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Check out the many ways that your dependents can lower your tax bill.
Adult dependents. Except for children under age 19 at year-end (or under age 24 if full-time students), you can claim exemptions for dependents only if you provided more than half their support in 2006. Ordinarily, you get an exemption for an unrelated or distantly related dependent (like a cousin) only if that person lived with you the entire year, excluding temporary absences such as vacation trips. But your parents, close relatives, or in-laws don't have to satisfy that requirement. What's more, if you're unmarried, you can file as head of household even if your dependent parent lives elsewhere, allowing you to pay tax at a lower rate than a single person.
To be eligible for an exemption, an adult dependent's 2006 gross income must generally be less than $3,300. But untaxed income like Social Security benefits or municipal bond interest doesn't count. You must also meet the support test. You get a passing grade if you spent more on your parent's living expenses last year than he or she did. If your parent put some income into savings, you can ignore that. What matters is how much each of you actually paid for support items like food, clothing, and shelter.
What if you provided support for both your parents, but your contributions add up to less than the total amount they spent on themselves? Don't give up yet. Say their combined expenses came to $20,000 last year, or $10,000 apiece, and you contributed $12,000. By earmarking more than $10,000 of your $12,000 total for the support of either parent, you can claim an exemption for that one.
The place-of-residence rule doesn't always work as you'd expect. Suppose you support your mother's sister (your aunt) and her husband. If they don't live with you, you can claim an exemption only for your aunt; your uncle is neither your blood relative nor your in-law. But you could claim exemptions for your deceased brother's wife (your sister-in-law) and their children wherever they reside. The same holds true for your spouse's relatives if you file a joint return. Even if you're widowed or divorced, you can claim exemptions for your former spouse's parents, brothers, or sisters, as long as you meet the income and support tests.
Children of divorce. When a couple is divorced or formally separated, the parent having custody of a child is entitled to the exemption, regardless of which one paid more of the child's expenses. Even without a legal document proving custody, you can claim the exemption if you lived apart from your spouse for at least the last six months of 2006 and the child stayed with you.
If you didn't have custody, you can still claim the exemption, provided your ex waives it in writing, preferably by filling out Form 8332. Be sure to attach a copy of the waiver to your return. If the waiver covers more than one year-for example, alternate years or all future years-attach the original waiver to the first year's return and a copy to every later return on which you claim the exemption. If the waiver is incorporated in a court decree or separation agreement, you can attach that document instead.