($2,000 if married filing jointly).

Example.   During 2002, you contributed $3,000 to your 401(k) plan and made a $500 IRA withdrawal. You also took a $900 IRA withdrawal in 2001. Neither of your withdrawals was rolled over. The amount of your 2002 plan contributions eligible for the credit is $1,600 ($3,000 - $500 - $900). If you are single and your AGI is $24,500, your applicable percentage from Table 38-1 is 10%. Therefore, your retirement savings contributions credit is $160 ($1,600 × 10%).

How to claim the credit.   To claim the credit, complete Form 8880 and attach it to your Form 1040 or 1040A. Enter the credit on line 49, Form 1040, or line 32, Form 1040A.

The credit you compute on Form 8880 will take into account any nonrefundable credits that have already reduced your tax (such as the credit for child and dependent care expenses). If your tax liability is reduced to zero because of other nonrefundable credits, you will not be entitled to the credit for retirement savings contributions.

Credit for Prior Year Minimum Tax

The tax laws give special treatment to some kinds of income and allow special deductions and credits for some kinds of expenses. If you benefit from these laws, you may have to pay at least a minimum amount of tax in addition to any other tax on these items. This is called the alternative minimum tax.

The special treatment of some items of income and expenses only allows you to postpone paying tax until a later year. If in prior years you paid alternative minimum tax because of these tax postponement items, you may be able to claim a credit for prior year minimum tax against your current year's regular tax. The amount of the credit cannot reduce your current year's tax below your current year's tentative alternative minimum tax.

You may be able to take a credit against your regular tax if you:

1. Paid alternative minimum tax in 2001,
2. Had an unused minimum tax credit that you are carrying forward from 2001 to 2002, or
3. Had unallowed qualified electric vehicle credits in 2001.

How to claim the credit.   Figure your 2002 credit and any carryforward to 2003 on Form 8801, and attach it to your Form 1040. Include the credit in your total for line 53, Form 1040, and check box b. You can carry forward any unused credit for prior year minimum tax to later years until it is completely used.

For additional information about the credit, see the instructions for Form 8801.

Credit for Electric Vehicles

You may be allowed a tax credit if you placed a qualified electric vehicle in service during the year.

Congress is considering legislation that would expand the definition of qualified electric vehicle, vary the amount of credit allowed according to the vehicle type, and allow any unused credit to be used to reduce federal income tax in other years. If passed, the information will be included in Publication 553, Highlights of 2002 Tax Changes.

Qualified electric vehicle.   This is a motor vehicle that:

1. Has at least four wheels and is manufactured primarily for use on public streets, roads, and highways,
2. Is powered primarily by an electric motor drawing current from rechargeable batteries, fuel cells, or other portable sources of electrical current,
3. Is originally used by you,
4. Is acquired for your own use, not for resale,
5. Has never been used as a nonelectric vehicle, and
6. Is used predominately in the United States.

Amount of credit.   If you placed a qualified electric vehicle in service during 2002, the credit is generally 10% of the cost of the vehicle. However, if the vehicle is a depreciable business asset, you must reduce the cost of the vehicle by any section 179 deduction before figuring the credit. Get Publication 463, Travel, Entertainment, Gift, and Car Expenses, for information on the section 179 deduction.

The credit is limited to $4,000 for each vehicle placed in service in 2002.

Recapture.   The credit will be subject to recapture if, within 3 years after the date you place the vehicle in service, the vehicle is used predominately outside the United States or is modified (or its use is modified) so that it is no longer eligible for the credit. You recapture the credit by adding part or all of it to your income tax for the year in which the recapture event occurs. See chapter 12 of Publication 535 for more information.

How to claim the credit.   To claim the credit, complete Form 8834 and attach it to your Form 1040. Include the credit in your total for line 53, Form 1040. Check box c, and print 8834 on the line next to box c.

Do not confuse this credit with the Deduction for clean-fuel vehicles that is reported on Form 1040, line 34.

Refundable Credits

The following credits are refundable and are treated as payments of tax.

• Credit for excess social security tax or railroad retirement tax withheld.
• Credit for tax on undistributed capital gain.
• Health insurance credit.

Credit for Excess Social Security Tax or Railroad Retirement Tax Withheld

Most employers must withhold social security tax from your wages. If you work for a railroad employer, that employer must withhold tier 1 railroad retirement (RRTA) tax and tier 2 RRTA tax.

If you worked for two or more employers in 2002, you may have had too much social security or RRTA tax withheld from your pay. You can claim the excess social security or RRTA tier 1 tax as a credit against your income tax. The following table shows the maximum amount of wages subject to tax and the maximum amount of tax that should have been withheld in 2002.

All wages are subject to Medicare tax withholding.
 

Use Form 843, Claim for Refund and Request for Abatement, to claim a refund of excess RRTA tier 2 tax. See Publication 505, Tax Withholding and Estimated Tax, for details.

One employer.   If any one employer withheld social security or RRTA tax that exceeded the amounts in the preceding table, you cannot claim the extra amount withheld by that employer as a credit against your income tax. Your employer must adjust this for you.

Joint return.   If you are filing a joint return, you cannot add the social security or RRTA tax withheld from your spouse's wages to the amount withheld from your wages. Figure the credit separately for you and your spouse to determine if either of you has excess withholding.

How to claim the credit.   If you file Form 1040, enter the credit on line 65. If you file Form 1040A, include the credit in the total on line 43 and put Excess SST and the amount of the credit in the space to the left of the line.

How to figure the credit if you did not work for a railroad.   If you did not work for a railroad during 2002, figure the credit as follows:

Example.   You are married and file a joint return with your spouse who had no gross income in 2002. During 2002, you worked for the Brown Shoe Company and earned $48,000 in wages. Social security tax of $2,976 was withheld. You also worked for another employer in 2002 and earned $40,000 in wages. $2,480 of social security tax was withheld from these wages. Because you worked for more than one employer and your total wages were more than $84,900, you can claim a credit of $192.20 for the excess social security tax withheld.