why is the program considering cancellation of debt to be investment income for the EIC calculation?

[ccturrentine]

I have a client with all kinds of issues on his return that is creating a mess on all of the worksheets and schedules. The first issue is:  ProConnect is recognizing cancellation of debt income as child investment income from Schedule 1 line 8.  Because of this, my client does not qualify for the EIC credit because the cancellation of debt income exceeds the investment income limit.

The other issue is with Schedule SE: My client has Schedule C business income but also has losses (in excess of basis from a parnership K-1).  I have accounted for this correctly in the software but the program is NOT calculating SE tax on the Schedule C profit (it's being wiped out by the non-deductible losses).  This is wrong and I'm not sure why this is happening this year.

This client had the same income situation (in regards to the Schedule C and non-deductible losses) in 2019 and the program calculated everything correctly.

If anyone has some insight or advise on how to handle this, I sure would appreciate it.

[sjrcpa]

Why wouldn't COD income be unearned income?

It's not earned income.

[ccturrentine]

I didn't say the COD income was unearned income. I clearly stated the software is considering it to be investment income.... big difference.

[sjrcpa]

As I recall, for EIC most things that aren't earned income are considered investment income. Such as Rent.

The definitions are somewhere in the instructions for EIC.

[ccturrentine]

I actually got to the bottom of it.  The two items I had questioned:  EIC and the Schedule SE not calculating because of non-deductible losses due to basis limitations were directly associated with each other.  Basically, I had to manually prepare the Schedule SE to remove the non-deductible losses (the software does not handle this automatically or correctly) and once I did this, the EIC calculated correctly.  So.... the cancellation of debt was not the factor for EIC not calculating it was the non-deductible losses.  Therefore, cancellation of debit is in deed NOT considered investment income as I had originally posted.  Warning to anyone dealing with non-deductible losses in relation to other self-employed earnings: You will have to prepare the Schedule SE manually or else it will interfere with the entire return calculations.

[BobKamman]

You lost me at "child investment income."  Whose debt was canceled -- the taxpayer or the taxpayer's kid?

[ccturrentine]

It was the taxpayer's debt, not their child's.  The issue was (I thought) that the income is reported on line 8 of Schedule 1 and the software was viewing it as child's investment income since this amount is also reported on this line.  It ended up that the EIC issue was associated with the non-deductible business losses (due to basis limitation) and not the cancellation of debt.