Discussed dependent care credits tonight with my brother and sister-in-law (parents of 5 month-old twins), so I thought I would share the information on the federal credit with you all as well. Also, check out the link below for allowable credits in your state. -Ben
Journal of Accountancy. Tax help for working parents. By Paul Bonner.
There's little doubt that child care can be expensive, often rivaling the cost of college tuition and consuming a substantial share of the earnings it enables. Although costs vary widely by factors including the child's age, the care provider's geographical location, and the type of setting (e.g., center vs. home), 2014 data compiled by the not-for-profit organization Child Care Aware of America yield average annual costs nationwide for full-time, center-based care of $9,909 for an infant and $7,943 for a 4-year-old (Child Care Aware of America, Parents and the High Cost of Child Care, 2015 Report, Appendix VI, "Average Annual Cost of Full-Time Child Care in a Center and Public College Tuition and Fees by State"). Note, as an indication of geographical variance, that the average annual cost of care for an infant, for example, ranges from a low of $4,822 in Mississippi to a high of $22,631 in the District of Columbia. An interactive map (including comparisons with median income and public college tuition) is available at usa.childcareaware.org.
THE SEC. 21 FEDERAL CREDIT
The Sec. 21 nonrefundable credit for household and dependent care expenses is, of course, familiar to CPA tax preparers, and most working parents no doubt are at least aware of it. The credit is a percentage of amounts paid for expenses of household services and expenses for the care of a qualifying individual, where the expenses are incurred to enable the taxpayer to be gainfully employed. A qualifying individual is a dependent of the taxpayer under age 13 (or a spouse or dependent who is physically or mentally incapable of caring for himself or herself and has the same principal place of abode as the taxpayer for more than half the tax year) (Sec. 21(b)).
Allowable expenses, however, are capped at $3,000 per tax year for one qualifying individual and $6,000 for two or more. Allowable expenses also may not be greater than earned income, which for married couples (who must file jointly unless the married-individuals-living-apart rule applies) is that of the lower-earning spouse (Sec. 21(d)(1)).
The credit is between 35% and 20% of the allowable expenses, depending on the taxpayer's adjusted gross income (AGI). For the 35% credit, AGI must be $15,000 or less, and the credit percentage is reduced by one percentage point for each $2,000 (or fraction thereof) by which the taxpayer's AGI exceeds $15,000. Thus, the credit "bottoms out" at 20% of expenses for an AGI over $43,000. In other words, for taxpayers with the maximum allowable expenses, the credit amount with respect to one child is $1,050 at the lower end of the AGI scale, diminishing to $600 at the top. For two or more children, those credit amounts are doubled.
Taxpayers and their CPAs may be less familiar with the variety of state personal income tax credits for child care across the country. Tax Credits for Working Families, a website of The Hatcher Group, maintains resources, including a chart of 21 states and the District of Columbia offering a credit, at taxcreditsforworkersandfamilies.org. Subscribers to commercial tax research services may also compare credits for each state.