How daycare tax credit changes will impact your family

New York News

ROCHESTER, N.Y. (WROC) — With the passage of the American Rescue Plan there are changes to the tax benefits for daycare expenses. CPA Jamie Block of the New York State Society of CPAs discussed the changes and what they mean for your family.

With the passage of the recent tax legislation, there were some changes to the tax benefits of daycare expenses. Can you elaborate?

There are two ways for working parents to save taxes on daycare costs. One benefit is from claiming credit for daycare expenses paid. The other option is to contribute money through salary deduction under a cafeteria plan or flex spending account (FSA).

What changed with the daycare credit?

In 2020, taxpayers could claim a credit of up to 35% of the first $3,000 of care expenses for one child under 13 or $6,000 for two or more children.

For 2021, the credit is up to 50% of $8,000 for one child or $16,000 for two or more children. They also made this credit refundable – meaning if you do not owe tax, you will get a refund. Note that the percentage phases down as income increase from $125,000 to $440,000 of income.

What changed with the salary deduction (FSA)?

In 2020, the maximum amount that you can have withheld from your paycheck was $5,000. This money is not subject to federal or state income tax or social security and Medicare taxes (FICA). The limit has increased to $10,500 ($5,250 MFS) for 2021.

Employers may need to amend their plans to allow for this increase, allow mid-year change in elections, and allow the unlimited carryover of unused amounts from 2021 to 2022. Normally these plans are “use it or lose it” by 12/31 or 3/15 of the following year.

Who qualifies?

In order to qualify for the credit, both taxpayers must have earned income or be full-time students. If one parent is not working, you are not eligible to take the credit.

Can you use the pre-tax FSA and take a daycare credit too?

Yes, if you have two or more children and child-care expenses exceed $10,500. You can use the FSA for the first $10,500 of expenses then use $5,500 of expenses for the credit up to $2,750.

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