The Tax Cuts and Jobs Act of 2017, the TCJA for short, made a series of changes to the tax code that impact families and families seeking a divorce. The most impactful of these changes is that maintenance is no longer deductible to the payor, and it is no longer taxable to the recipient. However, there are other changes, while not as impactful in magnitude, still worth noting. One of these relates to deductions and credits related to children. This post discusses the elimination of personal exemptions and the Child Tax Credit or CTC. The TCJA reduced dependency exemptions to $0. Most recently, this was an amount of $2,000 per person that could be exempted (deducted) from income for each dependent and adult in a household. Before the enactment of the TCJA, divorcing couples would need to negotiate who would take/benefit most from the personal exemption per minor child as only one parent could legitimately claim the deduction. In its place, the standard deduction was almost doubled both for married and other filers. However, despite the elimination of the personal exemption, parents will still need to claim a child as a dependent in order to legitimately claim the CTC. CTC is a credit against taxes owed (as contrasted with an exemption or deduction which reduces taxable income) and doubled under the TCJA from $1,000 to $2,000 per child, under the age of 17. This credit, like most credits, phases out for incomes between $200,000 for a single filer and $400,000 for joint filers. Importantly, this is a tax credit as opposed to a deduction. A tax credit has a larger impact dollar for dollar than a deduction. The latter reduces taxable income. The former reduces taxes dollar for dollar as discussed further below and illustrated with an example. Additionally, the TCJA provides a $500 credit for qualifying dependents other than children. A qualifying dependent can be a spouse or a dependent who lived with the taxpayer for more than half the year and is physically or mentally incapable of self-care. Another change is that the CTC is refundable up to $1,400. So, if the CTC brings your tax liability below zero, the IRS will send you the amount of the remaining credit up to $1,400. Other qualifying conditions include:
- The child for whom the credit is being claimed is 16 or younger at year end
- The child is a daughter, son, stepdaughter or son, foster child, adopted child and can also be a grandchild or niece or nephew
- The child did not provide more than half of their own support during the tax year
- The child must be claimed as a dependent on your federal tax return
- The child must be a US citizen and
- The child must have lived with you for more than half of the tax year.
To illustrate the value of a tax credit as compared to a deduction, assume a filer has $1,000 of income before deductions and for simplicity, one tax deduction of $200. Taxable income is $800 ($1,000 - $200). Assuming a 25% tax rate, tax owed is 25% x $800 or $200. Without the deduction, tax paid would be 25% x $1,000 or $250. The deduction saved $50 in taxes ($250 - $200 = $50). This savings can also be computed as 25% x the deduction, or25% x $200 which is also $50. A tax credit on the other hand, is more powerful. Assume $1,000 in taxable income and a tax credit of $200. Assume the same tax rate of 25%. Tax owed without the credit is 25% x $1,000 or $250. But with the tax credit of $200, my tax owed is just $50 ($250 - $200).
Blog Contributed by:
Shari L. Lutz is the Managing Member of Shari Lutz & Associates, LLC. She is a forensic accountant and appraiser. Shari has prepared valuations, damages analyses, fraud investigations, income assessment and tracing for over three decades for marital disputes, civil litigation, wealth transfer and tax and regulatory matters. Shari has testified in district, federal and bankruptcy courts. Shari is a certified public accountant, accredited senior appraiser (accreditation granted by the American Society of Appraisers), certified in financial forensics and is accredited in business valuation (certification and accreditation granted by the American Society of Certified Public Accountants). Shari has presented frequently on topics involving valuation and the use of experts to audiences including the Family Law Institute, the CU School of Law, The Domestic Relations Institute and the Colorado Bar Association. Shari is very involved in the Denver community and is a 2019 recipient of the CPAs Make a Difference award, presented by the Colorado Society of CPAs. Please visit Shari Lutz website at http://www.Lutzfvs.com for more information.
Kristi Anderson Wells brings many years of experience in the areas of taxation, benefits and executive compensation to the practice of family law. Her practice exists at the intersection of these areas of law, focusing on complex financial issues such as trusts, business interests, executive compensation, retirement assets, and stock rights in divorce. Kristi writes and speaks regularly on complex divorce issues. Most recently, Kristi authored The Executive Compensation Handbook: Stock Option Awards, Restricted Stock Grants, Cash Bonuses, Incentives, and Other Non-Qualified Deferred Compensation in Divorce, published by the American Bar Association. Kristi has been designated as a Colorado “Super Lawyer” since 2015. Please visit Kristi Wells website at https://wellsfamilylawcolorado.com for more information.