The IRS has issued final regulations addressing the meaning of "qualifying relative" for various Internal Revenue Code (Code) provisions, in light of changes made under the Tax Cuts and Jobs Act (TCJA) that apply for the 2018 through 2025 tax years (85 Fed. Reg. 64383 (Oct. 13, 2020); see Tax Cuts and Jobs Act (TCJA) Compliance for Fringe Benefits and Health Plans Toolkit).

The final regulations apply in determining whether an individual is a qualifying relative for purposes of Code provisions that refer to Code Section 152 for 2018 through 2025 (during which the exemption amount is zero under the TCJA). The regulations provide that the Code Section 151(d) exemption amount is an inflation-adjusted amount that the IRS provides in annually issued guidance.

As background, the Code allows individuals to claim a deduction that equals the exemption for the individual, the individual's spouse, and dependents, as defined in Code Section 152 (26 U.S.C. § 152). To be an individual's tax dependent, a child must be either a "qualifying child" or "qualifying relative" under Code Section 152 (see Legal Update, Reflecting WFTRA, IRS Rules Address the Definition of Dependent).

Code Section 152(d)(1) defines a qualifying relative as an individual who:

For the 2018 through 2025 tax years, the TCJA reduced the exemption amount to zero—thereby suspending the deductions for personal exemptions and the dependency exemption. In Notice 2018-70, however, the IRS announced its intent to issue proposed regulations providing that the reduction of the exemption amount to zero for 2018 through 2025 would not be taken into account in determining whether an individual is a qualifying relative under Code Section 152(d)(1)(B) (Notice 2018-70 (Aug. 28, 2018); see Legal Update, IRS Clarifies Scope of Personal Exemption Reduction Under the TCJA).

In June 2020, the IRS issued proposed regulations consistent with Notice 2018-70, providing that when determining if an individual is a qualifying relative, the Section 151(d) exemption amount would be the Code Section 152(d)(1)(b)(B) inflation-adjusted exemption amount published by the IRS (85 Fed. Reg. 35223 (June 9, 2020)). (For more information, see Practice Note, Coverage for Adult Children to Age 26 Under the ACA: Proposed Regulations Addressing Code's Definition of Dependent.)

The IRS's final regulations adopt the proposed regulations without substantive changes. The final regulations provide that the exemption amount, for purposes other than a deduction for a personal dependency exemption under Code Section 151, is $4,150 for taxable year 2018. For taxable years 2019 through 2025, the exemption amount is the Code Section 152(d)(1)(B) exemption amount published by the IRS. For example, the exemption amount for this purpose is $4,300 for 2020 (Rev. Proc. 2019-44; see generally Legal Update, IRS Announces 2020 Benefit Plan Limit Adjustments).

The final regulations generally apply for tax years beginning on or after October 13, 2020. However, the portion of the final regulations that defines the specific exemption amounts for 2018, and for 2019 through 2025, applies for tax years ending after August 28, 2018 (26 C.F.R. § 1.152-2(e)). (The retroactive August 2018 applicability date is allowed under a rule that permits regulations to apply effective after a notice substantially describing the content of the regulations—in this case, Notice 2018-70—is issued.)

Because of the ACA's age-26 coverage mandate for children, there are fewer instances where the "qualifying relative" standard must be used to determine whether a child is eligible for health plan coverage. Nonetheless, there are still contexts where the qualifying relative rules—including the income test at issue in these final regulations—must be analyzed.