Parents like me could be in store for a surprise this year. The new tax law, the Tax Cuts and Jobs Act, has a few changes for parents and those who claim dependents.
Kids
First, there are no more personal exemptions. Personal exemptions used to further decrease your taxable income before you determined your tax. You were generally allowed one exemption for yourself (unless you could be claimed as a dependent by another taxpayer), one exemption for your spouse if you filed a joint return, and one personal exemption for each of your dependents.
The personal exemption amount for 2017 was $4,050. That means, for a family of five like mine, the personal exemption amount would have topped $20,000 last tax year. This would have been in addition to the standard deduction, or the itemized deductions, depending on your circumstances.
There is no personal exemption amount for 2018. The standard deduction, however, has been increased: $12,000 for individuals, $18,000 for heads of household, and $24,000 for married couples filing jointly and surviving spouses. The boost in the standard deduction should make up for some of the loss of the exemption amounts, but here’s a quick check on the math.
In 2017, a family of three (filing jointly) who claimed the standard deduction, would have claimed three exemptions (3 x $4,050) and the standard deduction amount of $12,700, reducing taxable income by $24,850. In 2018, a family of three (filing jointly) would only be entitled to the standard deduction of $24,000.
(You can see the new tax rates and the standard deduction amounts here.)
Consider how more dependents changes that picture: A family of five (filing jointly) who claims the standard deduction, would have claimed five exemptions (5 x $4,050) and the standard deduction amount of $12,700 in 2017, reducing taxable income by $32,950. In 2018, a family of five (filing jointly) would only be entitled to the standard deduction of $24,000. That’s a big difference.
However, it would be a mistake to stop the tax analysis there. In addition to a shift in the tax rates, there may be other tax breaks available. The Child Tax Credit remains in place and may be worth as much as $2,000 per qualifying child depending upon your income - that's twice as much as before.
In prior years, the Child Tax Credit was nonrefundable which means that if the available tax credit exceeded your tax liability, your tax bill was reduced to zero. Even if you were able to claim the entire $1,000 per child (the maximum available credit at the time), if you didn't have any tax liability, you couldn't benefit. The credit disappeared.
(You can find out more about the older version of the nonrefundable Child Tax Credit, and the former Additional Child Tax Credit which was refundable, here.)
Now, the Child Tax Credit is worth up to $2,000 per child and includes a refundable piece of up to $1,400. A refundable credit means that you can take advantage of the credit even if you do not owe tax. Unlike with a nonrefundable credit, if you don't have any tax liability, the "extra" credit is not lost but is refunded to you. To claim the refundable portion, which is equal to 15% of your earned income which exceeds $2,500 up to the maximum credit, you must have earned income (generally, wages, salary, tips, or net earnings from self-employment).
The credit is limited if your modified adjusted gross income (MAGI) is over a certain amount. For married taxpayers filing a joint return, the phase-out begins at $400,000 and is $200,000 for all other taxpayers (there is no separate threshold for heads of household). Phase-outs means that the credit is reduced as your income increases. In this case, the reduction is $50 for each $1,000 by which your MAGI exceeds the threshold amount.
(For more on MAGI, click here.)
The child credit also includes a $500 non-refundable credit called the Credit for Other Dependents, sometimes referred to as the "family credit.” This allows you to claim a credit for dependents in your household that don't meet the definition of qualifying child.
Why the new credit? Remember the loss of the personal exemptions? The new credit is intended to make up for the fact that you no longer have the ability to claim other dependents like your parents as personal exemptions. It may also include dependent children who are age 17 or older at the end of 2018, like those college students still in your house. For purposes of the additional credit, the definition of dependent still generally applies.
Clearly, these changes can affect your tax bill for the 2018 tax year. The Internal Revenue Service (IRS) encourages families to check their tax liabilities and make adjustments as necessary. By plugging your tax data into the withholding calculator on the IRS website, you can do a "paycheck checkup" to make sure that you're on the right track.
You can find the new withholding calculator on the IRS website here. To use the calculator, you'll need your most recent pay stub from work, as well as a completed copy of your 2017 tax return. For more on using the new withholding calculator, click here.
If you need to make a change to your withholding, you'll do so using a form W-4. You don't send the form W-4 to the IRS: You submit it to your employer. Your employer will adjust your withholding accordingly. For more on how to figure out your form W-4 under the new law, click here.
