Adoption Credit for Qualified Adoption Expenses
To help taxpayers adopt children, United States tax law provides an adoption credit, up to a maximum that is adjusted for inflation, to adopt a child under age 18 or a person of any age who is physically or mentally incapacitated. The credit is claimed on Form 8839, Qualified Adoption Expenses, which must be filed by the end of the tax year.
The Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 (SECURE Act) allows up to $5,000 of penalty-free distributions from retirement plans after 2019 if used to pay for the expenses of a qualified birth or an adoption, qualified meaning a child younger than 18 (but not the child of a spouse) or a child who is physically or mentally incapable of self-support. The distribution must occur within a 1-year period following the birth of the child or after the adoption is finalized.
Married couples must file a joint return to claim the adoption credit, unless the couple is legally separated under a decree of divorce or separate maintenance, or if the spouses lived apart during last 6 months of the tax year and the adopting spouse provided the home for the adopted child for more than ½ of the tax year and paid more than ½ the cost for the child's maintenance. Note, however, that the adoption credit cannot be used to offset the costs of adopting a spouse's child.
The 2010 Healthcare Reform law made the adoption credit refundable, meaning that the credit will also offset payroll tax liability and if the adoption credit exceeds the taxpayer's total tax liability, then the difference will be refunded. However, starting in 2012, this credit will no longer be refundable, but any unused credit can be carried forward.
The adoption credit is adjusted for inflation annually. The maximum credit limit applies to each child, not to each taxpayer, so a taxpayer adopting 2 children can claim up to double the maximum. The taxpayer can claim the maximum credit for a child with special needs when the adoption is finalized, even if the credit exceeds qualified adoption expenses.
Qualified adoption expenses include:
- reasonable and necessary adoption fees,
- court costs,
- attorney fees,
- social service review costs,
- transportation costs,
- travel expenses away from home, and
- other related expenses whose purpose is to effect the legal adoption of the child.
However, adoption expenses that were reimbursed by an employer or other organization are subtracted from the qualifying expenses.
An employer can also provide tax-free assistance for adoption expenses, subject to the same maximum limits and MAGI restrictions as the adoption credit. Both the employer assistance and the adoption credit can be used to offset the expenses of the adoption, but both cannot be used for the same expense. Since the limits for the maximum credit and the employer provided assistance are both $13,460 for 2016, a total of $26,920 per child is available to offset the expenses of adoption in 2016.
No credit can be claimed for adopting your spouse's child or for the cost of a surrogate parenting arrangement. For expenses paid in previous years before the final adoption, the credit can be claimed in the following year. For a child who was a United States citizen or resident, the credit can be claimed for expenses incurred after the adoption becomes final in the year that the payment is made.
Any unused adoption expenses credit can be carried forward for up to 5 years, on a first-in, first-out basis.
Example: You pay $5,000 for adoption expenses in 2014, but the adoption was not finalized until 2015. You can claim the credit for the expenses incurred in 2014 and your expenses incurred in 2015 on your 2015 tax return.
The credit starts phasing out when modified adjusted gross income (MAGI) exceeds the phaseout threshold and is phased out completely at the phaseout limit.
- Adjusted Gross Income
- + Any Foreign or American Possession Earned Income Exclusions
- + Any Foreign Housing Deductions or Exclusions
- + Employer-Provided Adoption Assistance
For most people, MAGI equals adjusted gross income.
The phaseout is calculated thus:
|Adoption Credit||=||Qualified Adoption Expenses||–||Qualified Adoption Expenses||×||MAGI – Phaseout Threshold |
Example: You incurred qualified adoption expenses of $10,000 for the 2015 tax year, and your MAGI is $220,000. You can claim the following adoption credit:
|Adoption Credit||=||$10,000||–||$10,000||×||$220,000 – $201,010 |
The tax credit cannot be claimed for a foreign child until the adoption becomes final. The IRS has published certain safe harbor rules for determining when the adoption of a foreign-born child becomes final. The safe harbors apply to children who receive an immediate relative (IR) visa from the State Department.
The adoption credit requires the social security number of the child. If the child does not have a social security number, or if there is not enough time to obtain one, then the adopting parent can apply for an adoption taxpayer identification number (ATIN) on IRS Form W-7A. If the child is not otherwise eligible for a social security number, then an individual identification number (ITIN) should be obtained by submitting Form W-7.
Adopting a Child with Special Needs Who is a US Citizen
If a US child has special needs, then the full adoption credit can be claimed by a taxpayer adopting the child regardless of actual expenses. That the child has special needs must be determined by the state or the District of Columbia, or some other government authority with jurisdiction, and evidenced by some kind of certification, such as a certification by the state or county child welfare agency that the child has special needs or that the child is approved to receive adoption assistance.
The full adoption credit can only be claimed when the adoption becomes final. When the taxpayer claims the credit, the following documents must also be submitted:
- final adoption order or decree,
- the determination by the state that the child has special needs, and
- any state court adoption certificate, judgment, order, or final decree listing the names of the parent and the adopted child and signed under seal by a representative of the state court.