Americans are merely days away from the launch of the new Child Tax Credit on July 15, 2021. While the credit has been around since the Clinton Administration, the version from the Biden Administration is projected to have a significant impact on the country. From helping middle class families save for childcare and college to helping lower income families pay for rent and groceries, this new credit has tremendous possibility.
“The Advanced Child Tax Credit can be seen as a benefit to many taxpayers since it will put money into taxpayers’ pockets sooner and allow them to offset some of the costs of raising their children,” says Colin Horsford, CPA and Managing Partner, Horsford Accounting & Advisory in New York. “Right now, many parents aren’t returning to work in the same capacity as pre-COVID, so the payments are a welcomed increase to their monthly cash flow.”
Part of the magic behind this new tax credit is that it will pay out on a monthly basis to qualified taxpayers. From a financial planning perspective, this will allow parents to better manage cash flow and allow for stronger financial decision making.
As with all new tax policies, some taxpayers will benefit and others simply will not be the right fit, which raises two questions: should you take the child tax credit and if not, how do you stop the monthly payments from appearing in your bank account?
Who Should Opt Out
The threshold question surrounds who should be opting out of the credit. Determining this requires taxpayers to conduct an analysis to see if it is in their best interests to receive the credit.
As with many tax credits, the leading indicator is whether the taxpayer qualifies due to their modified adjusted gross income (MAGI). The new credit will be $3,600 for taxpayers with children under 5 and $3,000 for children ages 6 to 17. However, the credit is only available if the taxpayer’s MAGI is $75,000 or less for single taxpayers, $112,500 for head of household filers and $150,000 for married filing joint.
The key thing to remember is that this is a credit against the 2021 income tax return.
“Taxpayers should consider opting out of the Advanced Child Tax Credit if their income rose in 2021, especially if it will be greater than the eligibility thresholds,” says Horsford.
It is not uncommon for income to change from year to year. Given the 2020 tax year when many taxpayers were not fully employed, it is likely that their 2021 income will be higher.
Horsford also points out another common situation. “Many taxpayers only consider an increase in wage earnings and forget about capital gains from investing – think GameStop/meme stock trading and the recent crypto-craze – or other less common increases like the sale of a home during this year’s hot seller’s market,” he says.
Beyond scenarios where income was higher, taxpayers also need to be aware of scenarios where their children either turned 6 or 18 in the tax year, where the benefits shift. They might not be eligible for the full amount of credit.
Finally divorced couples may have a more challenging situation.
“If there is a split custody arrangement with the other parent, the Child Tax Credit will only be awarded to one parent per child in 2021,” explains Horsford. “If the parents aren’t sure who should receive it, it’s better to opt out and have the eligible parent claim it on his/her 2021 tax return.”
How Do You Opt Out
Once a taxpayer determines that they are not eligible for the credit, they must proactively opt out of the payment. The good news is the IRS has planned for this potential situation.
“Taxpayers can opt out of the Advanced Child Tax Credit payments using the IRS’ Child Tax Credit Update Portal,” says Horsford.
By opting out now, taxpayers are simply declining to receive the monthly payments. If they find out they are eligible on their 2021 tax return, they can still get the full credit.
A Tax Pro Might Help
Given all the complexity involved with this credit, taxpayers may want to seek professional help. A tax professional can look at the filed 2020 tax return and the projected 2021 income and determine the best path to take.
“It is strongly suggested that taxpayers use the Advance Child Tax Credit Eligibility Assistant and speak to a CPA or tax preparer before deciding whether they should accept the payments or not,” says Horsford.
For those who prefer to go it alone, the safest course might be to opt out and wait to see if they can take the full credit when they file their 2021 return. Taxpayers who take the monthly payments now, but later determine they were not eligible for the credit, will have to pay it back – not a pleasant prospect.
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