The 2021 tax season is just a few weeks away; are you missing out on any deductions? There have been numerous changes to tax law over the past two years, and it can be difficult to keep up. Below is a brief summary of some of the changes that may affect your 2021 tax return.
Do you have children under the age of 17? Then you may receive the child tax credit. Prior to 2021, the child tax credit was a refundable credit received on your tax return if you met certain requirements. Early in 2021, congress passed a bill that paid eligible taxpayers half of the credit amount over the last six months of the year (the advanced child tax credit). Eligible taxpayers received monthly payments of $300 per child under the age of 6, and $250 per child between the ages of 6 and 17 beginning July 2021. Though these payments are not taxable, they will have an impact on your 2021 tax return.
The advanced child tax credit payments were issued automatically based on the information the IRS received from your prior year tax return. If in 2021, the number of eligible children being claimed on your return changes, your credit will be adjusted accordingly. The credit may also be affected if your household income increases above the threshold amounts. The credit starts to phase out for single taxpayers whose adjusted gross income over $75,000 and married taxpayers over $150,000. If the amount you received in advance payments is more than the eligible credit amount, the excess amount will be reported on your 2021 tax return as additional income tax, reducing your refund amount, or increasing the amount you owe. If you received any advanced payments, the IRS will issue a letter or form detailing the amount received that you will need to provide to your tax preparer.
Another change for eligible parents that has not been mentioned as often as the advanced child tax payments is the changes to the child and dependent care credit. Historically, the child and dependent care credit was a non-refundable credit which resulted in a maximum credit of $1,050 (35% of $3,000 eligible childcare expenses) for once child or $2,100 (35% of $6,000 eligible childcare expenses) if you had more than one child.
Beginning in 2021, the credit is now refundable, and the percentage and amount of eligible expenses has been increased significantly, resulting in a maximum credit of $4,000 for one child (50% of $8,000 eligible childcare expenses), or $8,000 (50% of $16,000 eligible childcare expenses) for two or more. The 50% child and dependent care credit begins to phase out if your adjusted gross income is more than $125,000, and completely phases out if your adjusted gross income is more than $438,000. If you think you may qualify for this credit, check out the child and dependent care credit FAQs for information on qualifying expenses and what you will need to provide to your tax preparer.
For those of you that are past the child rearing stage of your life, don’t worry, the IRS did not leave you out. Required Minimum Distributions (RMDs) are back! For 2021, the IRS decided to remove the option to suspend Required Minimum Distributions from tax-qualified defined contribution retirement plans and accounts. If you are older than 72, and delayed your RMDs due to the CARES Act, you are required to take your first RMD by the end of 2021. If you turned 72 in 2021, you are required to take your first RMD by April 1, 2022; each subsequent RMD must be taken by December 31. If you delay your first RMD until April 2022, you will receive two distributions in 2022, which could affect your tax liability. If your 2022 income is projected to be lower, you may want to delay your first RMD, otherwise it may be advantageous to take it before year end 2021. If you are unsure if, and when, you are required to take distributions, contact your financial advisor, as the penalties for failing to take your required minimum distribution is equal to 50% of the missed RMD amount.
So that last one wasn’t great news, but if you are required to take those distributions, and you are feeling charitable, you can always make a Qualified Charitable Distribution (QCD). A QCD is a direct transfer from your retirement account to a qualified charity. This transaction satisfies your required minimum distribution for the year and excludes the RMD from taxable income. QCDs can be beneficial even if you don’t itemize. It’s a win-win for everyone. QCDs must be made by 12/31 and can be facilitated through your financial advisor.
Among the changes previously mentioned, there are three topics being discussed at this time in Washington: capital gains, retirement planning, and estate and gift taxation. The proposed changes will affect higher income taxpayers, so if your income is less than $500,000 ($1,000,000 if married filing jointly) and your estate is worth less than $3,500,000, you don’t have anything to worry about at this time. If you fall into the higher income category, unfortunately there is not much planning that can be done at this time as there are changes being made every day. It is simply impossible to say at this time what the final decision will look like. However, it is important to mention that if the tax reform goes through, it may take affect the day it is signed, affecting your 2021 tax liability.
If you have any questions about any of the changes mentioned in this article, check out the frequently asked questions at www.irs.gov, or visit our website for updates and tax saving tips.