Magazine article The CPA Journal

Tax Credits That Are Not Child's Play

Magazine article The CPA Journal

Tax Credits That Are Not Child's Play

Article excerpt

Both the 1996 and 1997 tax acts created new tax credits designed to pro vide tax relief for families with children. Due to their complexity, these tax credits are anything but child's play.

The 1996 tax act established a nonrefundable credit for qualified adoption expenses for eligible children, beginning in tax years after 1996. The maximum amount of the credit, over all tax years, is $5,000 per child. The maximum credit is increased to $6,000 if the child has special needs (except for foreign adoptions). The credit phases out for taxpayers with modified adjusted gross income between $75,000 and $115,000.

Qualified adoption expenses include reasonable and necessary adoption fees, court costs, attorney fees, and other expenses that are directly related to and principally for the legal adoption of an eligible child by the taxpayer. The expenses cannot be incurred in violation of state or Federal law, nor in carrying out any surrogate parenting arrangement, nor can the expenses be in connection with the adoption by an individual of a child of the taxpayer's spouse. In addition, the expense cannot be reimbursed under an employer program.

The 1997 tax act clarified that if the qualified adoption expenses are paid during a tax year prior to the tax year in which the adoption is finalized, the credit is allowed during the year the adoption is finalized. If the adoption expenses are paid during or after the tax year in which the adoption is finalized, the credit is to be claimed for the tax year in which the expense is incurred or paid. Any expense paid or incurred before the tax year in which a foreign adoption becomes final is treated as paid or incurred in the year that the adoption becomes final.

An eligible child is a person under the age of 18 at the time of the adoption or physically or mentally unable to take care of him or herself. A child with special needs is a child who the state has determined cannot or should not be returned to the parents' home, and who possesses a specific factor or condition which would reasonably require that such a child cannot be placed with adoptive parents unless assistance is provided. Such conditions include the child's medical condition; physical, mental, or emotional handicap; ethnicity; age; or membership in a minority or sibling group. A child with special needs must be a citizen or resident of the United States.

A five-year carryover is available for credits not allowed during a tax year due to the limitation based on tax liability.

In order to claim the adoption credit, married taxpayers must file a joint Federal income tax return (unless they are separated or living apart for the last six months of the tax year), the eligible child must have lived in the home of the taxpayer claiming the credit for more than half of the tax year, and the taxpayer must have provided more than half the cost of maintaining the home. Single individuals, as well as taxpayers filing as a head of household or as a qualified widow with a dependent child, may also claim the credit. The taxpayer must provide the eligible child's name, age, and taxpayer identification numher. Form 8839, Qualified Adoption Expenses, is used to provide the required information and to calculate the credit.

The adoption credit is due to expire for expenses paid or incurred after December 31, 2001. However, the credit will continue to be available after that date for children with special needs.

In addition to the adoption credit, the 1996 Tax Act established an exclusion from gross income of amounts paid or expenses incurred by an employer for an employee's qualified adoption expenses pursuant to an adoption assistance program for tax years beginning after 1996. The maximum exclusion per child is $5,000 (or $6,000 if the child has special needs as defined earlier). The exclusion is phased out under the same rules as the adoption credit. Qualified adoption expenses are also the same as for the adoption credit. …

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