Tax Corner

2021 is a uniquely favorable tax year for people with young children and modest incomes because of the changes made to the child tax and dependent care credits. With the increased benefits afforded by the American Rescue Plan, it’s also a year where taxpayers with modest income can see significant benefits from tax planning where they typically wouldn’t need it in any other year given taxable income isn’t too high. The enhanced benefits of the child tax credit start to be limited as Adjusted Gross Income (AGI) exceeds $150,000 married filing jointly (MFJ); the benefits of the dependent care credit start to be limited as AGI exceeds $125,000 MFJ. Young taxpayers with young children, who typically utilize Roth vs. Traditional IRA retirement vehicles, might see significant benefits from utilizing pretax retirement investments for 2021 if their AGI is close to or moderately above those AGI limits.

For 2021, the child tax credit is equal to $3,000 for children ages 6-17 and $3,600 for children ages 5 and under. The credit is fully refundable for 2021, meaning even if you don’t owe that much in tax, it will produce a refund. By comparison, the credit was 70% refundable in 2020. For those who the US Treasury thinks qualify for the enhanced child tax credit (remember AGI limits from above), the Treasury will be sending monthly advances of half of the enhanced child tax credit for July through December.

The 2021 dependent care credit is equal to $4,000 per child and is fully refundable. A taxpayer can claim up to $8,000 of expenses per child and receive a maximum credit of 50%. A MFJ taxpayer with two children, AGI of $125,000 and $16,000 of dependent care expenses would see a $8,000 credit on their 2021 tax return. 2020’s version of the credit was $3,000 of eligible expense per child, a maximum rate of 35%, and much lower income thresholds.

If you have children 17 or under and are close to either of those AGI amounts ($125,000/$150,000), work with your financial advisor to make tax-efficient decisions on investing and savings to maximize your child tax and dependent care credits!