McVay Business Services - Accounting & Tax Services Pensacola, FL
11/1/2021 You may have to repay some of the advance child tax credit next year. Here’s what to know......The advance payments of the enhanced child tax credit are set to start next month, but a big question on many parents’ minds is whether they will end up owing on their taxes next year if they immediately spend the money. For some parents, the answer is probably yes, they will end up owing money next tax season. Others will likely be fine. But all eligible parents should review their finances before spending the payments, financial experts say. “This is not like the stimulus checks,” said Nate Nieri, a California-based certified financial planner and founder of Modern Money Management. If you get overpaid in child tax credits or your financial situation changes this year so that you have a higher tax bill on your 2021 taxes, the IRS may demand you repay the credit come tax time. “This is very important for planning and can easily become a trap for parents,” he said. How the new child tax credit payments are different The child tax credit payments, which were set up and expanded under the American Rescue Plan passed earlier this year, amount to $3,000 annually per child ages 6 to 17 and $3,600 annually for children under 6. Eligible families will receive half of their credit in the form of monthly payments of up to $250 per school-age child and up to $300 per child under 6 from July through December 2021. The other half will be paid out when they file their 2021 taxes. The credit is income-based and starts to phase out for individuals earning more than $75,000 a year or $150,000 for those married filing jointly. It’s important to understand that with these payments, the IRS is essentially prepaying a tax credit that you usually receive when you file your taxes, said Ben Wacek, a Minnesota-based CFP and founder of Guide Financial Planning. “If you don’t usually receive a refund, then the advance payments could actually cause you to owe more when you file your 2021 taxes,” he said. For a 10-year-old child, the credit was worth $2,000 in 2020, which lowered a family’s tax bill by that amount when they filed their return, Wacek explained. In 2021, the credit will be $3,000 for the same child, but half of it will be paid out in advance. When that same family files their taxes next spring, there will only be $1,500 left of the child tax credit to lower their tax bill. Everything else being equal, they will owe $500 more in 2021 than they did in 2020, Wacek explained. “For this reason, if you usually owe when you file your taxes or cut it close, you might want to consider opting out of the advance payments or setting a portion of them aside to cover your tax bill in April,” he said. Who may need to be careful before spending There are many families who could be affected by this. If you switched to a higher-paying job, for instance, or your spouse went back to work after being unemployed for most or all of 2020, you could be in a higher tax bracket next year, which could change your tax math, said Matthew Saneholtz, a Florida-based CFP with Tobias Financial Advisors.
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Mike McVay, Tax Accountant Blog
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