A tax credit reduces your total tax liability, and there are several types of credits available to help taxpayers do just that. Traditionally popular credits are those related to children and are defined as child tax credits. Tax reform legislation in 2018 expanded the availability of tax credits for children. Use these tips to determine if you can take advantage of a child tax credit.
Tax credits defined
Tax credits are valuable because each dollar of a tax credit reduces a dollar amount of tax liability. When a taxpayer has a $500 education tax credit, for example, the tax liability is reduced by $500. In short, if you owe $1,000 in tax, claiming the $500 education tax credit reduces the amount you owe to $500.
If you file an individual tax return, the tax credits are calculated on page 2 of Form 1040.
Child tax credit
The child tax credit (CTC) has been available to taxpayers since 1998 and was created to help offset the cost of raising children. Originally, taxpayers could take a $400 credit for each qualifying child under the age of 17. However, the credit changed over time. By 2017, the credit was worth $1,000 per qualifying child and was gradually phased out for single tax filers with an adjusted gross income (AGI) above $75,000 ($110,000 for joint filers).
The Tax Cuts and Jobs Act (TCJA) is a tax reform bill that changed the child tax credit for tax year 2018. Here are some important factors to note:
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Credit amount:
The child tax credit is now $2,000 per qualifying child. The child must be under 17 at the end of the tax year (December 31) to claim it. The credit applies if the taxpayer claims the child as a dependent and houses the child for at least half the year.
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Credit refunds:
If a taxpayer is owed a refund, the refundable portion of the credit increased to $1,400 in 2018 (previously the credit was non-refundable). That means if you don’t owe any tax before claiming the credit, you will receive up to $1,400 as part of your refund. The refundable amount will be adjusted upward for inflation.
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Earned income threshold:
The income threshold to claim the credit lowered to $2,500 per family, which means that a family must only earn $2,500 or more to claim the credit.
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Phaseout:
The CTC has a phase-out component, but the AGI amounts are much higher as of tax year 2018. The phase-out starts at $200,000 for a single taxpayer and $400,000 for joint filers. The higher phaseout levels allow more taxpayers to take advantage of the CTC.
Keep in mind, however, that the increased CTC — as well as the increased refundable portion of the credit — is currently set to expire after December 31, 2025. Parents and guardians also must provide the Social Security number (SSN) for the child. This rule was put in place to ensure the children are U.S. citizens.
Non-child dependent credit
The TCJA also allows a $500 credit for dependents who are not qualifying children under age 17. There is no age limit for the $500 credit. However, the potential dependent must still meet tax tests for dependency. This credit may apply to taxpayers who support a dependent who is a full-time student or disabled.
Tax brackets
The U.S. computes each taxpayer’s tax liability based on tax tables, and the tables are different depending on your filing status. A taxpayer filing as a single person will pay taxes at a different rate than one would if utilizing the married filing jointly status.
Under the TCJA, the seven tax bracket structure remains the same. However, the tax rates decreased, and adjustments were made to the corresponding income levels. Use the Tax Reform Calculator to estimate your tax liability each year.
Help is available
Tax credits provide a dollar-for-dollar deduction on your tax liability. That means taking advantage of tax credits can lower your tax bill. Computing a tax credit can be complicated, but tax software like TaxAct® can help you determine how much of the credit you can claim.