If you are a parent, whether single, married, or divorced, there are a significant number of tax benefits available to you, including deductions, credits, and filing status, that can help put a dent in your tax liability.
Child Tax Credit –You may be entitled to a nonrefundable tax credit of $2,000 for each child under the age of 17 at the close of the year, provided the child qualifies as your tax dependent. The term “nonrefundable” means the credit can only be used to offset any tax liability you may have, and the balance of the credit is lost. If you are not filing jointly with the child’s other parent and have released the child’s tax dependency to that parent, then you will not qualify for the child tax credit for that child. In addition, this credit phases out for higher-income taxpayers. For lower-income parents, a portion of the child tax credit, which is normally nonrefundable, can become refundable.
Earned Income Tax Credit – The earned income credit benefits lower-income parents based upon their earned income, filing status (either married filing jointly or unmarried), and the number of qualifying children you have up to three. The credit for 2023 can be as much as $7,430; better yet, the amount not used to offset your tax liability is fully refundable. This credit is phased out for higher income filers, and those with investment income of more than $11,000 for 2023 aren’t eligible.
Head of Household Filing Status – The tax code provides a special filing status – head of household – for unmarried and separated taxpayers. The benefit of head of household filing status is that it provides lower tax rates and a higher standard deduction than the single status ($20,800 as opposed to $13,850 for a single individual in 2023). If you are an unmarried parent and pay more than half the household cost for yourself and your child, you qualify for this filing status. Even if you are married, if you lived apart from your spouse the last six months of the year and paid more than one-half the cost of the household for yourself and your child, you qualify for this filing status.
Childcare – Many parents who work or are looking for work must arrange for the care of their children. If this is your situation, and your children requiring care are under 13 years of age, you may qualify for a non-refundable tax credit that can reduce your federal income taxes.
The childcare credit is an income-based percentage of up to $3,000 of qualifying care expenses for one child and up to $6,000 of qualifying care expenses for two or more children. The allowable expenses are also limited to your earned income, and if you are married, both you and your spouse must work, and the limit is based upon the earned income of the spouse with the lower earnings. The credit percentages range from a maximum of 35% if your adjusted gross income (AGI) is $15,000 or less to 20% for an AGI of over $43,000.
Suppose your employer provides dependent care benefits under a qualified plan that pays your child care provider either directly or by reimbursing you for the expenses, or your employer provides a daycare facility. In that case, you may be able to exclude these benefits from your income. Of course, the same expenses aren’t eligible for tax-free income and child care credit.
Education Savings Plans – The tax code provides two plans to save for your children’s future education. The first is the Coverdell Education Savings Account, which allows non-deductible contributions of up to $2,000 annually. The earnings on these accounts are tax-free, provided the amounts withdrawn from the accounts are used to pay qualified expenses for kindergarten and above. Coverdell contributions will phase out for higher income taxpayers beginning at an AGI of $190,000 for married taxpayers filing jointly and half for other taxpayers.
A second plan called a Qualified Tuition Plan (sometimes called a Sec 529 plan) allows individuals to gift large sums of money for a family member’s college education while maintaining control of the funds. The earnings from these accounts grow tax-deferred and are tax-free if used to pay for college tuition and related expenses.
Contributions to these plans are not limited to the child’s parents and can be made by virtually anyone, although if not the parents, the grandparents typically fund the accounts.
Education Credits – If you are a parent with a child or children in college, don’t overlook the American Opportunity Tax Credit (AOTC). It provides a tax credit equal to 100% of the first $2,000 of qualified tuition and related expenses and 25% of the next $2,000 for each child enrolled at least half-time. Better yet, 40% of the credit is refundable. This credit is good for the first four years of post-secondary education.
A second education credit called the Lifetime Learning Credit (LLC) provides a nonrefundable tax credit equal to 20% of up to $10,000 of qualified tuition and related expenses. Unlike the AOTC, which is allowed per student, the LLC is calculated per family with a maximum credit of $2,000 but is not limited to the first four years of post-secondary education.
You don’t even have to pay the expenses to get the credits. The credits are allowed to the person claiming the child as a dependent. So if the child’s grandparent, uncle, aunt, or even an ex-spouse or other parent pays the tuition, you still get the credit if you claim the child as your dependent.
Student Loan Interest - Generally, personal interest you pay, other than certain mortgage interest, isn't deductible on your tax return. However, a special deduction, up to $2,500 per year, allows for interest paid on a student loan (also known as an education loan) used for higher education. You don’t have to itemize deductions to take advantage of this deduction, but you must have paid the interest on a loan taken out for your own or your spouse’s education or that of a dependent. So if you were legally obligated to pay the loan for one of your children who was your dependent when the loan was taken out, you might be able to claim this deduction, even if the child is no longer your dependent.
The student must have been enrolled at least half-time, and the loan must have been taken out solely to pay qualified higher education expenses. The lender can’t be a related person. This deduction phases out if your AGI for 2023 is more than $75,000 ($155,000 if filing a joint return) and isn’t allowed if you use the married filing separate status.
Child’s Medical Expenses – If you itemize deductions, the unreimbursed medical expenses you pay for your dependents are counted for figuring out your total medical expenses. This is true for both parents even if they do not file together as long as one can claim the child as a dependent.
If you have questions about these tax benefits, please call us.