Greetings, I'm Stephanie Morris, CPA, and today, we'll delve into the intricacies of the expanded 2021 Child Tax Credit, empowering you to guide your clients through the labyrinth of new regulations and calculations. Let's embark on this journey to unravel the nuances of the updated Child Tax Credit.
Unraveling the Expanded Child Tax Credit
Have your clients recently spotted unexpected deposits in their checking accounts? These could be advance payments from the expanded 2021 Child Tax Credit, a result of the American Rescue Plan Act (ARPA) of 2021. This plan not only amplifies the credit amount but also introduces alterations to phaseout thresholds, renders the credit fully refundable, and sanctions advance payments to specific taxpayers. Navigating this web of changes requires a comprehensive understanding of the credit's intricacies. Let's dissect the enhanced Child Tax Credit.
Understanding the Credit Amount
For the tax year 2021, the Code section 24 Child Tax Credit, before phaseout considerations, includes the base $2,000 credit, augmented by additional amounts:
- $1,600 per child aged 5 and below (Total tax credit = $3,600)
- $1,000 per child aged 6-17 (Total tax credit = $3,000)
The child's age is determined as of the end of 2021, influencing the applicable credit tier.
Decoding Phaseouts
The Child Tax Credit undergoes a two-step phaseout process contingent on the modified adjusted gross income (AGI) in 2021.
Phaseout 1
This phaseout applies to the additional $1,600 (for children aged 5 and under) or $1,000 (for children aged 6-17). The reduction is $50 for every $1,000 by which modified AGI exceeds $150,000 (married filing jointly), $112,500 (head of household), or $75,000 (single). The additional credit fully phases out, resulting in a maximum credit of $2,000 when modified AGI exceeds:
- $1,600: $182,000 (MFJ), $144,500 (head of household), or $107,000 (single)
- $1,000: $170,000 (MFJ), $132,500 (head of household), or $95,000 (single)
An illustrative example: A couple with a twelve-year-old child filing jointly with a modified AGI of $162,000. With their modified AGI surpassing the $150,000 phaseout threshold by $12,000, the additional tax credit decreases by $600, resulting in a 2021 Child Tax Credit of $2,400.
Phaseout 2
The second phaseout reduces the 2021 Child Tax Credit below $2,000 per child if modified AGI exceeds $400,000 (married filing jointly) or $200,000 (other filing statuses). The reduction calculation mirrors phaseout one. The $2,000 credit is fully phased out at $440,000 (MFJ) or $240,000 (other filing statuses).
For instance, a couple with a four-year-old child filing jointly with a modified AGI of $411,000 sees the credit diminish by $550 (11 x $50), resulting in a 2021 credit of $1,450 ($2,000 - $550).
Advance Payments Mechanism
A distinctive feature of the expanded 2021 Child Tax Credit is that half of the credit is disbursed in advance. Six payment dates are scheduled for 2021: July 15, August 13, September 15, October 15, November 15, and December 15.
Advance payment calculation relies on the most recently filed 2019 or 2020 tax return. The IRS examines these returns, computes the Child Tax Credit based on 2021 amounts and thresholds, and disburses half of the credit in six installments using the provided direct deposit bank information.
For non-filers in 2020, the IRS facilitates a simplified tax return through the Child Tax Credit Non-filer Sign-up Tool. This tool aids eligible individuals in registering for advance Child Tax Credit payments and the third Economic Impact Payment while claiming the 2020 Recovery Rebate Credit.
Adapting to Changes in Finances
Crucially, advance payments are prepayments of the taxpayer’s actual 2021 Child Tax Credit, calculated based on 2019 or 2020 income tax information. Financial or family alterations in 2021 may impact the Child Tax Credit amount.
If advance payments exceed the actual eligible credit, taxpayers may need to repay the excess depending on modified AGI:
- Modified AGI below $60,000 (MFJ), $50,000 (head of household), or $40,000 (single): No repayment required
- Modified AGI above $120,000 (MFJ), $100,000 (head of household), or $80,000 (single): Full repayment of the excess
- Modified AGI between these thresholds: Partial repayment of the excess amount
Conversely, if advance payments fall short of the actual eligible Child Tax Credit, taxpayers can claim the additional credit on their 2021 income tax return.
For instance, a family with two children (ages two and twelve) filing a 2020 income tax return with a modified AGI of $140,000 is eligible for the full $6,600 Child Tax Credit. Assuming other criteria are met, the family receives advance payments totaling $3,300 ($6,600/2) in six installments from July to December 2021. Upon filing the 2021 return, the Child Tax Credit is recalculated based on 2021 income, with any excess repayment contingent on 2021 modified AGI.
Critical IRS Letters
Taxpayers can expect two essential letters from the IRS regarding the Child Tax Credit. Letter 6417, received before advance payments, furnishes information on the Child Tax Credit and advance payment amounts. Look for Letter 6419 in January 2022, providing the total advance Child Tax Credit payments received. This letter is crucial for preparing 2021 income tax returns.
The IRS Child Tax Credit Update Portal allows updates to bank account information, Child Tax Credit eligibility, or opting out of advance payments.
It's vital to note that the 2021 Child Tax Credit expansions are not permanent and apply exclusively to tax year 2021. A comprehensive understanding of how the credit is calculated and how advance payments are applied mitigates unexpected surprises during 2021 income tax return filings.
For additional queries, refer to the IRS Child Tax Credit FAQs and stay tuned to the Vishal blog for essential tax updates for tax professionals, accountants, and CPAs.
Remember, the content herein serves informational purposes only and is not tax advice. Consult a tax advisor for guidance tailored to your specific situation.