A New Baby and Tax Breaks
When a family has a new baby, their priorities are not taxes. Trying to figure out how to get more sleep – yes; taxes – no. But when it comes to tax time, it’s good for them to know that not only has the baby brought goodness into the world but also tax breaks!
We thought we would put together a list of what new parents need to know about taxes.
· Child’s Social Security Number (SSN)
o At the top of the list for tax breaks, be sure to get a social security number for your child prior to filing your return. You must include your child’s SSN on your tax return in order to claim the child as a dependent and take any deductions or credits related to that child. For the steps in applying for your child’s SSN, see How to Get a Social Security Number.
o Tax return note: when entering your child’s name on your tax return, be sure it matches exactly the name on the child’s SSN card. If you file electronically and the name doesn’t match the card, the IRS may make you go stand in line at the post office and mail your return.
o On a typical return, a child listed as a dependent, will reduce the family’s income by $3,500 for 2008. This is known as a dependency exemption.
o This $3,500 will start being reduced when your adjusted gross income (see Form 1040, page one, last line) is $239,950 or greater when filing married filing jointly.
o TurboTax will calculate the exemptions for your return.
· Day Care expenses
o If both you and your spouse work, your care expenses can reduce your tax to some degree. It’s the Credit for Child and Dependent Care Expenses. The credit is a percentage (20%-35%) of your child care expenses based (again) on your adjusted gross income.
o When you choose your child care providers, be sure that you write down their social security numbers (SSN) or employer identification numbers (EIN). In order to claim this credit, you will report their name, address, and identification number on Form 2441 with your tax return.
o If you pay someone to look after your child in your home, you may have to file Schedule H- Household Employment Taxes. TurboTax will help you determine if you need to file this form and if so, how much the additional taxes will be. For further questions, see IRS Topic 756.
o If you receive dependent care benefits from your employer, or have any other questions about this credit, be sure to read IRS Tax Topic 602 .
· Child tax credit
o This is another credit that reduces your tax. The most you can claim for this credit is $1,000 for each child and once more, if you have a high adjusted gross income (if married filing jointly, over $110,000), the credit starts being reduced.
o Yes, this credit lowers your tax but with the typical return, it can’t be more than your tax. So if you have two children and your tax is $1,700, you will only get a credit for $1,700, not $2,000.
o There are exceptions to this rule and you may receive an additional child tax credit that is refundable over and above your tax. TurboTax will ask you the right questions and determine your total child tax credit.
o For more information, see IRS Publication 972.
· Earned Income credit
o Depending on the income that you and your spouse earned and the number of children listed on your tax return, you may be eligible for an earned income credit. The maximum amount of credit if you have one child is $2,917 and $4,824 if you have two or more children.
o If you’re filing married filed jointly, you won’t receive any credit if your earned income is much more than $41,000 and you have two or more children. If you have additional questions, see IRS Tax Topic 601
· Adoption expenses
o If you adopted your child, you might also receive a reduction in taxes for those adoption expenses, including lawyer fees and travel expenses, up to a maximum credit $11,650 for 2008. See IRS Tax Topic 607.
o Note: If filing married filing jointly and your adjusted gross income is more than $174,730, the credit will start being phased-out.
o Also check and see if your employer has an Adoption Assistance Plan that helps pay for some or all of your adoption expenses.
· Child’s investment income
o If your child has investment income, beware that if that investment income is greater than $900 in 2008, you may have to file a tax return for the child.
o If the child’s investment income is over $1,800, the income will be taxed at parents’ tax rate. To save time filing that child’s return, you can elect to include that income on your tax return.
o For more information, see IRS Tax Topic 556
o The two best ways to save for your child’s college expenses are college savings plans and prepaid tuition plans. These programs are known as Section 529 plans and are established and maintained by states.
o Some states have both types and some have one type or the other but every state has at least one type.
o The prepaid tuition plans let you lock in the college’s current price to pay for your child’s future college expenses. College savings plans don’t have this guarantee.
o Anyone, not just the parents, can contribute to these plans.
o There is no federal deduction when a contribution is made to a plan but you may get a deduction on your state return if you investment in your state’s 529 plan.
o The earnings on these plans are tax-deferred. You don’t pay taxes on the yearly earnings.
o If the money from the plan is used for the child’s college expenses, the distribution is tax free.
o If you start a 529 plan, be sure that you plan to leave the money in the plan until your child is ready for college. If you cancel the plan, you will have to pay tax on the earnings and a possible 10 % penalty.
o Here are some good websites for a better understanding of these college plans