If you've recently joined the ranks of Kanye West and Kim Kardashian, Jessica Simpson, and Eli Manning by adding a new baby to your family, you'll notice some big changes on your tax return when you file in January. Since you'll likely be sleeping a lot less, you may have time to organize the things you need for tax time between feedings, naps and diaper duty. Let's look at some of the changes a new dependent brings to your individual income tax return.
The changes to your taxes start before the baby gets here. All of your out-of-pocket expenses for medical are deductible if you itemize deductions and meet the threshold for out-of-pocket costs. The tax code allows you to claim any unreimbursed medical expenses that exceed ten percent of your adjusted gross income as an itemized deduction. These expenses include any prescription medications for the mom-to-be, all prenatal care, any ultrasounds, blood work, and other lab work and medical tests. While the baby is making its appearance in the world, there are the expenses for the hospital, such as the labor and delivery room, mom's bed, and the baby's incubator. After the mom and baby go home, there are still medical expenses, such as the after-tax cost of health insurance, the well-baby checkups, mom's post baby checkup, and many others. Now is the time to set up a folder, envelope, even a shoe box to keep all of your receipts for medical expenses and child care expenses.
If you are able to participate in a medical Flex Spending Account (FSA) through your job, you may want to consider starting one for a few reasons. You are allowed to put up to $2,500 of your pay into the FSA before taxes, which can then be used to pay your doctors, hospital, lab, and prescription fees. While it's convenient to know you have money for these costs set aside, there is also tax savings because there is no income tax on money put into an FSA and there is no Social Security or Medicare taxes, commonly referred to as payroll taxes, withheld from this money. The payroll tax savings alone can be as much as $191.25 before any income tax savings are considered. If both you and your spouse have an FSA option, consider investing in the FSA for each of you. One caution here, any money left in the account after all your 2013 expenses are paid will be lost, so plan carefully. This is often an overlooked tax benefit, so make sure you understand it and take advantage of it to benefit your tax situation.
As long as your child is born before midnight, December 31, 2013, you will be able to claim the dependent exemption of $3,900 for your child, or each child if you are blessed with more than one. You may be eligible for the Child Tax Credit, a $1,000 credit available for each dependent child under the age of 17 as long as your income is less than $75,000 ($110,000 if married filing jointly and $55,000 if married filing separately). For taxpayers who do not need the full $1,000 per child to reduce their taxes to zero, there is the Additional Child Tax Credit. This credit allows qualified taxpayers to claim the balance of their Child Tax Credit as a refundable credit and pay any additional taxes or increase their refund.
If you and your spouse will both work after the baby arrives, child care costs up to $3,000 for one child and $6,000 for more than one child may qualify for the nonrefundable tax credit, the Credit for Child and Dependent Care Expenses. Depending on your income, this credit can be up to 35 percent of your qualified expenses and has no maximum income limit. As a nonrefundable credit, you can use the credit to offset your income tax liability only and any unused portion is not allowed as a refund. Like the FSA, many employers offer a pre-tax Dependent Care Benefit (DCB) program. Taxpayers may be eligible to put up to $5,000 total per year in their DCB account, tax-free. The money may then be used to pay eligible daycare expenses during the year, reducing your taxable income. If you have more than one qualifying child in daycare and your expenses exceed the $5,000 maximum, you can claim the credit for any expenses between $5,001 and $6,000. The maximum DCB benefit can save you as much as $382.50 in payroll taxes during the year, plus any income taxes you will not have to pay. However, like the FSA, make sure you use all the money in the account for your childcare or you will lose the income and must add-back any unused DCB to your wages when doing your tax return.
Taxpayers with an income of less than $46,227 ($51,567 if married filing jointly) and up to three children may qualify for the refundable Earned Income Tax Credit (EITC) of up to $6,044. The credit amount varies based on total earned income, adjusted gross income and family size. Like the Additional Child Tax Credit, the EITC is available to taxpayers as a refund if their credits, withholdings, and any estimated tax payments exceed their total tax bill.
These are just a few of the most common tax benefits awaiting new parents. There are additional benefits available once your child starts college, but let's not get ahead of ourselves. Having a child is a wonderful thing, even when it comes to taxes. Having a child is also one of the biggest, if not THE biggest life change resulting in new and different tax considerations to you. It is a great time to consider some additional tax help, even if just for the first time, to ensure you identify and take all of the new tax deductions you deserve.
If you adopted a child this year, or plan on adopting, stay tuned for next week's post on how adoption affects you at tax time.