Deductions and Tax Credits for Children and Dependents
Congress knows that raising a family is expensive. So, lawmakers have peppered the tax law with help paying the bills.
Kids can cost a small fortune, but they can be real money savers at tax time. Parents also need to be aware that even little kids might have to file returns of their own if they had investment earnings or earned income. There’s no minimum age for becoming a taxpayer. Here are deductions and credits that can save parents money.
Be sure to check out our other taxopedias.
What's Deductible? -- A to Z
Additional child credit for low-incomers. If you claim the child tax credit (see Child credit) and it more than wipes out your tax liability, you may qualify for this credit, which can trigger a refund check from the IRS.
Adoption credit. You can claim a tax credit for up to $13,170 of adoption expenses paid in 2010. If you adopt a child with special needs, you get the full credit even if the adoption cost less. The credit starts to phase out once your adjusted gross income exceeds $182,520.
American Opportunity Credit. Through 2012, the Hope college credit has been modified and renamed the American Opportunity Credit. While the Hope college credit was worth up to $1,800 a year for each student for each of the first two years of college, the American Opportunity Credit is worth up to $2,500 for the first four years of college. The credit usually is claimed by the parent of the student. The American Opportunity credit phases out income rises between $80,000 and $90,000 on single returns and between $160,000 and $180,000 on joint returns.)
Child credit. If you have a qualifying child under the age of 17 at the end of the year, this tax credit can knock $1,000 off your tax bill. (The credit starts to phase out when your modified adjusted gross income exceeds $110,000 if you are married, $55,000 if you are filing separately and $75,000 if you are single, a head of household or a qualifying widow or widower.) You can claim the credit for any number of qualifying children, but the total credit amount generally can't exceed your tax liability. (See Additional child credit.)
Child support. Child support payments ordered under a divorce decree are tax free to the recipient.
Coverdell Education Savings accounts. You can't deduct what you contribute to a Coverdell account, but earnings are tax free if the money is used to pay college costs or expenses for elementary and secondary school education. This includes private and parochial schools. Up to $2,000 can be contributed to a beneficiary's account per year.
Day camps. The cost of day camps for your children while you work can be paid with pretax salary run through a dependent-care reimbursement account or can serve as the basis for the dependent-care credit. None of the cost of an overnight camp qualifies.
Death of a dependent. If a dependent dies during the year, you can still claim an exemption for him or her on your return.
Dependency exemption. Each child or other dependent you claim on your 2010 return will knock $3,650 off your taxable income. (The exemption increases to $3,750 for 2011.)
Dependent-care credit. Payments made to care for a child under the age of 13, or other qualifying dependent, while you work can earn you a tax credit from $600 (for one dependent) up to $2100 (for two or more dependents). If you do not work but go to school full-time, you may assume an annual earned income of $3,000 to apply this credit. If your employer pays these costs for you (and other employees), the first $5,000 of this benefit can be excluded from your income. Any additional amount the employer pays must be reported as income.
Earned income tax credit. This is a special tax credit for low-income workers. Whether your qualify for the credit and the exact size of the credit depend on your income, your filing status and the number of children who live with you. A married couple filing jointly with three or more children, for example, can qualify for a credit with 2009 2010 income as high as $48,279361, for example. A single person with no children, however, can’t qualify if income exceeds $13,440450. The maximum credit in 2009 2010 is $5,657666. If the credit amount exceeds your income tax bill for the year, the earned income credit can refund part of the Social Security and Medicare taxes that were withheld from your pay.
Exchange students. If you have an exchange student living with you, you can deduct $50 a month as a charitable contribution.
529 plans. See State-college savings plans.
Flexible spending account. See Reimbursement account
Foster-care payments. Providers of foster care are allowed to exclude from their reported income, qualifying payments received from a state or local agency for the care of a child placed in their home.
HOPE credit. The Hope college credit does not exist for 2010, 2011 or 2012. It is replaced by the more generous American Opportunity Credit
Kiddie tax. For 2010, this special tax imposes the parents' tax rate on investment income in excess of $1,900 earned by children under age 18 or full-time students under the age of 24. The first $950 of the child's 2010 income is tax free, the next $950 is taxed at his or her (presumably) low rate. After that, the parents’ rate applies
Kindergarten costs. Amounts paid for the cost of kindergarten are eligible for dependent-care credit or to be paid with pre-tax dollars funneled through a dependent-care reimbursement account.
Lifetime Learning credit. This credit picks up where the American Opportunity credit ends, after the first four years of college. It applies to tuition for graduate-level courses and continuing education courses. The credit is 20% of the first $10,000 of tuition, for a maximum of $2,000 per tax return. This credit phases out gradually as adjusted gross income rises between $50,000 and $60,000 for singles and between $100,000 and $120,000 for married couples.
Newborns. A child born any time during 2010 -- as late as New Year's Eve -- qualifies the parents to claim both a $1,000 child credit and a $3,650 dependency exemption. When a child is born, parents should adjust tax withholding on their paychecks to account for the reduced tax bill.
Parent's election to pay tax on child's interest and dividends. In some cases, parents can report the interest and dividends of a child under age 18 on their tax return and avoid filing a return for the child. That's usually more trouble than it's worth and can boost the family's overall tax bill.
Prepaid tuition plans. These plans basically promise that growth of your investments will keep up with the increases in college tuition. The appreciation is tax-free.
Reimbursement plans. A child-care or medical reimbursement plan (often called a flex plan or flexible spending account) offered by your employer can allow you to pay child-related expenses with pre-tax dollars. Dollars funneled through the plan avoid federal income, Social Security and Medicare taxes and, in almost all states, state income taxes, too. Funds not spent by the end of the year, or by the following March 15 in some plans, are forfeited.
Specialty camps. Amounts paid for the cost of specialty camps, such as computer camps or soccer camps, are eligible for dependent-care credit, even though some education is provided.
Standard deduction. Although a child claimed as your dependent may not claim his or her own personal exemption, for 2010 a standard deduction of at least $900 950 is allowed
State college-savings plans. State-college savings plans (often called "529 plans" after the section of the tax law that authorizes them) allow you to save money tax-free to pay for college. Although contributions are not deductible on your federal return, many states permit residents to deduct contributions on state returns.
Student loan interest. When a parent repays a child's student loan (for which the parent is not legally liable), the child -- not the parent -- can deduct the interest.