Deductions reduce the amount of income on which you must pay tax. Tax credits however, reduce taxes dollar for dollar. Tax credits are a powerful way to minimize your taxes, or even eliminate your tax liability completely. A credit may be either a refundable tax credit or a non-refundable tax credit.
Refundable vs. Nonrefundable
- A non-refundable tax credit is limited to a taxpayer’s tax liability. The taxpayer is not entitled to a refund if the amount of the credit exceeds the tax liability.
- A refundable tax credit is not limited to the taxpayer’s tax liability. If the refundable tax credit exceeds the taxpayer’s tax liability for the year, the taxpayer is entitled to a refund of the excess.
Child Tax Credit
The child tax credit (CTC) is a non-refundable credit allowed taxpayers with a qualifying child. Taxpayers are allowed up to $1000 per qualifying child depending on their income. If the taxpayer has no tax liability, the taxpayer cannot claim the child tax credit but may be entitled to the additional child tax credit.
A qualifying child for purposes of the child tax credit is a child who meets all of the following requirements:
- Your son, daughter, stepchild, foster child, brother, sister, stepbrother, stepsister, or a descendant of any of them (for example, your grandchild, niece, or nephew).
- Was under age 17 at the end of the tax year.
- Did not provide over half of his or her own support for the tax year.
- Lived with you for more than half of the year(exceptions for birth, death and temporary absences).
- Is claimed as a dependent on your return
- Does not file a joint return for the year (or files it only as a claim for refund).
- Was a U.S. citizen, a U.S. national, or a U.S resident alien.
The credit is reduced or even eliminated for higher income taxpayers.
The child tax credit is phased-out if the taxpayer’s modified adjusted gross income exceeds the following amounts:
- Married filing jointly – $110,000
- Married filing separately – $55,000
- All others – $75,000
Additionally, the Child Tax Credit is limited to your Gross tax liability and can’t reduce your tax below zero. In other words, the credit you receive cannot be greater than the tax you owe.
Additional Child Tax Credit
If your Child Tax Credit is limited by your tax liability you may qualify for the Additional Child Tax Credit. The Credit is calculated on form 8812, Additional Child Tax Credit. The Additional Child Tax Credit is the refundable portion of the Child Tax Credit.
The additional child tax credit is computed by taking the lesser of:
- The disallowed child tax credit
- Your earned income (wages or self-employment) less $3,000 times 15%.
To learn more, see publication 972, Child Tax Credit
Child and Dependent Care Expenses
Taxpayers who pay someone to care for a qualifying individual so they can work or look for work are eligible to claim a credit for such work-related expenses. The credit for child and dependent care expenses is a non-refundable credit, up to 35% of the taxpayer’s eligible expenses. In general, married taxpayers must file a joint return to claim this credit.
Qualifying individual
- A dependent of the taxpayer, as defined under the qualifying rules, who is under the age of 13.
- A dependent of the taxpayer who is physically or mentally incapable of caring for himself or herself and who lived with the taxpayer for more than half of the year.
- The spouse of the taxpayer, if the spouse is physically or mentally incapable of caring for himself or herself and he or she lived with the taxpayer for more than half of the year.
To learn more, see publication 503, Child and Dependent Care Expenses
Foreign Tax Credit
If a taxpayer paid or incurred foreign taxes to a foreign country on foreign source income and is subject to U.S. tax on the same income, the taxpayer may be able to take either a credit (foreign income taxes reduce your U.S. tax liability) or an itemized deduction for those taxes (foreign income taxes reduce your U.S. taxable income). You may claim either the foreign tax credit or deduction each year. You can choose to take a credit in one year, and a deduction in the next year.
Taxpayers can claim a foreign tax credit without filing Form 1116 if all of the following requirements are met:
- The taxpayer’s only foreign source income for the year is passive income (Passive income is that from dividends, interest, rents, royalties, etc.) that is reported on a payee statement (such as form 1099-DIV or Form 1099-INT).
- The taxpayer’s qualified foreign taxes for the tax year are not more than $300 ($600 if filing a joint return) and are reported on a payee statement.
- The taxpayer elects this procedure for the year. If the taxpayer qualifies and elects not to file Form 1116, the smaller of the total foreign taxes paid, or the tax on line 44 (Form 1040) is entered on line 47 of form 1040.
The foreign tax credit (FTC) can be claimed for taxes paid to any foreign country NOT on the list of sanctioned countries, as long as other conditions are met.
To learn more, see publication 514, Foreign Tax Credit for Individuals
Education Credits
There are two education credits available that can help off-set the cost of post-secondary education for you, your spouse or a dependent: American Opportunity Credit and the Lifetime Learning Credit.
While you may qualify for both credits, you cannot claim both the American Opportunity Tax Credit and Lifetime Learning credits for the same student in the same year. Both credit amounts are determined based on your gross income and your filing status. Furthermore, you cannot claim either credit if you are married filing a separate return or claimed as a dependent on someone else’s return.
American Opportunity Tax Credit
Up to $2,500 per student, per year can be claimed for the first four years of post-secondary education.
For purposes of the American opportunity tax credit, a student must satisfy the following requirements to be considered an eligible student:
- The student has not completed the first four years of post-secondary education.
- The student must be enrolled at least half-time in a program leading to a degree or other recognized education credential for at least one academic period beginning during the tax year.
- The student must not have a felony drug conviction.
Qualified education expenses: Tuition, expenses for course-related books, supplies, and equipment that the student needs for a course whether or not the materials are bought at the educational institution as a condition of enrollment or attendance. Any student-activity fees related to the academic course of instruction and paid to the institution as a condition of enrollment or attendance.
Room and board, insurance, and other personal living expenses are not qualified education expenses whether or not they must be paid to the institution as a condition of enrollment.
Lifetime Learning Credit
The lifetime learning credit is a non-refundable credit for qualified education expenses paid on behalf of all eligible students in the taxpayer’s family. The Lifetime Learning Credit equals 20 percent of the first $10,000 of tuition and related expenses paid during the year, for a maximum credit of $2,000 per tax return.The lifetime learning credit is per taxpayer, not per student.
For purposed of the lifetime learning credit, an eligible student is enrolled in one or more courses at an eligible educational institution. The number of years for which this credit can be claimed is not limited.
Qualified education expenses: Tuition, expenses for course-related books, supplies, and equipment that must be paid to the institution as a condition of enrollment or attendance. Student-activity fees related to an academic course are included in qualified education expenses only if the fees must be paid to the institution as a condition of enrollment or attendance.
To learn more, see publication 970, Tax Benefits for Education
Earned Income Tax Credit
The earned income tax credit (EITC or EIC) is available to qualifying individuals with income below certain levels. EITC is a refundable tax credit meaning you could qualify for a tax refund even if you did not have federal tax withheld. If you qualify, the amount of your EITC will depend on your filing status, whether you have children, the number of children you have, and the amount of your wages and income last year.
To claim EITC, you must have a social security number, issued by the Social Security Administration that is valid for employment. And, your spouse (if filing a joint return) and any qualifying child listed on Schedule EIC must have social security numbers that are valid for employment. If your social security card says VALID FOR WORK ONLY WITH DHS AUTHORIZATION, you can use your social security number to claim EITC if you otherwise qualify.
Maximum Earned Income Tax Credit Amounts for 2016 and 2017
- $6,269 ($6,318 in 2017) with three or more qualifying children
- $5,572 ($5,616 in 2017) with two qualifying children
- $3,373 ($3,400 in 2017) with one qualifying child
- $506 ($510 in 2017) with no qualifying children
To be eligible for the credit with no qualifying children, a taxpayer must be at least age 25 and under age 65 at the end of 2016, live in the United States for more than half the year, and not qualify as a dependent of another person. On a joint return, either the taxpayer or spouse, must be at least age 25 and under age 65 at the end of 2016.
Disallowances for reckless or fraudulent claims
A person or couple will be disallowed EIC for 2 tax years if they claim EIC when not eligible and the IRS determines the “error is due to reckless or intentional disregard of the EIC rules.” If the error was due to fraud, than the taxpayer cannot claim EIC for 10 tax years. Form 8862, Information to Claim Earned Income Credit After Disallowance is required after this time period in order to be reinstated. Form 8862 is not required if EIC was reduced solely because mathematical or clerical error.
Qualifying Child Rules
To determine if your child is a qualifying child, review the relationship, age, residence, and joint return qualifications listed below.
Relationship. Your son, daughter, adopted child, stepchild, foster child, or a descendent of any of them such as your grandchild. Brother, sister, half brother, half sister, step brother, step sister, or a descendent of any of them such as your niece or nephew.
Age. The qualifying child must be under 19 years old (24 years old in the case of a full-time student) as of the last day of the tax year. Also, a permanently and totally disabled child of any age automatically meets this test.
Residency. The qualifying child must live in the taxpayer’s home, which must be in the United States, for more than half of the tax year.
Joint Return. The child cannot file a joint return for the tax year unless the child and the child’s spouse did not have a separate filing requirement and filed the tax return only to claim a refund.
To qualify for EITC you must have earned income from wages, salaries or tips, from owning or running a business or farm, or certain disability income.
To learn more, see publication 596, Earned Income Credit. 596SP Para información en español sobre EIC.
Other links:
- EITC Income Limits, Maximum Credit Amounts and Tax Law Updates – 2016
- EITC Income Limits, Maximum Credit Amounts and Tax Law Updates – 2017
There are other tax credits available to eligible taxpayers. We welcome any questions or comments you may have. Feel free to contact us at any time.
Note:
- If the babysitter refuses to give you the identifying information, you should report on Form 2441 whatever information you have (such as name and address). Enter “See Attached Statement” in the columns calling for the information you do not have. Then attach a statement explaining that you requested the information from the provider, but the provider did not give you the information. Be sure to write your name and social security number on this statement. The statement will show that you used due diligence in trying to furnish the necessary information.
- If the care provider information you give is incorrect or incomplete, your credit may not be allowed. However, if you can show that you used due diligence in trying to supply the information, you can still claim the credit. You can show due diligence by getting and keeping the provider’s completed Form W-10 (PDF) Dependent Care Provider’s Identification and Certification or one of the other sources of information listed on page 8 of 2013 Pub. 503. Care providers can be penalized if they do not provide this information to you or if they provide incorrect information.
- Expenses for a child in kindergarten or a higher grade are not for the care of a qualifying individual. However, expenses for before- or after -school care may be for the care of the qualifying individual.
- Expenses for a child in nursery school, pre-school, or similar programs for children below the level of kindergarten are for the care of a qualifying individual and may be employment related expenses.
- If you pay someone to care for your children in your home, you might need to file Schedule H and make timely FICA payments. If you pay someone to clean your home, the same requirements might also apply to you.
- If you take your child to a day care center, you will need their employer identification number (EIN). If the provider is a Tax-exempt organization, the identification number is not needed, but the term “Tax-Exempt” must be indicated on Form 2441, Line 1(c)
- Adopted Child. An adopted child is always treated as your own child. It also includes a child lawfully placed with you for adoption.
- Foster Child. For EITC, a child is your foster child if the child is placed with you by an Authorized placement agency or by judgment, decree, or other order of any court of competent jurisdiction. (An authorized placement agency includes a state or local government agency or an Indian tribal government. It also includes a tax-exempt organization licensed by a state or an Indian tribal government).
- Permanent and totally disabled. Your child is permanently and totally disabled if both of the following apply: The child cannot engage in any substantial gainful activity because of a physical or mental condition and a doctor determines the condition has lasted or can be expected to last at least a year or lead to death.
- United States means the 50 states and the District of Columbia. It does not include Puerto Rico or U.S. possessions such as Guam.
- Unlike the dependent care credit, the education credit, and the earned income tax credit, the child tax credit is available for married taxpayers filing separate returns.
- You must claim the child as a dependent on your return to qualify for the child tax credit.
- The child tax credit can be claimed for a child with an Individual taxpayer identification number (ITIN).
- Taxpayers must file form 1040 or form 1040A to claim the child tax credit, not form 1040EZ.
- Only one person can claim a child for EITC. If the child is the qualifying child of more than one person, only one person can claim the child as a qualifying child for all of the following tax benefits:
- EITC
- Dependency exemption for the child
- Child tax credit
- Head of household filing status
- Credit for the child and dependent care expenses and
- Exclusion for dependent care benefits
Special rules apply for children of divorced or separated parents.