By Mike Cassidy
Tax professionals often joke that when folks have a child, they are bringing a new tax deduction into the world. Just today, my husband told me a friend at work just had their third child, and I worried that it may have been born after the first of the year and therefore, couldn’t be claimed as a 2014 deduction. Yes, we do think that way.
The exemption you can claim for a child is, of course, only a small part of the financial impact children add to a parent’s life. For instance, the impact of children on your taxes are many, and almost all of them helpful. Here are some examples as children age.
First, a note about the difference between deductions and credits. Deductions are a subtraction from your taxable income, which help to lower the amount of income your taxes are calculated from. Tax credits, on the other hand, are a reduction of your tax liability directly and, in some cases, can actually be paid out to you over and above your tax liability. If you had a choice, you’d want to pick tax credits but both are helpful!
Baby of Mine
GLBT folks become parents in many ways and the tax code can actually help. When we adopt we are able to claim a tax credit to cover all of the cost of adoption up to $13,190, including adoption and attorney fees, court costs, and even adoption-related travel. This credit is a reimbursement of the costs of a successful adoption. Though if your adoption isn’t successful, you are still able to claim adoption costs in the next year. And if you adopt a special needs child, you may be able to claim the full credit even if you didn’t have any adoption expenses. This credit has an income ceiling that begins to phase out at $197,880 in income.
Out-of-pocket medical expenses associated with having a child are also deductible. Fertility treatments and artificial insemination procedures which are often not covered by insurance may be claimed as a medical expense deduction.
Bringing up Baby
There are several ways taxes can help with the costs of raising a child. First is claiming them as a dependent. For 2014, the personal exemption is $3,950 per person/child. Even if the child was born or adopted on 12/31/2014 you are able to claim them for the whole year!
If you are a single parent, you may also be able to claim ‘Head of Household.’ This filing status increases your standard deduction for folks that don’t itemize their deductions.
You may also qualify to claim the Child Tax Credit. This credit is $1,000 and can be used to pay down your tax liability or be refunded to you if you don’t have a tax liability. There is an income phase out to this credit of $75k if you’re single, and $110k if you’re married (I just love that I need to add the ‘M’ word to this article!).
The Earned Income Credit may also be of help to some folks. As an example, this credit is for those with incomes as high as $49,186 if you have two children and are married. Credit amounts and income ranges depend on the number of children you have and if you are married or single.
Who’s Watching Baby
Childcare can be surprisingly expensive! There are a few ways you can get some help through tax credits or tax deductions to pay for childcare. One option is the Childcare Tax Credit. The credit is based on your income, but for most folks it is a 20% credit of your childcare costs. You can consider up to $3,000 of childcare costs per child.
You may also consider doing a dependent care account through your employer. In this account you’re able to deduct dollars from your paycheck to save for childcare expenses. The amount you save, up to $5,000 a year, will lower your taxable income. This is ideal for higher income families who experience higher tax rates.
Folks have been talking about health insurance a lot lately due to the Affordable Care Act. And, just like everyone else, children need to be health insured as well. For 2014 there is a tax penalty for not insuring a child’s health, however if the cost is prohibitive, there are several ways to get help through subsidies, Medical Assistance, tax credits, and exclusions to the penalty.
In Minnesota you can get help by working with a ‘navigator,’ an insurance agent or with MNSure directly, our state insurance exchange. In the GLBT community, several organization have pulled together to provide help in getting health insurance. For more information about these programs, you can reach them at [email protected] or 612-373-2433.
Both the State of Minnesota as well as the federal government have incentives for education spending. For Minnesota, there is a tax credit for lower income families and a tax deduction for everyone that allows you to claim the costs associated with Kindergarten through twelfth grade. Items such as required supplies, tuition for private school, lessons for music, art, language or others, and tutoring can be claimed as a deduction on your Minnesota income tax return.
After high school the federal government can help with school costs. First is the American Opportunity Credit, which can be used to help with the first 4 years of college. This partially refundable credit is up to $2,500. It is a credit of 100% of the first $2,000 of tuition paid, then 25% of the next $2,000 paid.
The other tuition credit program is the Lifetime Learning Credit. This non-refundable tax credit is up to $2,000 and is a credit of 20% of the tuition paid up to $10,000.
The last federal program is a tuition deduction of up to $4,000. All three of these federal programs have income limits.
Planning to Educate Baby
The federal government, in partnership with states, has also created Qualified Tuition Programs with tax advantages for education, and it comes in two versions. The largest program is the 529 Savings Plan, which allows you to save money in an investment account, deferring all taxes on income earned in the account. As long as the funds are used for qualifying education expenses, earnings and gains come out tax-free. Contribution limits are very high for this program, which is what has made the 529 so popular.
The other program, the 529 Tuition Plan, allows you to pay for tuition at a school at today’s prices for your little student’s future college. A few states have set up these programs so the tuition can be moved between state schools, but for the most part it is only good for the specific school you’ve paid.
The last education savings tool is the Coverdell Education Savings account. This account, like the 529 Savings Plan, allows you to save into an account for education. Like the 529, if the funds are used for qualified education expenses, the earnings and gains come out tax-free. This plan has lower contribution limits, however there is more flexibility in where it is invested and what types of education expenses can be paid from it. Where the 529 is only for higher education, a Coverdell can be used for K-12 education expenses.
One of our tax professionals was listening to his granddaughter talk to her parents. She was telling them that grandpa said she’s going to college whether she likes it or not. Get them started early, right?! This is less scary than the friend’s four-year-old daughter that was telling a stranger at the airport that she is a ‘Harvard girl’!
Mike Cassidy is a partner and income tax specialist at ROR Tax Professionals LLC. He’s been preparing taxes for 22 years. Mike is also a Certified Financial Planner™ practitioner and has been helping folks with their financial planning for 17 years. He is also currently serving as the board president for the Minnesota AIDS Project which was mentioned in the article.