Is your little bundle of joy a big tax deduction? It depends.
This is a standard response from a CPA, because most deductions depend on several factors. Another frequent phrase we use is, "Don't let the tax tail wag the dog." By this, we mean, don't let a tiny detail control your entire tax return. This is especially the case when discussing children and dependents. While we don't recommend having children for the tax deduction, your CPA should know whether you are parents, and to how many children, to ensure you get all the deductions you qualify for. After all, you need to recoup some of the money you've spent on diapers.
Tax exemptions were eliminated in 2018 with the Tax Cuts and Jobs Act of 2017, but the standard deduction increased. There were favorable changes made to the Child Tax Credit, including the addition of the credit for other dependents. This is a $500 non-refundable credit for qualifying dependents, such as older children, relatives, or even non-relatives.
The Child Tax Credit for 2019 and 2020 is $2,000 per child. Married couples filing jointly who make under $400,000 per year, and single individuals, head of household, or married couples filing separately who earn less than $200,000 per year, will be able to take $2,000 per child as their Child Tax Credit.
The Child Tax Credit is available if you pay someone to watch your children while you and/or your spouse work. If you are lucky enough to have grandma watch your kids for free, then you won't be eligible for the credit. Even if you pay her some under the table gas money you still won't qualify for any deduction. If you pay someone that claims the income on their tax return, you will need their social security number or EIN, and you can get a credit of 20-35% on expenses of up to $3,000 for a child under 13 (and up to $6,000 of expenses for two or more dependents.) This includes someone in your home, a daycare, or even a summer camp, as long as both you and your spouse have earned income on your tax return.
If your little ones aren't that little anymore but are college age, you may be happy to know that The American Opportunity Credit (AOC) and Lifetime Learning Credit (LLC) are available tax breaks for qualified education expenses. The AOC is available to undergraduates enrolled for a maximum credit of $2,500 ($1,000 refundable,) which begins to get phased out for modified adjusted gross incomes of $80,000 for single, and $160,000 for married taxpayers. It is completely phased out at $90,000, or $180,000, respectively. The LLC is open to all students, undergraduates and graduate students. This credit is equal to 20% of up to $10,000 in eligible education expenses. The phase-outs are $57,000 for single taxpayers and $114,000 for married taxpayers filing jointly, with complete phase out at $67,000 and $134,000 respectively.
Additionally, if you own your own business, hiring your children is as an excellent tax strategy. This works by you employing your child to do whatever tasks you deem them fit, paying them a salary, and then deducting their salary from your business income as a business expense. By doing this, you shift part of your business income from your tax bracket, to your child's tax bracket, which, in theory, is lower than yours. This results in substantial tax savings. This is also a great way to start putting money away for their retirement, if you then use those wages to contribute to an IRA for the kids.
There are numerous tax strategies to consider employing for both your business and personal taxes. With all the new rules it is even more important to understand your options. If in doubt, please call tax advisors at ADKF at 210-829-1300. We are always here to help.