Credit for Child and Dependent Care Expenses
You can claim a credit for child or dependent care expenses that were incurred when either working or looking for employment. The amount of the credit is equal to a percentage of up to $3,000 of the expenses for one child and $6,000 for 2 or more children.
Taxpayer and Dependent Eligibility
A taxpayer must maintain a household for a dependent younger than 13 or one who is physically or mentally incapacitated. Married taxpayers must file a joint return to be eligible for the credit. Both spouses must work at least part-time, unless one is physically or mentally incapacitated.
The credit is not available if neither spouse works, since presumably they can take care of their dependents themselves. If divorced or separated, then the parent who lived with the child the longest is entitled to the credit even if the other parent can claim the child as a dependent.
If a married couple is separated, then the spouse who can claim the dependent care credit must satisfy the following requirements:
- she maintained the household of the qualifying person for more than half the year;
- she furnished more than ½ the cost of maintaining the household for the tax year;
- the other spouse was not living in the household during the last 6 months of the tax year.
If the above tests are satisfied, then the taxpayer is treated as unmarried, and the other spouse's income or employment status is irrelevant.
The credit is allowed for qualifying children or relatives. If the qualifying relative is not a minor, then the relative must be incapacitated physically or mentally, meaning that they cannot function in life without help. The credit can be claimed even if the qualifying relative has gross income greater than the personal exemption for that tax year. The credit can be claimed for a qualifying relative even if a caregiver and his spouse, if filing jointly, can be claimed as a dependent by another taxpayer.
Tip: Although tax credits are generally more valuable than tax deductions, for anyone making more than $43,000, the dependent care credit is only equal to a maximum of 20% of qualified dependent care expenses. Therefore, most higher income taxpayers will benefit more by taking a tax deduction rather than claiming the credit. Additionally, if you can make salary reduction contributions to a reimbursement account, then that may yield larger tax savings than the dependent care credit since it will lower state, local, and federal taxes, including payroll taxes and may also reduce your income enough to allow you to claim a larger deduction for miscellaneous itemized deductions subject to the 2% AGI floor, or a larger IRA deduction if you would otherwise be subject to the deduction phaseout rule based on income.
Eligible Dependent Care Expenses
Most of the expenses incurred for dependent care are added to calculate the credit, including expenses incurred in the home, such as payments for a housekeeper, and also certain out-of-home expenses.
For a child under age 13, outside-the-home care costs include costs associated with a day care center, day camp — but not overnight camps — nursery school, or the home of a babysitter. These expenses are also qualified for incapacitated dependents, regardless of age, if they spend at least 8 hours a day in the taxpayer's home regularly, not including temporary absences, such as for vacation.
Other qualifying expenses include the FICA (Social Security and Medicare) and FUTA (unemployment) taxes on the housekeeper's wages, and the cost of ordinary domestic services, such as cooking, cleaning, and laundry that are expended at least partly for the qualifying person. However, expenses for the dependent's maintenance, such as for food and clothing are not qualified expenses. The cost of kindergarten or higher grades, unlike nursery school, also does not qualify nor can healthcare costs that are claimed as medical expenses be included in calculating the credit.
If the child becomes 13 during the tax year, then all child care expenses up to the maximum allowable can be used to calculate credit. There is no proration.
Payments to a relative for child care are ineligible if the relative is a dependent of the taxpayer, a child of the taxpayer under the age of 19 at the end of the tax year regardless of whether they are a dependent of the taxpayer, or the taxpayer's spouse. In other words, you can't deduct expenses that you pay to your own family.
Calculating the Dependent Care Credit
Because the dependent care credit is a nonrefundable tax credit, it can only offset ordinary income tax liability — not payroll tax liability — so the credit could be limited by the taxpayer's earnings. Furthermore, the percentage of expenses that are used to calculate the credit depend on the taxpayer's adjusted gross income (AGI).
For a married couple, the credit percentage depends on the AGI of the lower earning spouse. However, if one spouse is disabled or a full-time student, a nonworking spouse is deemed to have earned income of $250 per month for one qualifying dependent or $500 per month for 2 or more dependents. The deemed income for a spouse who is a student applies only during the months that the student is full time.
The amount of the credit is equal to a percentage of unreimbursed employment related qualifying expenses of up to $3,000 for 1 qualifying dependent or $6,000 for 2 or more dependents.
The credit percentage ranges from 35% for incomes of $15,000 or less, down to 20% for incomes of more than $43,000. For every $2000 above $15,000, the credit percentage decreases by 1%.
|AGI||Credit %||1 dependent||2 or more|
|$15,000 or less||35%||$1,050||$2,100|
|$43,001 or more||20%||$600||$1,200|
The credit is determined as follows:
Credit Base = Lesser of Actual Qualified Expenses and ($3,000 for 1 Dependent or $6,000 for 2 or more – Tax-Free Employer Reimbursements)
Dependent Care Credit = Credit Base × Applicable Credit Percentage
Tax-free reimbursements from a qualified employer dependent care program are subtracted from the $3,000 or $6,000 maximum expense before determining the credit base. The credit is claimed on Form 2441, Child and Dependent Care Expenses and attached to Form 1040 or 1040A. The name, address, and taxpayer identification number, which is usually the social security number, of the child care provider must be reported on Form 2441. The taxpayer should obtain this information by having the child care provider fill out Form W-10, Dependent Care Provider's Identification and Certification; the form should be kept by the taxpayer for her records — it should not be sent with the taxpayer's tax return.
Case 1: You make $50,000, and have 2 children, and paid $8,000 for child care. Since your adjusted gross income is greater than $43,000, your applicable credit percentage is 20%, so the maximum credit that you can claim is 20% × $6,000 = $1,200.
Case 2: Same as Case #1, except that your qualifying expenses are only $4,000. Therefore, the credit percentage must be applied to the lesser of $4,000 and $6,000: $4,000 × .2 = $800
Case 3: Same as Case #1 except that you received $5,000 of tax-free reimbursements from your employer. Therefore:
- Credit Base = $6,000 – $5,000 = $1,000
- Dependent Care Credit = $1,000 × .2 = $200
If the entire portion of expenses is not for the dependent's care, then the amount of the expenses must be allocated between the dependent's care and the other portion, unless the other services are minimal. Furthermore, if the taxpayer spent only a portion of the tax year either working or looking for work, then the maximum credit must be prorated so that the percentage of the maximum credit is equal to the percentage of time the taxpayer either worked or looked for work during the year. So if a taxpayer worked or looked for work for only 6 months during the tax year, then the maximum credit base will be $1,500 for one dependent and $3,000 for 2 or more dependents.
Employers May Provide Tax-Free Dependent Care Assistance
Daycare services can also be provided by an employer under a nondiscriminatory plan as a tax-free fringe benefit up to the lesser of the earnings of the lower income spouse or $5000 ($2500 for a married employee filing separately). No more than 25% of this benefit can be paid to owner-employees, their spouses, or dependents.
- If a spouse is a full-time student or is disabled, then, for calculating the limit of this tax-free dependent care assistance, that spouse is presumed to earn $250 per month for 1 dependent, or $500 per month for 2 or more dependents. The limit for the tax-free exclusion is figured on Form 2441, Child and Dependent Care Expenses.
- Expenses for dependent care are also excludable from income if they would also qualify for the dependent care credit.
- Any reimbursement of expenses by the employer is also excludable from income, but only if the care provider is not a dependent of either spouse or by their child younger than 19. The employer must be given the care provider's name, address, and tax identification number, and that identifying information must also be listed on the taxpayer's return when claiming the exclusion.
Employers may also offer a dependent care flexible spending arrangement, allowing the employee to contribute pretax earnings of up to the lesser of $5000 or the earnings of the lower income spouse. The employer may also allow a 2½-month grace period for unused dependent care FSA contributions.
The rules for the dependent care FSA are like the rules governing the dependent care fringe benefit:
- FSA distributions reduce the expenses eligible for the dependent care credit
- Both spouses must be working, unless a spouse is disabled or a full-time student
- Highly compensated employees may have a lower contribution ceiling, as required by nondiscrimination rules.
The amount of the reimbursement that is tax-free is calculated in Part III of Form 2441. The employer may limit reimbursements to the account balance, so if $1500 is paid to a daycare center, but there is only $500 in the account and the employee is contributing $500 per month, then the employer may pay 3 installments of $500 as money is added to the account.
The new tax package passed by the Republicans at the end of 2017, known as the Tax Cuts and Jobs Act, has provided a $500 credit for dependents other than children. The child tax credit has been doubled to $2000, with up to $1400 of that credit being refundable.