“My 24 yr old daughter is in law school. Her permanent address is KY, but she currently lives in OH and works part time so she can attend law school. If we claim her as a dependent on our taxes, how much of her $7200 in income does she have to claim on a 1040?...”---->A your dependent, you kid needs to file her return as long as her unearned income(interest, dividends) was over $950 or her earned income (salary. Wage) was over $5,800 for 2011 OR her gross income was more than the larger of $950 or her earned income(up to $5500)+$300. So, if her gross income is $7200(As $7200>$5,500+$300) she needs to pay tax on$1400;$7200-$5800, her std deduction. She ,as your dependent, can ‘t claim her own personal exemption, $3700 for 2011, on her return.
“.next is how do we file her state taxes, if we claim her as a dependent?...do we file in ohio as a non-resident & then file reciprocating tax forms in KY or can we claim her on our federal taxes/ky state taxes, but she file ohio tax information?”---->As there is State Tax Reciprocal Agreement, between OH and Ky, her ER withholds Ky tax, so you do not need to file OH tax. In order to relieve taxpayers of double burden, many states have entered into state tax reciprocal agreements. If two states have a reciprocal agreement and an individual lives in one of those states and works in the other, the individual will only be subject to the income tax in the state where he/she lives. All states with reciprocal agreements have provisions that exempt an employee from having the tax withheld for the state where he/she works, but employers are not required to withhold the tax for the state where the employee lives. On the other hand, even though it is not mandatory, a great many employers will establish an account with a reciprocal state and withhold the tax for the employee's state of residence.