We just got a letter, I wonder who it’s from?
The real question for Steve, Blue, and the 36 million taxpayers who received it is- I wonder what it means?
A clue, a clue! (sorry I just love Blue’s Clues)
Letters from the government have started going out, and maybe you’ve received yours already, informing potentially eligible taxpayers (keyword being potentially, but more on that later) that they may be receiving monthly payments beginning July 15. But these are a bit different from the three stimulus payments sent out over the past year or so and unfortunately even more confusing.
How has the Child Tax Credit been expanded?
The American Rescue Act, passed in March of 2021, increased the child tax credit significantly- from $2,000 per child up to age 16 to $3,000 per child ages 6 to and up to and now including age 17, and $3,600 per child under the age of 6. The income limits to receive the maximum credit are a modified adjusted gross income (line 11 on your 1040) of $75,000 for single filers, $112,500 for head of household, and $150,000 for married filing jointly and qualified widows or widowers. Beyond that, the credit is reduced by $50 per $1,000 over the limit. Once income reaches $95,000 for single filers and $170,000 for joint filers the new expanded credit is completely phased out, but the existing $2,000 per child under age 17 is still available (subject to the existing income limits of $200,000 and $400,000)
What are the advance payments?
Rather than wait to claim and receive this credit increase on your 2021 tax return, the Act provides that if based on your most recently filed tax return, either 2019 or 2020, you would be eligible for the increased credits, those payments are to be sent out monthly from July 15 to December 15, up to either $250 or $300 per child, depending on the child or childrens’ ages and your income. Essentially they are advancing you half of the credit they expect you to be entitled to.
A nice deal -with a couple big buts
You may recall that with the stimulus payments, if you received a payment based on a prior year’s income and your current 2020 tax return made you ineligible due to an increase in income, you did not have to pay this back (no clawback provision). This time around, these credits will again be reconciled with your actual 2021 income but if you were not eligible for the amount you were sent, you must pay it back (if you would have been due a refund it reduces that). Losing eligibility can happen a few ways- the obvious being an increase in income, but you may also be eligible for less due to your child turning a year older, or if you alternate years claiming your children with the other parent and you took the dependent exemption in 2020, you may receive the monthly payments where actually the other parent would be entitled to them. Ouch.
Another downside to receiving the credit in advance is it may unexpectedly change your anticipated tax refund. Let’s say you have 3 children ages 3, 5, and 7, and typically qualify for the full credit of $2,000 for each. That’s $6,000 to reduce your tax liability and potentially give you a big refund. Now under the advance payments you will be receiving monthly payments of $850 ($300 each for the 3 and 5 year old and $250 for the 7 year old). Over 6 months you’ll get $5,100 in total, and the additional $5,100 of the credits will be applied on your return. But you are used to receiving $6,000 of child tax credits. That could leave you with $900 in either smaller refund or maybe even throw you into a balance due situation. Now you did receive $5,100 ahead of time, so all in all you are in the black but it could be an unpleasant surprise if you weren’t anticipating that at tax time and hadn’t planned for it.
What if your circumstances have changed since your last filed tax return?
The IRS will be opening two portals by July 1- one that will allow you to opt out of the program (if you know you are no longer eligible or you just prefer to receive the credit in a lump sum via your tax refund instead), update your number of qualifying children, income, and/or marital status. This also allows you to report an increase your eligibility – you’ll want to use this if you had a new baby in 2021, you had a custody change, or your income decreased for example. The second portal will be for those taxpayers who were not required to file a tax return (non-filers) to register for the program. It is unknown at this point if the portals will allow you to update addresses or bank direct deposit information.
Track your payments
It’s important to make note of what you receive in total by year end; you will need to report it on your tax return. The portals are expected to include a look up tool for your payments received, but best to keep track of them yourself as well.