Tax Opportunities: Expanded Individual Tax Credits in New Law
Congress is giving away billions of dollars in additional tax credits on your 1040 individual tax form return for the tax year of 2021. These expanded credits that will be in place temporarily include the child tax credit and the dependent care credit. With good planning and forethought, the various credits could easily put an additional $5,000 in your wallet for the tax year of 2021. Read below to learn how to get the maximum value from the enhanced tax credits that are taking place.
Child Tax Credit
During the tax year of 2020, people received a $2k tax credit for qualifying children who had not reached the age of 17 by the end of the tax year. Up to $1.4k of the credit was refundable if they had earned income and no overall tax liability. If their modified adjusted gross income (MAGI) exceeded $200k, or $400k on a married-filing-jointly return, then their 2020 credit decreased by $50 for each $1k their MAGI was over the threshold.
Child Tax Credit in 2021
Only for the tax year of 2021, the child tax credit amounts are:
$3k ($1k extra) per qualifying children of the ages 6 – 17 at the end of the tax year; or
$3.6k ($1.6k extra) per qualifying children of the age five or under at the end of the tax year.
The tax code measures the child’s age on December 31. For example, if your child turned 4 in June, your child is 4 on December 31.
Phaseout1: People will reduce the 2021 credit amount that exceeds the $2k base credit by $50 for each $1k (or fraction) by which their modified AGI exceeds:
$150k for married, filing jointly, or for qualifying widower
$112k for the head of household
$75k for all other filing statuses
Phaseout 2: Once people’s MAGI exceeds the amount of $200k, or $400k on a married-filing-jointly return, then your $2k base credit decreases $50 for each $1k your MAGI is above the threshold.
Furthermore, the entire child tax credit is 100% refundable as long as the person or their spouse has a principal place of abode in the U.S. for more than half of the tax year.
Warning: The IRS will advance people 50% of their anticipated child tax credit based on their last file tax return. People will reconcile the advance payments received with their actual 2021 child tax credit, and if the advance tax credit exceeds their actual credit, they’ll have to pay back the excess with their 2021 tax return.
Child Tax Credit Example
Bruce files as head of the household and has an adjusted gross income (AGI) of $120k in tax years 2020 and 2021. He has a son who is 3 years of age at the end of 2929. In the tax year of 2020, Bruce received a $2k child tax credit. In the tax year 2021, he will receive a $3.2k child tax credit.
$3.6k base, less
$400 because his MAGI is $7.5k over the 112.5k head-of-household MAGI limit.
Assuming Bruce doesn’t opt out the advance child tax credit payments, he’ll receive:
Equal monthly payments of $266,67 starting July 2021 and terminating in December 2021, for a total of $1.6k; and
6k on his tax return.
Dependent Care Credit
During the tax year of 2020, people could claim a tax credit if they paid someone to care for their under-age-13 dependent, or spouse/dependent that can’t take care of themselves.
The maximum expenses that were eligible for the credit in 2020 were:
$3k for one qualifying individual, or
$6k for more than one qualifying individual
On an AGI up to $15k, the credit rate was 35%. The credit rate then decreased by 1% for every additional $2k of AGI. Once people’s AGI was $43k or more, they had a 20% credit rate.
Dependent Care Credit in 2021
Only for the tax year of 2021, the maximum creditable expenses are:
$8k for one qualifying person, or
$16k for more than one qualifying person
For an AGI of up to $125k, the credit rate is 50%. People’s credit score decreased by 1% for each additional $2k of AGI. Once their AGI is $185k or more, they get a 20% credit rate.
There is a new upper limit: once people’s AGI reaches $400k, they reduce their credit rate by 1% for each additional $2k of AGI until the rate is 0% at an AGI of $440k.
With ARPA, congress temporarily increased many common Form 1040 individual tax credits, like the child tax credit and the dependent care credit. Don’t miss out on these amounts! By being in business for yourself, you have control over your AGI, allowing you to maximize your tax credits. These expanded individual tax credits in 2021 are great opportunities that should be taken advantage of. We hope this blog helped inform you on these bonanzas! At MFI Works, we know these topics can be complicated, so don’t hesitate to contact us if you have any questions. To schedule a free initial business strategy session, click here.