I’m having a new “Ready-Made” grand-baby! The Adoption Credit!
Dear Clients & Friends of the Firm:
I have good news: I going to have another grandbaby, “Ready-Made” in China. This will be our sixth grandchild. Our “Ready-Made” grandbaby will arrive in late March or early in April! How wonderful!
Adoptions have Tax Implications! This Adoption will have Double Implications!
When grand-dad and the new Dad both work at a CPA Firm, Adoptions in the middle of tax season have double implications!
For our clients: please get your tax and accounting work into our Firm as soon as possible. We need to get a jump-start on our busy season so that we can give maximum love and attention to our new grandbaby!
Let me state the obvious:
Adoptions are Very Expensive!
This is not an ordinary adoption (though I doubt that there is any such thing as “an ordinary adoption”). Our new grandbaby is “special needs”.
All adoptions are expensive. Adoptions of “special needs” children are even more expensive. All tax-breaks are appreciated. There are tax-breaks for adoption and additional tax-breaks for “special needs” adoptions.
Adoption tax-breaks are very important and much appreciated.
Adoptions have Tax Implications for every family!
Two tax benefits are available to offset the expenses of adopting a child. For 2015, adoptive parents may be able to claim a nonrefundable credit against their federal tax for up to $13,400 of “qualified adoption expenses” (see below) for each adopted child. That’s a dollar-for-dollar reduction of tax-the equivalent, for someone in the 25% marginal tax bracket, of a deduction of over $50,000. Also, adoptive parents may be able to exclude from their gross income up to $13,400 (for 2015) of qualified adoption expenses paid by an employer under an adoption assistance program. Both the credit and the exclusion are reduced (phased out) if the parents’ income exceeds certain limits, as explained below.
Adoptive parents may claim both a credit and an exclusion for expenses of adopting a child. But they may not claim both a credit and an exclusion for the same expense.
Qualified adoption expenses. To qualify for the credit or the exclusion, the expenses must be “qualified adoption expenses.” These are the reasonable and necessary adoption fees, court costs, attorney fees, traveling expenses (including amounts spent for meals and lodging) while away from home, and other expenses directly related to the legal adoption of an “eligible child” (defined below).
Qualified adoption expenses don’t include expenses connected with the adoption of a child of a taxpayer’s spouse, expenses of carrying out a surrogate parenting arrangement, expenses that violate state or federal law, or expenses paid using funds received from a federal, state, or local program. Expenses that are reimbursed by an employer don’t qualify for the credit, but benefits provided by an employer under an adoption assistance program may qualify for the exclusion.
Expenses in connection with an unsuccessful attempt to adopt an eligible child before successfully finalizing the adoption of another child can qualify. Expenses connected with a foreign adoption (i.e., one in which the child isn’t a U.S. citizen or resident) qualify only if the child is actually adopted.
Taxpayers who adopt a child with special needs will be deemed to have qualified adoption expenses in the tax year in which the adoption becomes final in an amount sufficient to bring their total aggregate expenses for the adoption up to $13,400 for 2015. They can take the adoption credit or exclude employer-provided adoption assistance up to that amount, whether or not they had $13,400 of actual expenses.
Eligible child. An “eligible child” is a child under the age of 18 at the time the qualified adoption expense is paid. A child who turned 18 during the year is an eligible child for the part of the year he or she is under age 18. A person who is physically or mentally incapable of caring for himself is also eligible, regardless of age.
Special needs child. This refers to a child who the state has determined cannot or should not be returned to his parents and who can’t be reasonably placed with adoptive parents without assistance because of a specific factor or condition, e.g., ethnic background, age, membership in a minority group, medical condition, or handicap. Only a child who is a citizen or resident of the U.S. is included in this category.
When to claim the credit or take the exclusion. If the qualifying expenses are paid before the year the adoption becomes final, the credit is claimed for the year after the one in which the expenses are paid. If the expenses are paid in the year the adoption becomes final or in a later year, the credit is claimed for the year in which the expenses are paid. For example, say $3,000 was paid in 2013, $2,000 in 2014, and $4,000 in 2015, when the adoption becomes final. The taxpayer claims a $3,000 credit in 2014 (for the 2013 expenses). The $2,000 of 2014 expenses and the $4,000 of 2015 expenses are combined to be claimed in 2015.
Employer-provided adoption benefits are excludable from the employee’s gross income for the year in which the employer pays the qualified adoption expense.
In the case of a foreign adoption, or an adoption of a child with special needs, neither the credit nor the exclusion may be taken until the year in which the adoption becomes final.
Non-refundable credit. The adoption credit is not a refundable credit. So, if the sum of your refundable credits (including any adoption credit) for the year exceeds your tax liability, the excess amount is not refunded to you. In other words, the credit can be claimed only up to the amount of your tax liability.
Phase-out for high-income taxpayers. The credit allowable for 2015 is phased out for taxpayers with adjusted gross income (AGI) over $201,010 and is eliminated when AGI reaches $241,010. The 2015 credit is reduced by a percentage equal to the excess of AGI over $201,010 divided by $40,000.
For example, say taxpayers who could have otherwise claimed a $2,000 credit have AGI of $211,010 in 2015. Their $211,010 AGI minus $201,010 equals $10,000, and $10,000 divided by $40,000 is 25%. Accordingly, the taxpayers “lose” 25% of their credit ($2,000 times 25% is $500) and can only claim a credit of $1,500. (Special rules for determining AGI apply in some cases.) The phase-out rules for high-AGI taxpayers apply for the exclusion as well.
How to claim the credit or take the exclusion for qualified adoption expenses. Adoptive parents who paid qualified adoption expenses or who received employer-provided adoption benefits must use Form 8839 to compute the amount of the credit and the amount of benefits that may be excluded from their gross income. Taxpayers who are filing Form 8839 cannot file electronically, but must file a paper return. So taxpayers claiming the adoption credit or the exclusion for employer-provided adoption benefits must file paper returns. In addition to filling out Form 8839, eligible taxpayers should keep one or more adoption -related documents, detailed in IRS-issued guidance.
Child’s taxpayer identification number required for credit or exclusion. IRS can disallow the credit and the exclusion unless a valid taxpayer identification number (TIN) for the child is included on the return. Taxpayers who are in the process of adopting a child can get a temporary identification number, called an adoption taxpayer identification number (ATIN), for the child. This enables the adoptive parents to claim the credit and exclusion for qualified adoption expenses. Form W-7A is used to get an ATIN.
When the adoption becomes final, the adoptive parents must apply for a social security number for the child. Once obtained, the social security number, rather than the ATIN, must be used.
Adopted child may qualify for dependency deduction, other tax benefits. Your legally adopted child will qualify as your dependent if the other dependency tests are met, e.g., you provide more than half of the child’s support. Even if the adoption isn’t yet final, the child will be your dependent if he or she was placed with you for legal adoption by an authorized placement agency and was a member of your household for at least part of the year. Special requirements apply to adoptions of foreign children who aren’t U.S. citizens or residents.
Once the child is your dependent, you will qualify for the dependency deduction and for other tax benefits, such as the child tax credit.
I can help you to make sure that you get the full benefit of the substantial tax savings available to adoptive parents. Please call if you have any questions. I look forward to discussing these tax benefits with you.
Steve Richardson, CPA