Dependent Tax Credits and Deductions
1. Child and Dependent Care Tax Credit
If you pay for child care while working or looking for work, you might be able to claim the child and dependent care tax credit on your tax return. This credit gives you a tax break on qualified expenses like summer camp or care before or after school.
To qualify, your child must be under the age of 13 (unless they are physically or mentally incapable of taking care of themselves).
For the 2020 tax year, there are no income restrictions on who can claim the credit. However, you can’t claim more than $3,000 per child ($6,000 for two or more kids). In addition, the amount you can claim is a percentage of total expenses based on a sliding income scale. Those with lower incomes are entitled to claim a higher percentage of expenses—up to 35% for those making less than $15,000. Those who earn $43,000 or more can claim 20% of expenses.
The child care and dependent care credit has increased for 2021—but there is now an upper income limit on who will qualify. A taxpayer who earns up to $125,000 can claim 50% of qualified expenses. The maximum amount of the credit is up to $8,000 per child ($16,000 for two or more kids) for qualifying expenses.
If you earn between $125,000 to $400,000, the percentage will gradually go from 50% to 20%. For families who earn above $400,000, the credit amount will phase out by 1% for every $2,000 above $400,000.
Expenses that may qualify include:
Education expenses: Payments made to a nursery, preschool or other programs below the level of kindergarten.
Before and after school care: Amounts paid to care for your kids for before or after school care.
Summer camp: Expenses paid for summer camp (however, overnight camp expenses do not qualify as the credit is meant to help parents during standard working hours.)
Transportation costs: Amounts paid to a care provider for transportation to and from where the care is provided.
Care outside of your home: The cost of care provided outside of your home paid to a dependent care center or a qualified personal care provider.
2. Child Tax Credit (CTC)
The CTC is a tax credit that provides a significant financial benefit to Americans with children. For 2020, the IRS allowed you to claim up to $2,000 per child under the age of 17. The credit lowered the amount you owed in taxes and you could be refunded up to $1,400.
Enhanced Child Tax Credit: For 2021, the CTC amount has increased up to $3,600 for children under 6 and up to $3,000 for children ages 6 to 17. Also, the credit is now fully refundable.
You will qualify for the maximum CTC amount if your modified adjusted gross income (MAGI) is up to $75,000 for single filers or up to $150,000 for married couples. If you earn more than these amounts, you will see a reduced credit, or you won’t qualify for any amount.
Your child must also meet a few qualifications to claim the CTC; they must have a valid Social Security number, have lived with you at least half the year and be related to you. Also, you must provide more than half of your child’s financial support. This can include lodging, food, utilities, repairs, clothing and education.
The American Rescue Plan Act signed into law by President Joseph Biden in March will allow families for the first time in history to receive the child tax credit in monthly payments of up to $300 per child under the age of 6 and up to $250 for children ages 6 to 17. Families will need to opt in for monthly payments using an online IRS portal starting in July 2021.
3. Earned Income Tax Credit
The EITC is a credit designed to help reduce poverty and encourage work participation for low- to moderate-income taxpayers.
The EITC is based on a percentage of your earned income. Examples of earned income include wages, tip income and net self-employment income. However, unemployment income, alimony, child support or interest aren’t considered earned income for the EITC.
While you do not need to have a child to claim the credit, parents can get a higher tax credit when they have kids that qualify for the EITC.
A child qualifies for the credit if they:
Have a valid Social Security number
Are under the age of 19 (24 if enrolled in college full-time)
Have a relationship with you
Lived with you for at least half of the year in the United States
You need to meet the income threshold to claim the EITC, which differs based on your filing status and the number of your children. For example, a married couple with three or more children can qualify with an income of up to $56,844 ($57,414 for 2021). A single tax filer may qualify if they earn less than $50,594 ($51,464 for 2021).
How much you receive also depends on your income and number of children. The maximum credit for 2020 is $6,660 and rises to $6,728 for 2021.
4. Education Tax Credit
The American Opportunity Tax Credit (AOTC) is a tax credit available to parents who paid qualified education expenses for their kid’s first four years of college. You can claim expenses paid for tuition, fees and course materials.
You can claim up to $2,500 per child. That works out to be 100% of the first $2,000 you paid and 25% of the next $2,000. The AOTC is partially refundable of up to $1,000, which means if you do not owe taxes, qualifying taxpayers can receive a refund of up to this amount.
You must receive a Form 1098-T (Tuition Statement) from an eligible educational institution, like a college, university or trade school, to claim the credit. In addition, your modified gross income (MAGI) must be $80,000 or less ($160,000 if married). If you earn more than this amount, you may receive a reduced credit or no credit at all.
5. 529 State Tax Plans
A 529 state plan is an account to help save for your children’s education expenses.
Each 529 plan is sponsored by a state agency, and all 50 states and the District of Columbia have at least one 529 plan.
There are two types of 529 plans: a prepaid tuition plan and an education savings plan. A prepaid tuition plan allows you to purchase credits at a college or university for future attendance. An education savings plan allows you to save for your child for college, trade schools, elementary or secondary school.
While contributions made to a 529 plan are not deductible for federal tax purposes, it does provide other tax advantages. One tax advantage is that most states offer a tax deduction for contributions made to a 529 plan.
If the money in the account is used for qualified education expenses, the returns earned on the contributions are not subject to federal income taxes. However, if your 529 accounts are not used for qualified education expenses, it may be subject to an additional tax penalty of 10% plus income taxes on the earnings.