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Alexis Rose: What is your favorite season?
Moira Rose: Awards!
—Schitt’s Creek, American Television Series
Tax season may not be everyone’s favorite time of year, but the more informed you are about the process, the less stressful it will be to file before the April 15 deadline. If you're a parent, the IRS offers a number of tax credits and deductions related to your children and expenses you pay on their behalf. In this blog post, we’ll give you a rundown how your kids might save you some cash as you file your taxes this spring.
Tax Credits and Deductions—What’s the Difference?
When deciding between multiple credit or deduction options, it's important to understand the difference between tax credits and tax deductions:
- A tax credit usually saves you more because it reduces the tax you must pay by the full credit amount. A tax credit of $2,000 means you'll pay $2,000 less to the IRS. Some credits are listed as refundable, which means the government will pay you the credit amount, even if you owe no tax when you file.
- A tax deduction reduces the amount of your income that's subject to tax. For example, with a $4,000 tax deduction, you avoid paying tax on $4,000 of your income; your actual savings depend on your tax bracket. You'd save $1,000 on your tax bill if you're in the 25% tax bracket ($4,000 * .25).
1. Child Tax Credit
On your 2020 taxes, for each of your qualifying children under the age of 16, you may be eligible for a Child Tax Credit of up to $2,000. Up to $1,400 of this tax credit is refundable. In other words, it can lower your tax bill to zero, and you may be able to qualify for a refund on the remaining balance.
NerdWallet reports that parents can only take advantage of this tax credit if their modified adjusted gross income is under:
$400,000 for married filing jointly
$200,000 for everybody else
Due to the coronavirus, there are special rules for the 2020 tax year. You can use either your 2019 income or your 2020 income to calculate your tax credit, and you can use whichever number gets you the bigger tax credit. (This is also the case for the Earned Income Tax Credit.) Be sure to ask your tax preparer to run the numbers both ways.
2. Adoption Tax Credit
Adopting a child can get you a tax credit of as much as $14,300 per child to reimburse expenses. Unlike the child tax credit, the 2020 adoption tax credit is not refundable.
According to the North American Council for Adoptable Children, to be eligible for this tax credit, parents must:
Have adopted a child other than a stepchild. A child must be either under 18 or be physically or mentally unable to take care of him or herself.
Be within the income limits. Income affects how much of the credit parents can claim. In 2020, families with a modified adjusted gross income below $214,520 can claim full credit. Those with incomes from $214,520 to $254,520can claim partial credit, and those with incomes above $254,520 cannot claim the credit.
3. Child and Dependent Care Tax Credit
If you paid for child care or similar costs for a child under the age of 13, an incapacitated spouse or parent, or other dependent so you could work or look for work, you can receive a credit on up to 35% of those expenses, to a maximum of $6,000 for two children.
Note: if you used your employer's flexible spending plan to pay for dependent care through a tax-free account, your child and dependent care tax credit will be reduced by the flexible spending account amount.
4. Head of Household Standard Deduction
If you're single, have a child, and pay more than half that child's expenses, you can change your tax filing status from single to head of household, which brings you a larger standard deduction and the chance to move into a lower tax bracket.
According to TheBalance, “The head of household standard deduction for 2020 is $18,650, up from $18,350 in 2019. Contrast this with single filers and married individuals who file separate returns—they can claim only a $12,400 standard deduction in 2020. Married taxpayers who file joint returns get a $24,800 deduction, but this works out to one $12,400 deduction for each of them, just as though they were single.”
5. Educational Expense Credits
American Opportunity Credit: If you're paying tuition and fees for a child attending college at least half time, you may be eligible for the American opportunity credit, which will credit you up to $2,500 per student, per year, for four years.
Lifetime Learning Credit: For children enrolled in non-degree or career training classes, the lifetime learning credit provides a credit of up to $2,000 per household for an unlimited number of years.
Tuition and Fees Deduction: This deduction reduces taxable income by up to $4,000, and is available to taxpayers who paid dependents' tuition and fees and who cannot take the American opportunity credit or lifetime learning credit. Generally, those credits will result in greater savings.
Student Loan Interest Deduction: If you're helping to repay student loans for a child who was a dependent while attending school, the IRS offers a student loan interest deduction of up to $2,500.
Taxpayers who receive the American opportunity credit cannot also receive the lifetime learning credit. The American opportunity credit, lifetime learning credit, tuition and fees deduction, and student loan interest deduction phase out for higher income taxpayers. You can view eligibility criteria at irs.gov.
As a taxpayer (who can claim a dependent on your taxes), you incur expenses all year long due to the caring and providing for your dependents, so be sure to recoup as many of those costs as possible during tax season—with help from the U.S. government!
SWBC does not provide legal advice on tax laws or regulations. Please consult a tax professional for specific advice about your situation.
Marcia Messer is a Loan Officer with SWBC Mortgage. She works tirelessly to help her clients achieve their goal of home ownership and is committed to making the experience positive and memorable. NMLS #: 222428