The Jason Astwood Office Newsletter

WASHINGTON – The Internal Revenue Service today posted two new, separate sets of frequently-asked-questions (FAQs) to assist families and small and mid-sized employers in claiming credits under the American Rescue Plan (ARP).

Both the child and dependent care credit as well as the paid sick and family leave credit were enhanced under the ARP, enacted in March to assist families and small businesses with the fallout of the COVID-19 pandemic and recovery underway. The two sets of FAQs provide information on eligibility, computing the credit amounts, and how to claim these important tax benefits. An overview of these tax credits follows:

Child and dependent care credit

For 2021, the ARP increased the maximum amount of work-related expenses for qualifying care that may be taken into account in calculating the credit, increased the maximum percentage of those expenses for which the credit may be taken, modified how the credit is reduced for higher earners and made it refundable.

For 2021, eligible taxpayers can claim qualifying work-related expenses up to:

$8,000 for one qualifying person, up from $3,000 in prior years, or

$16,000 for two or more qualifying persons, up from $6,000 in prior years.

Taxpayers are also required to have earnings; the amount of qualifying work-related expenses claimed cannot exceed the taxpayer's earnings.

Combined with the increase to 50% in the maximum credit rate, taxpayers with the maximum amount of qualifying work-related expenses would receive a credit of $4,000 for one qualifying person, or $8,000 for two or more qualifying persons. When calculating the credit, a taxpayer must subtract employer-provided dependent care benefits, such as those provided through a flexible spending account, from total work-related expenses.

A qualifying person generally is a dependent under the age of 13, or a dependent of any age or spouse who is incapable of self-care and who lives with the taxpayer for more than half of the year.

As in prior years, the more a taxpayer earns, the lower the percentage of work-related expenses that are taken into account in determining the credit. However, under the new law, more taxpayers will qualify for the new maximum 50% credit rate. That's because the ARP increased to $125,000 the adjusted gross income level at which the credit rate starts to be reduced. Above $125,000, the 50% credit percentage goes down as income rises. Taxpayers with adjusted gross income over $438,000 are not eligible for the credit.

The credit is fully refundable for the first time in 2021. This means an eligible taxpayer can receive it, even if they owe no federal income tax. To be eligible for the refundable credit, a taxpayer (or the taxpayer's spouse if filing a joint return) must reside in the United States for more than half of the year. However, special rules apply to military personnel stationed outside of the United States.

To claim the credit for 2021, taxpayers will need to complete Form 2441, Child and Dependent Care Expenses, and include the form when filing their tax returns in 2022. In completing the form to claim the 2021 credit, those claiming the credit will need to provide a valid taxpayer identification number (TIN) for each qualifying person. Generally, this is the Social Security number for the qualifying person. For more information about completing the form and claiming the credit, see the instructions for Form 2441. In addition, those claiming the credit are required to identify all persons or organizations that provided care for the qualifying person. This requires providing the care provider's name, address, and TIN.