The child tax credit is changing in a big way for 2021. As a result of the American Rescue Plan Act of 2021 (“American Rescue Plan”), the credit amount is significantly increased for one year, and the IRS is required to make advance payments to qualifying taxpayers in the second half of 2021.
Recently, the Internal Revenue Service began sending letters to taxpayers who, based on tax returns previously filed, may be eligible to receive monthly child tax credit payments beginning in July. Those taxpayers who are eligible for the advance payments will receive a second letter listing an estimate of their monthly payments.
First, let’s review what the rules were for the child tax credit during tax year 2020:
The child tax credit was worth $2,000 per child under the age of 17 that was claimed as a dependent on your return.
The child must be related to you, generally live with you for at least six months out of the year, and have a valid social security number.
The credit begins to phase out if your adjusted gross income (AGI) is above $400,000 on a married filing joint return or over $200,000 on a single or head-of-household return. The credit amount is reduced by $50 for each $1,000 (or fraction thereof) of AGI over the applicable threshold amount.
Up to $1,400 of the child credit is refundable for some lower-income individuals with children, but taxpayers must also have at least $2,500 of earned income to get a refund.
Here are the changes the American Rescue Plan temporarily makes to the child tax credit for tax year 2021 only:
17-year-olds will qualify for the credit. Therefore, if your child turns age 17 during 2021, they would be eligible for the credit.
The credit amount is increased to $3,000 per child ($3,600 per child under age 6 as of December 31, 2021) for some families.
The credit is fully refundable and the need of having at least $2,500 of earned income is removed.
Requires half of the credit to be paid in advance by having the IRS send monthly payments to taxpayers from July 2021 to December 2021.
The other general rules carry over from 2020 and continue to apply: a child must have a valid social security number, be claimed as a dependent on your 2021 return, be related to you, and generally live with you for at least six months of 2021.
As noted in the second bullet point above, some families will be eligible for the higher per-child credit of $3,000 or $3,600 in 2021. The increased credit begins to phase out at AGIs of $75,000 on single returns, $112,500 on head-of-household returns, and $150,000 on married filing joint returns. The credit is reduced by $50 for each $1,000 of AGI (or fraction thereof) over the applicable threshold amount. This phaseout is limited to the $1,000 or $1,600 temporary increased credit for 2021 and not to the $2,000 credit.
For example, if a married couple has one child who is four years old, files a joint return, and has an AGI of $160,000 for 2021, they will not get the full $3,600 enhanced credit. Instead, since their AGI is $10,000 above the phase-out threshold for joint filers ($150,000), their credit is reduced by $500 ($50 x 10) – resulting in a final 2021 credit of $3,100.
For those that have AGIs above the threshold amounts noted above to claim the $3,000 or $3,600 credit, they could still be eligible for the $2,000 per child tax credit. Taxpayers who have AGIs at or below $400,000 on joint returns or $200,000 on other returns, could claim the regular credit of $2,000 per child, less the amount of any advance payments they get. Families with AGIs above the $400,000/$200,000 thresholds will see the $2,000 per-child credit reduced by $50 for each $1,000 (or fraction thereof) of AGI over those thresholds.
An example of that situation would be if a married couple has one child who is seven years old, files a joint return, and has an AGI of $415,000 for 2021, they will not get the full $3,000 enhanced credit. Because of their high AGI, they do not qualify for the extra $1,000 credit, so it is reduced to the regular amount of $2,000. Then, since their AGI is $15,000 above the second phase-out threshold for joint filers ($400,000), their credit is reduced again by $750 ($50 x 15) – resulting in a final 2021 credit of $1,250.
The following information pertains to the monthly advance payments the IRS is required to send out starting in July:
The American Rescue Plan requires the IRS to pay half of the 2021 child tax credit in advance. These advance payments will be paid in monthly installments to eligible taxpayers on July 15, August 15, September 15, October 15, November 15, and December 15. If the 15th falls on a weekend or holiday, the payments will be made on the closest business day.
If the IRS has your direct deposit information, the amounts will be directly deposited into your bank account. If the IRS does not have your direct deposit information, a paper check or debit card will be sent by the IRS in the mail.
The IRS will compute eligibility for the credit and advance payments, and calculate the amount of the advance payments, based on previously filed tax returns. It will first look at your 2020 return, and if a 2020 return has not yet been filed, the IRS will look to your 2019 return.
The amount received each month will depend upon the number of qualifying children, ages of the children, and the AGI amount. Families who qualify for the full $3,000 ($3,600 for children under age 6) credit per child will get monthly payments of $250 per child ($300 per child under age 6) for six months. Families with higher incomes who qualify for the $2,000 credit will get monthly payments of $167 per child for six months.
Say there is a family of five with three children ages 12, 7, and 5. Assuming the family qualifies for the higher child credit and does not opt-out of the advance payments, they would get $800 per month from the IRS from July through December, for a total of $4,800. They would then claim the additional $4,800 in child tax credits when their 2021 federal tax return is filed next year.
If that same family with three children qualifies for the $2,000 per-child credit and does not opt-out of the advance payments, they would get $500 per month from the IRS from July through December, for a total of $3,000. They would then claim the additional $3,000 in child tax credits when they file their 2021 Form 1040 next year. Check out this 2021 child tax credit calculator from Kiplinger to view an estimate of how much money this could mean for you and your family.
The IRS is in the process of creating an online child tax credit update portal that can be used to notify the IRS of 2021 changes. The IRS hopes to have all the online tools necessary in the portal by July 1. Here is the current version of that online portal. As stated earlier, the IRS will generally base eligibility for the credit and advance payments, and calculate the amount of the advance payment, based on previously filed tax returns. The IRS will assume that the number of children and the income that you reported on your 2020 (or 2019) return is the same for 2021. It will only account for the passage of time for determining the age of the children. If your circumstances change during 2021 vs. what was shown on your 2019 or 2020 tax return, you can use the online portal to update your income, marital status, and the number of qualifying children.
Yes, that does mean if you had a baby in 2021, you could update the portal so the IRS will know to begin sending you payments. If you decide not to do this, you are not out of luck. You will not get the advance payments, but you will be able to take the full credit for your child when you file your 2021 return next year. Here are some more details around the advance payments:
Taxpayers who know they will qualify for a child tax credit in 2021 but who do not want to receive the advance monthly payments can use the online portal to opt-out of receiving those payments and instead take the full child tax credit on their 2021 tax return.
Advance payments will not be used to offset past-due federal taxes, state income taxes, or child support payments.
The advance payments are not taxable. The 2021 tax return will need to reconcile the monthly payments received with the child tax credit you are entitled to. In January 2022, the IRS will send out Letter 6419 which will provide the total amount of advance payments paid to you during 2021. This letter will be needed to prepare your 2021 tax return.
There could be instances where the advance payments will need to be paid back. Taxpayers with 2021 AGI at or below $40,000 on a single return, $50,000 on a head-of-household return, and $60,000 on a joint return will not have to repay any credit overpayments that they get. Keep in mind, taxpayers with 2021 adjusted gross incomes of at least $80,000 on a single return, $100,000 on a head-of-household return, and $120,000 on a joint return will need to repay the entire amount of any overpayment when they file their 2021 tax return next year. Taxpayers with 2021 adjusted gross incomes between these thresholds will need to repay a portion of the overpayment.
If you have a family with children under 17, this year’s temporary changes could have a significant impact on your income. It’s important to stay informed to be aware of these updates so you know how much your monthly credit will be and how it may influence your tax planning.
If you have additional questions on the Child Tax Credit and what it means for your family, Fleming Advisors can help. Contact us and one of our tax professionals will assist you.