From the moment you take your newborn baby home to the time you help them out of the nest, you’ll incur numerous costs in the 20 something years in between.
The U.S. Department of Agriculture estimates it costs the average middle-income family in the United States about $304,500 to raise a child born today. This figure doesn’t include college, just the everyday costs to house, feed and clothe a child and pay for child care.
For most, the joy children bring to our lives and families is priceless. It’s still nice, though, to enjoy some breaks along the way. Some of the most popular tax incentives available to parents with qualifying children include more beneficial filing status, dependency exemptions, child credits, child and dependent care credits and adoption credits.
Filing status changes: Married couples who have a child won’t change their status as married filing jointly. But if you’re single, having a child could allow you to file as head of household and take advantage of a larger standard deduction and better tax brackets.
Dependency exemptions: Personal exemptions are available to taxpayers to reduce taxable income. When you add a member to your family, you can claim an additional personal exemption to your income tax return, also called the dependency exemption. This is an additional deduction on your tax return until the child turns 19.
Child tax credits: In addition to increased dependency exemptions, there’s the child tax credit for low- and moderate-income working people raising children. The credit is up to $1,000 per child and is available to parents until a child reaches age 16. If gross income is less than $110,000 for a married couple — $75,000 for a single parent — the credit is the full $1,000 per child. Once income goes above this amount, it starts to phase out. For some lower-income families, the credit is “refundable,” meaning if the credit exceeds your tax liability, the government will issue you a refund check for the difference. This is also known as the additional child tax credit.
Child and dependent care credits: Taxpayers can claim a nonrefundable credit for a percentage of dependent care expenses they incur to allow them to work. These allowable expenses are capped at $3,000 for one child and $6,000 for two or more. Allowable expenses can’t be greater than earned income. The amount of the credit is between 20 percent to
35 percent of the allowable expenses, depending on gross income limits. Those with lower adjusted gross income get the higher percentage and anyone over $43,000 of adjusted gross income gets 20 percent. So this credit is available even for high-income taxpayers.
Many employers also offer child care reimbursement plans at work. These are often part of a flex spending plan and employees can use them to pay for child care before taxes and their gross taxable income to help pay for child care costs up to a certain amount each year. The IRS doesn’t allow you to double dip by claiming a credit and contribute to a flex spending plan tax-free. It’s one or the other. Usually, the savings of taxes on the diverted income outweighs the benefit of any credits. Also most of these employer reimbursement accounts are use-it-or-lose-it, so it will take careful planning to reap the benefits.
Adoption credits: A tax credit is available for the qualifying costs incurred in adopting an eligible child. The credit is non-refundable, but any credit you don’t use can be carried forward up to five years. Also, some employers may offer exclusions from income for any employer-provided adoption assistance. The credit or exclusion from income are based on qualified adoption expenses the taxpayer incurred in connection with the adoption. There are income limits on who can claim the credit. The credit and exclusion are phased out for taxpayers with higher adjusted gross income. There’s also a maximum dollar amount for the credit or exclusion per child. The adoption credit can become complicated in scenarios of divorce, foreign and special need adoptions, non-U.S. citizens and joint custody situations. Make sure to consult with your tax advisor in these instances.
Take advantage of as many credits as you qualify for — they can provide advantages for families. In addition, there are many sophisticated tax planning strategies to consider when your children have investment income, earned income or you own your own business. Consider discussing these matters with professionals to ensure you reduce your tax burden when possible.