By Edward “Ed” V. O’Neal, Vice President and Manager, Retirement PlansPrint This Post
As a parent of children, teenagers or young adults, you’re often able to share some wonderful and memorable experiences together. It’s one of the great perks of being a parent! Additionally, some of the financial perks of being a parent or having dependents can become apparent during tax time. The Tax Cuts and Jobs Act (TCJA), which became effective on January 1, 2018, impacted the tax planning strategies for many parents last tax year due to rule changes impacting deduction limits and certain tax credits. For the 2019 tax season, parents can continue to utilize changes created by TCJA, but may also see some benefits from the recently enacted Setting Every Community Up for Retirement Enhancement (SECURE) Act. Here are a few items that could be helpful to tax planning for parents:
- There are several popular tax credits for parents to lower your tax bill dollar-for-dollar, including:
- Child Tax Credit for families with qualifying children or dependents (i.e. under the age of 17) and who meet certain household income levels. Eligibility for this credit is phased out at $200,000 of modified adjusted gross income ($400,000 for married couples filing jointly). This tax credit has a maximum amount of $2,000 per child.
- There is also a tax credit available of up to $500 for dependents who do not meet the qualifying child definition under the Child Tax Credit.
- Child & Dependent Care Credit for parents needing child care so that they can work (or look for work). This credit applies for children under the age of 13, and allows parents to claim a credit up to 35% of qualified care expenses (with a maximum of $3,000 in care expenses for parents with one dependent and $6,000 for parents with more than one dependent). The size of the credit is based on parent income levels.
- The Adoption Tax Credit can help parents offset some of the cost associated with the adoption of a child. For adoptions finalized in 2019, the maximum credit is $14,080 per child.
- Higher Education Tax Credits (such as the American Opportunity Tax Credit and Lifetime Learning Credit) can help parents offset some of the expenses for higher education for their children. Both tax credits have income limitations to qualify.
- Though tax deductions and exemptions were largely limited under TCJA, there are still options to help parents reduce taxable income, including:
- Donations of all those cute baby outfits that your child barely wore or has now outgrown, along with unused/old toys or baby furniture can all add up to nice-sized deductions as a charitable donation. Websites like org can help you estimate the fair market value of these items.
- Student Loan Interest Deduction: permits parents to deduct interest payments on certain student loans.
The recently enacted SECURE Act included several provisions that could positively impact future tax planning strategies for parents, such as:
- Key changes to the Kiddie Tax rates. The Kiddie Tax rules are designed to tax a portion of a child or young adults unearned income (usually from investments). For many years, this unearned income was required to be taxed at the parent’s marginal tax rate, but that was changed in 2018 with the passage of TCJA. Under TCJA, unearned income for children and young adults was required to be taxed at the rates paid by trusts and estates. However, due to the tax rate structure of trusts and estates, this change had an unfavorable and unintended tax consequence on children and young adults with substantial unearned income.
The SECURE Act attempts to remedy this issue by repealing the Kiddie Tax rate change imposed by TCJA and restores the previous Kiddie Tax rate of the parent’s marginal tax rate. This development could be a meaningful tax saver for parents and families. Although most of the provisions enacted in the SECURE Act are effective for 2020 and after, this provision can retroactively be utilized for 2018 and 2019 tax filings.
- Qualified birth or adoption withdrawals. The SECURE Act created a new penalty-free withdrawal from an IRA or retirement plan for childbirth and adoption expenses up to $5,000 per child. Under the SECURE Act this type of distribution is exempt from the 10% early withdrawal penalty, and withdrawals would need to be taken within 1 year from childbirth or finalization of an adoption. Unlike changes to the Kiddie Tax rules, this new provision is available only for childbirth or adoption withdrawals made after 12/31/2019, so this could be helpful to new parents for the 2020 tax year.
Given all the changes and enhancements impacting deductions and credits over the last few years, parents and families would be well served to carefully consider their tax planning strategies. Please consult with your tax advisor before implementing any tax strategy to fully understand the qualification requirements and impact on your personal tax situation for 2019 and beyond.