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Adopting a Child? Bring Home Tax Savings with Your Bundle of Joy

December 10, 2019

Updated August 12, 2022

If you're adopting a child, or you adopted one this year, there may be significant tax benefits available to offset the expenses. For 2019, adoptive parents may be able to claim a nonrefundable credit against their federal tax for up to $14,080 of "qualified adoption expenses" for each adopted child. (This amount is increasing to $14,300 for 2020.) That's a dollar-for-dollar reduction of tax — the equivalent, for someone in the 24% marginal tax bracket, of a deduction of over $50,000.

Adoptive parents may also be able to exclude from their gross income up to $14,080 for 2019 ($14,300 for 2020) of qualified adoption expenses paid by an employer under an adoption assistance program. Both the credit and the exclusion are phased out if the parents' income exceeds certain limits, as explained below.

Adoptive parents may claim both a credit and an exclusion for expenses of adopting a child. But they can't claim both a credit and an exclusion for the same expense.

Qualified Adoption Expenses

To qualify for the credit or the exclusion, the expenses must be "qualified." These are the reasonable and necessary adoption fees, court costs, attorney fees, travel expenses (including amounts spent for meals and lodging) while away from home, and other expenses directly related to the legal adoption of an "eligible child."

Expenses in connection with an unsuccessful attempt to adopt an eligible child can qualify. However, expenses connected with a foreign adoption (one in which the child isn't a U.S. citizen or resident) qualify only if the child is actually adopted. To apply for the credit, you must complete Form 8839 and attach it to your return.

Taxpayers who adopt a child with special needs get a special tax break. They will be deemed to have qualified adoption expenses in the tax year in which the adoption becomes final in an amount sufficient to bring their total aggregate expenses for the adoption up to $14,300 for 2020 ($14,080 for 2019). In other words, they can take the adoption credit or exclude employer-provided adoption assistance up to that amount, whether or not they had $14,300 for 2020 ($14,080 for 2019) of actual expenses.

Phase-Out for High-Income Taxpayers

The credit allowable for 2019 is phased out for taxpayers with adjusted gross income (AGI) of $211,160 ($214,520 for 2020). It is eliminated when AGI reaches $251,160 for 2019 ($254,520 for 2020).

Taxpayer ID Number Required

The IRS can disallow the credit and the exclusion unless a valid taxpayer identification number (TIN) for the child is included on the return. Taxpayers who are in the process of adopting a child can get a temporary number, called an adoption taxpayer identification number (ATIN), for the child. This enables adoptive parents to claim the credit and exclusion for qualified expenses.

When the adoption becomes final, the adoptive parents must apply for a Social Security number for the child. Once obtained, that number, rather than the ATIN, is used.

Additional Tax Savings Opportunities for Families

In addition to the tax benefits for adoption, there are also credits and benefits associated with welcoming children/dependents into your home.

Dependents: Usually you can claim a child as a dependent on your tax return starting with the tax year during which your child was born, even if your child was born on the last day of that year.

Child Tax Credit:  This credit is for people who have a qualifying child. The maximum amount you can claim for the credit is $1,000 for each qualifying child. You may need to reduce this credit if:

  • Your AGI is more than $75,000 for single individuals, $110,000 for married filing joint or $55,000 for married filing separate
  • Your tax is less than the credit

Child and Dependent Care Credit: This credit is available to those who paid someone to care for their qualifying child under the age of 13, so they could either work or look for work (if your filing status is married filing joint, you must both be working or looking for work). Qualifying costs include daycare or preschool for children below the level of kindergarten, before-school care or after-school care programs and summer day camp (not sleep away camp). You must provide the name, address and taxpayer identification number for the caregiver and the amount paid to the caregiver. To apply for the credit, you must complete Form 2441 and attach it to your tax return. The maximum credit is $3,000 for one qualifying child or $6,000 for two or more qualifying children. The credit is reduced for Dependent Care Benefits reported on your W-2 and may be subject to income limitations.

Dependent Care FSA (flexible spending account):  A Dependent Care FSA lets you contribute funds to an account through pre-tax payroll deductions which can then be withdrawn after submitting receipts for qualifying expenses mentioned under the Child and Dependent Care Credit. Contributions to a Dependent Care FSA for 2017 are limited to $5,000, or $2,500 if your filing status is married separate.  These contributions will not be subject to federal withholding, Social Security or Medicare taxes and will be reported on your W-2. If you do not use all your Dependent Care FSA funds in each year, the balance will be forfeited. Also, note that 2% or more shareholders in S-Corps or partners in Partnerships do not qualify to participate in FSAs.

Medical Expenses: Generally, any qualified medical expenses you incur for a dependent have the same deductibility limits if you incurred them for yourself. This includes the ability to contribute to a Health Care Flexible Spending Account (FSA) for expenses for your dependent child(ren).

ABLE Accounts: An ABLE account is a way to save for a blind or disabled person, while accumulating earnings not subject to federal tax when the distributions are used for qualified disability expenses.  Contributions to the ABLE account are not tax deductible and are subject to the annual gift tax exclusion amount ($14,000 for 2016), and a cumulative balance limit, which is set by each state. Contributions to ABLE Accounts will be reported to you on Form 5498-QA. Distributions from the ABLE account will be reported to you on Form 1099-QA and must be reported on Form 5329 with your tax return.

We can help ensure that you meet all the requirements to get the full benefit of the tax savings available to adoptive parents. Please contact us if you have any questions.

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