The 2021 American Rescue Plan increased the Child Tax Credit (CTC) from $2,000 per qualifying child to $3,000 for children 6 to 17 years of age and $3,600 for children under 6. Taxpayers received one-half of their 2021 CTC in the form of advance monthly cash payments made in July through December.
The additional cash in hand helped millions of families struggling with the continuing pandemic, but now it's tax time. The IRS will soon be sending information Letter 6419 confirming the advance payments you received in 2021 and the number of qualifying children used to calculate those payments. You'll reconcile the advance payments against your actual Child Tax Credit. If you're like most, the advance payments will represent one-half of your total credit as intended and you can claim the other half with your 2021 tax return.
But what happens if the IRS sent you too much money? What if your advance payments turn out to be more than your Child Tax Credit? Will you have to pay back the difference? The answer is yes, maybe, but let's step back a little and review.
How Were the Advance Payments Calculated?
The IRS calculated your 2021 Child Tax Credit and advance payments based on the income and child dependent information from your 2020 tax return, or your 2019 return in some cases. Your actual 2021 tax information was unknown at the time. Claiming fewer children in 2021 or having large increases your income could have the affect of lowering your actual Child Tax Credit below what the IRS calculated. Recognizing this, the IRS In launched an online portal where taxpayers could update their relevant information for 2021, or opt-out of the advanced payments altogether. Some used the portal, but many did not.
Fewer Children Claimed in 2021
Year to year changes in the number of children claimed for the Child Tax Credit is a biggie, and it occurs frequently with divorced and separated parents. Generally, the custodial parent (the parent with whom the child lives more the greater number of days during the year) is the parent who claims the the child for the CTC. However, in some cases by formal or informal agreement, parents "swap" who claims the child in a given year. The custodial parent signs Form 8322 "allowing" the non-custodial parent to claim the child for that year.
If you claimed your child for the Child Tax Credit in 2020 and received advance payments BUT you you do not actually claim that child in 2021, then you might have have a repayment obligation for some of all of the advance payments you received. Likewise, if your ex-spouse claimed your child in 2020 and received advance payments BUT you actually claim the child in 2021 perhaps because it's your turn, then your ex-spouse might have an repayment obligation.
To avoid these potentially "messy" situations, many tax professionals encouraged divorced, separated, or unmarried parents with dependent children to opt-out of receiving the advance payments. All is not lost though.
How Much Will I Have to Repay?
There is some good news for lower and middle income taxpayers in this situation. When a repayment obligation exists due to fewer children actually claimed for the Child Tax Credit, there is a "repayment protection" umbrella. If your repayment protection amount is greater than your repayment obligation, then no repayment is required. The repayment protection amount is calculated on 2021 tax worksheet. It's a little complicated, but here goes ...
The calculation starts with an initial repayment protection amount equal to $2,000 for each child the IRS used for the Child Credit calculation who you didn't end up claiming. In other words, it is $2,000 multiplied by (the number of children the IRS used to calculate your CTC minus the number of children you actually claimed).
Example: You are single with income of $50,000. You claimed 3 qualifying children on your 2020 tax return ages 3, 5, and 7. However, your ex-spouse is actually claiming the 2 younger children in 2021. You will claim only your 7 year old child. Your initial repayment protection amount is $4,000.
$4,000 = $2000 multiplied by (3 children calculated minus 1 child actually claimed)
The IRS would have calculated your Child Tax Credit as $10,200 using 3 children ($3,600 + $3,600 + $3,000). Assuming you made no information updates via the online portal, you would have received one-half that amount ($5,100) in advance payments. However, because you are actually claiming just 1 child, your total CTC is only $3,000. You have $2,100 in overpayment.
The next step is determining how much of your initial repayment protection amount of $4,000 can be used against the $2,100 overpayment. It's calculated based on income and the following table. If your income as a single filer is under $40,000, you are entitled to full repayment protection. Income above $80,000, and you not entitled to any repayment protection. Income in between $40,000 and $80,000, and you repayment protection is reduced (phased out) by a calculated percentage.
Because your income of $50,000 falls in between $40,000 and $80,000, your $4,000 initial repayment protection amount is reduced by the following calculation:
$50,000 - $40,000 lower limit = $10,000 into the phaseout range
$10,000 / $40,000 phaseout range = 25%
$4,000 initial repayment protection x 25% = $1,000 reduction
$4,000 - $1,000 = $3,000 final repayment protection amount
Your repayment protection is reduced to $3,000 but it still covers the $2,100 overpayment, so good news you do not have a repayment obligation.
Substantially Higher Income in 2021
An increase in actual 2021 income above what the IRS calculated could also result in a repayment obligation, but the increase would have to be very large. As discussed in a previous article, the 2021 Child Tax Credit is really two credits in one:
1) The original Child Tax Credit of $2,000 per child
2) The American Rescue Plan (ARP) increases to the Child Tax Credit of $1,000 or $1,600 per child.
The two credits have different income limits and phaseout ranges which makes it a bit confusing. The ARP increases phase out first for single filers with incomes over $75,000. The CTC per child is reduced by $50 for every $1,000 income, down to a floor of $2,000. The original CTC of $2,000 doesn't begin to phase out until a single filer's income reaches $200,000. At that point, the $2,000 credit per child is reduced by the same $50 per $1000 income, except all the way down to $0.
As a single filer, even if your 2021 income increases up to $200,000 and you lose all the ARP increases, you are still eligible for the original $2,000 Child Tax Credit per child. And even if the IRS had calculated the maximum CTC of $3,600 per child, you would still have only been advanced one-half or $1,800. You'd have $200 in additional credit to claim on your 2021 return.
Simply put, for a 2021 income increase to result in a Child Tax Credit overpayment, it would have to be a a very large increase to the $200,000 and above level for a single filer.
Note: Repayment protection does NOT apply to overpayments that are due to large increases in income.
Thanks for getting through this long article! Hopefully it's not payback time for you. As always at Monadnock Tax Services we are happy to help individuals and families with friendly tax advice and services. Give us a call at (603) 722-0184 or email info@monadnocktax.com