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If you're paying for child care while you work or look for work, you may be able to claim a tax credit to offset some of those expenses.
The child and dependent care credit allows workers to claim work-related care expenses for qualifying dependents on their taxes. If your care costs qualify, your credit may amount to up to $4,000 for one individual or up to $8,000 for two or more individuals in 2021.
That's a hefty tax benefit. Read on to learn what boxes you'll need to check to qualify, plus how to calculate how much credit you can claim.
What Is the Child and Dependent Care Credit?
The child and dependent care credit is a tax credit designed for working people who pay care expenses for children or other dependents while working or actively seeking work. People who care for children, a disabled dependent or a disabled spouse may be able to claim it.
The child and dependent care credit is different from the child tax credit, which is designed to benefit all parents and guardians of children. The child and dependent tax credit provides relief for workers who must pay someone to care for their dependent while they're working or looking for work.
The credit compensates you for a percentage of what you spend on work-related dependent care, and the rate you're eligible for is based on your income. Unlike a deduction, which reduces your taxable income, a credit directly reduces your tax bill, dollar-for-dollar.
So, for example, if you're eligible for a $4,000 tax credit, that cuts your tax bill by $4,000 directly. To put that in perspective, a $4,000 deduction would only save you $800 if you're in the 22% income tax bracket.
The 2021 American Rescue Plan, created to provide relief for households affected by the COVID-19 pandemic, increased the amount of work-related expenses you can claim as part of the credit (see more below). The credit is also refundable for low-income taxpayers: In 2021, those whose tax credit exceeds what they owe in taxes will receive the difference as a federal tax refund. The IRS hasn't formally announced whether the refund aspect of the credit will extend into 2022.
How to Determine if You're Eligible for the Credit
In 2021, you may be able to receive a credit for up to 50% of eligible work-related care expenses (up from a 35% cap in 2020). The maximum amount of work-related care expenses you can take into account when figuring your dependent care credit for 2021 is $8,000 for one qualifying person or $16,000 for two or more qualifying persons. This means that the maximum you can possibly claim from the credit is $4,000 for one person (50% of $8,000) or $8,000 for two or more (50% of $16,000).
Note that these numbers are higher for 2021 due to the enactment of the 2021 American Rescue Plan. The IRS has not yet announced the 2022 credit limits.
To help you determine if you qualify, the IRS lists the following eligibility tests in Publication 503:
- Qualifying person test: To qualify you for the credit, the care must have been provided to a dependent under age 13 or a spouse or other dependent who is physically or mentally unable to care for themselves.
- Earned income test: You need to have earned income during the year to qualify. If you're married and filing jointly, your spouse must also have earned income.
- Work-related expense test: You must have paid for care specifically so you could work or actively look for work. For example, paying for after-school care or day camp in the summer might qualify as a work-related expense, but paying for private kindergarten or overnight camp would not.
- Restrictions on care provider: The IRS reimburses care provided in or outside your home, but there are restrictions on who can provide the care. Only payments to providers who aren't your dependent, spouse or the child's parent count. That means you can't pay your 16-year-old to babysit and then claim the expense.
- Joint return test: How you file your taxes determines your eligibility. If you're married you must file jointly to qualify, although there are exceptions for spouses who are legally separated.
- Provider identification test: You'll need to provide taxpayer identification information for your care provider, which may be a Social Security number or Employer Identification Number.
- Dollar limit: As mentioned above, the maximum dependent care amounts considered are $8,000 for one eligible dependent or $16,000 for two or more. Since the credit offsets up to 50% of your eligible expenses, the maximum total credit is $4,000 for one qualifying person or $8,000 for two or more.
How to Claim the Child and Dependent Care Credit
Claiming the child and dependent care credit is straightforward. You'll need to complete Form 2441, Child and Dependent Care Expenses, and include it when you file your federal income taxes. The form helps determine your eligibility and credit amount.
To complete the form, you'll need to provide details such as your care provider's tax ID, your dependent's Social Security number, your income and the sum of your eligible care expenses. The form includes a worksheet to help you calculate this figure.
Save Your Receipts and Consider Your Options
Not sure if you qualify for the child and dependent care credit? When in doubt, reach out to a tax professional like a certified public accountant to help you crunch the numbers and determine your eligibility.
Also speak to your company's human resources department to determine whether your employer provides a dependent care flexible spending account. These accounts allow you to use your pretax earnings on qualified care costs, which is another way to save on dependent care. Even if you're too late for your 2021 taxes, it's worth looking into for 2022.