The $8,000 child tax credit that many parents may not know about
Most U.S. families with children are familiar with the federal Child Tax Credit, given that parents of more than 60 million kids received enhanced payments in 2021. But there's another tax benefit geared to parents that may be less well known than the CTC but that can be far more generous, providing up to $8,000 in tax credits this year.
The Child and Dependent Care Credit was supercharged through the 2021 American Rescue Plan, with the pandemic aid bill boosting how much parents can claim on their tax returns for child care expenses as well as making it fully refundable. The latter is important because if the tax credit exceeds what you owe the IRS, you'll get the difference in your tax refund.
The Child and Dependent Care Credit isn't new — it's been around since the 1970s, and was designed to help working parents offset the cost of daycare, after school programs and summer camps. But the credit hadn't kept up with the pace of child care costs, with the child advocacy group First Five Years Fund noting in 2018 that it only covered about 10% of the typical annual cost of care for two children in the U.S. at the time.
The American Rescue Plan created several tax benefits for families. That includes a generous expansion of the Child and Dependent Care Credit, which the Biden administration said was geared toward helping parents return to work. Under the expansion, parents can receive a tax credit worth as much as $8,000 — nearly four times the previous limit of $2,100.
The expanded Child Tax Credit, by comparison, provides $3,600 for each child under six and $3,000 for children between 6 to 17.
"They are recognizing the increasing cost of child care in our country," said Robbin Caruso, co-lead of Prager Metis' National Tax Controversy Practice. "It's a huge opportunity for taxpayers, and it shouldn't be missed out on."
The average weekly rate for a child care center in 2020 was $340, which adds up to almost $1,400 each month, according to Care.com. The cost of paying for child care is pushing some parents out of the workforce, with a Bankrate.com survey finding 1 in 5 parents between the ages of 25 to 31 left their jobs to take on child care duties.
The fact that the tax credit is also fully refundable is important because it could boost the tax refund that many parents receive this year, experts say. Tax credits are dollar-for-dollar reductions in a person's tax liability, versus deductions that lower a person's overall taxable income.
That means tax credits like the Child and Dependent Care Credit are more valuable for taxpayers than deductions — and become even more so when they are fully refundable.
How can I get $8,000?
The most parents can receive from the tax credit is $8,000, which applies to families with two or more children.
The expanded tax break lets families claim a credit worth 50% of their child care expenses, which can be up to $16,000 for two or more kids. In other words, families with two kids who spent at least $16,000 on day care in 2021 can get $8,000 back from the IRS through the expanded tax credit.
Prior to the American Rescue Plan, parents could only claim 35% of a maximum of $6,000 in child care expenses for two children, or a maximum tax credit of $2,100.
Parents with one child can claim 50% of their child care expenses, up to $8,000. That means parents with one child can get a maximum tax credit of $4,000 on their taxes this year. (Prior to the American Rescue Plan, the limit for parents with one child was $1,050 via the tax credit.)
Many parents "may not realize how much it's increased," Lisa Greene-Lewis, a CPA and tax expert at TurboTax, said of the sweetened Child and Dependent Care Credit.
Who is eligible?
Parents and people with dependents who paid for the care of a qualifying individual in order to work or look for work during 2021 are eligible for the expanded tax credit.
A qualifying individual can mean a few things, according to the IRS:
- A child under the age of 13 who is your dependent.
- A spouse or dependent of any age who can't care for themselves and who lives with you for more than six months of the year.
The latter is important because it extends the benefit to people who are caring for older or adult children with disabilities, as well as, say, taxpayers who claim elderly relatives as dependents and who pay for their care.
"If you have a child with disability, there's no age limit," Greene-Lewis said.
There are also some income limits on the tax credit, similar to those for the Child Tax Credit and stimulus checks. The credit percentages is reduced by 1 percentage point for every $2,000 of adjusted gross income for people earning more than $125,000. That means someone with $127,000 in income would be able to claim 49% of their child care expenses, for example.
Families earning more than $183,000 are capped at taking 20% of their child care expenses. But the credit is completely phased out for families earning more than $428,000.
One important point, Caruso said, is that parents who are married must generally file a joint return to claim the credit. Those who are married but file separately generally can't take the credit, she noted.
What expenses are considered valid?
Because the Child and Dependent Care Credit is aimed at helping working people pay for child care, parents must have spent money on caring for their children or dependents in order for them to work or look for work. People who pay for care for older dependents can claim expenses such as adult day care.
- The care can be provided inside or outside the home, ranging from nannies to child care centers. But the IRS requires parents to provide the name of the provider as well as their Social Security number or their EIN, as well as check a box to indicate whether they are a household employee. (You can see the form to claim the tax credit here.)
- Day camps are eligible, but overnight camps don't qualify since the latter aren't necessary for a parent to work or to look for work.
- Before- and after-school programs are also considered eligible because they are considered expenses for child care, the IRS notes.
- Care provided by a relative who is not your dependent can qualify as an expense.
"It can count for summer camp, sports camps — as long as it's enabling you to work or look to work," Greene-Lewis noted.
What expenses aren't covered?
As with the difference between overnight and day camps, not every type of expense is considered valid by the IRS.
- If you send your child to private school, the tax agency notes that you can't claim that as an expense under the Child and Dependent Care Credit since K-12 tuition is considered an educational expense, not a child care expense. (However, as noted above, before- and after-school programs are eligible, the IRS says.)
- Care won't qualify if it's provided by relatives who are dependents or spouses. Basically, the IRS is saying that you can't pay your older teenage child to take care of a younger child, then get a tax credit for that. As for paying your husband or wife to take care of their own child, forget it.
One issue worth noting: If you paid for any child care through a Flexible Spending Account — which allows people to set aside pre-tax income to pay for preschool and other kid-related costs — you won't be able to use those expenses to claim this credit. That's because doing so would allow taxpayers to claim two tax benefits with the money.
What if I worked part-time, am a student or worked at home?
The IRS says that, generally, parents must be working or looking for work to qualify, but there is wiggle room in some areas.
- Parents are considered to be working during any month when they are a full-time student, according to the IRS.
- Work can be either for an employer or for yourself in your own business or partnership, and it can be either full or part-time. It can also be either in or outside of your home.
One major caveat: Although the credit helps people looking for work, a taxpayer must have had some earned income for the year to qualify for it. So if you looked for work but didn't find a job (and therefore didn't have any income in 2021), you won't be able to claim the tax credit.
What happens to the tax credit next year?
Like many of the provisions in the American Rescue Plan, the expanded Child and Dependent Care Credit is only valid for the 2021 tax year — the year for which people are now filing their tax returns.
For 2022, the tax credit returns to its previous form. That means that when parents claim the tax credit on their returns next year, the benefit will be reduced to the previous maximum of $2,100.