Tax Planning issues and considerations related to the 2021 advance Child Tax Credit
July 15th, 2021 marked the first day advance payments of the Tax Year 2021 Child Tax Credit started going out to taxpayers across the nation.
These payments will happen automatically for eligible taxpayers. But the question eligible taxpayers need to ask is, ‘Am I sure I want them?’
Before we address tax strategy, we need to identify the different components of the Child Tax Credit.
There is the “regular credit” of $2,000 per child;
The expanded credit, for qualified taxpayers, of an additional $1,000 for children age 6-17, and an additional $1,600 for children age 5 and under;
And the “advanced payment” component, which will be equal to one-half of the taxpayers total child credit (regular and expanded, if qualified).
On top of that, depending on your filing status, and your Adjusted Gross Income, you may be eligible for some or all of the expanded credit in addition to the regular credit.
Single filers making $75,000 or less will qualify for the full expanded Child Tax Credit. Single filers making between $75,000 and $239,000 will gradually see their total Child Tax Credit phased out with no credit available for single taxpayers making more than $239,001.
Head of Household (HOH) filers making $112,500 or less will qualify for the full expanded Child Tax Credit. HOH filers making between $112,500 and $239,000 will gradually see their total Child Tax Credit phased out with no credit available for HOH taxpayers making more than $239,001.
Married Filing Joint (MFJ) filers making $150,000 or less will qualify for the full expanded Child Tax Credit. MFJ filers making between $150,000 and $439,000 will gradually see their total Child Tax Credit phased out with no credit available for MFJ taxpayers making more than $439,001.
And regardless of whether you qualify for the expanded credit or only the regular credit, if you are eligible to receive any amount of Child Tax Credit, then the IRS will start sending you advanced payments of one-half of your Child Tax Credit unless you specifically opt out of the program.
Now that we’ve discussed the Credit and applicable income ranges, it's time to discuss why you may not want the advanced payments.
The main reason is because these advanced payments are not another form of stimulus payment. Depending on how 2021 shakes out, some taxpayers receiving the advance payments may end up owing tax next April, or worse, they may have to pay the advance payments back.
This is because every amount of advance payment a taxpayer receives reduces their Child Tax Credit that will be reported on their 2021 tax return. For example, if an eligible taxpayer would be getting a $3,000 Child Tax Credit on their 2021 tax return, but they receive monthly advance payments of $250 in July through December 2021, then come tax time in April 2022, their tax return will show only a $1,500 Child Tax Credit instead of $3,000. And if the taxpayer has a tax balance due in April, the lesser amount of available Child Tax Credit means more tax needs to be paid by April 15th.
But an even worse case scenario exists—the taxpayer could have to pay the advance payments back if their 2021 income ends up being above the household income thresholds. Advance payment eligibility is preliminarily calculated based on the 2020 or 2019 returns filed by the taxpayer, but the 2021 returns, when they are finally filed, will be what the IRS uses to determine if a taxpayer really should have received the advance payments. And if the taxpayer’s 2021 tax returns show they made too much income, then the advance payments will have to be paid back.
So what does this all mean? It means that if you think you may owe taxes next April, or that your total household income in 2021 will be higher th
an the income thresholds, then you may want to opt out of the advance payments to prevent unanticipated tax consequences come April 2022.
If you do wish to opt out of the advance payments, you need to go to the IRS website at https://www.irs.gov/credits-deductions/child-tax-credit-update-portal and make the positive election to un-enroll.
Sweeten CPA is here to help you determine if the advance Child Tax Credit payments are a good fit for you. Please reach out if you have questions.
From the desk of Andrew Wallin, Tax Manager at Sweeten CPA.