Did you receive a letter this week from the IRS? The letter indicated that your family may be eligible for the new and improved Child Tax Credit.
In March, President Biden signed the “American Rescue Plan” (ARP) into law. This bill included a change to the Child Tax Credit, which has been around since the 1990s.
A tax credit is exactly what it sounds like: a credit against any tax you owe! In some cases, a tax credit can even reduce your taxes to below zero. This means that if the taxes you owe for the year are less than the value of the credit, you will get the balance back in your pocket. Credits like this are called “refundable tax credits”.
The ARP made several changes to the Child Tax Credit. For one, the credit is now fully refundable, meaning that even families who did not owe taxes will receive the full amount of the credit. The amount of the credit has also been increased. The maximum Child Tax Credit used to be $2,000 per child under age 17; it is now $3,000 per child ages 6-17, and $3,600 per child under age 6.
The other big change is timing. Instead of waiting until you file your taxes in 2022, you will receive half of your credit in 2021. If you have signed up for direct deposit with the government, monthly payments will automatically be deposited in your account starting July 2021, through December.
Not everyone is eligible for the credit. The maximum credit is only available to taxpayers with an Adjusted Gross Income of $150,000 or less for married couples filing jointly; $112,500 or less for head of household; and $75,000 or less for single taxpayers. Families with higher earning receive small credits, or no credit.
So how much should you expect to receive? Let’s imagine an income-eligible family with 3 children aged 11, 8, and 5. This family will receive a Child Tax Credit totaling $9,600 ($3,000 for each child aged 6 and older and $3,600 for the child under age 6). Half of this amount will be paid in monthly payments from July through December ($4,800 / 6 = $800 per month). When they file their taxes in 2022, they will receive the remainder in their refund, or as a credit against taxes they may owe.
There are a couple things to keep in mind when planning for the new credit.
Prior to the ARP, this family would have received a $6,000 credit ($2,000 x 3 children) against any tax liability when they file their taxes. For many families, this would have meant a large refund.
The other thing to note is that the advance payment amount will be calculated according to your family earnings from 2020. If your family as had a big change in income, filing status, or number of eligible children since 2020, be sure to inform the IRS of these changes at the IRS “Advance Child Tax Credit Payments in 2021” page. You can also opt out of monthly payments if you prefer to receive the entire credit at tax time, meaning a bigger lump-sum refund.
For some Americans, circumstances from the last year have left them in very strenuous financial situations. Any money received from this Child Tax Credit should be used for immediate needs like food, prescriptions, utilities, mortgage or rent and transportation. However, for some people who are already meeting their basic needs, the new credit is an unexpected windfall. What will you do with it?
If you do not currently have an emergency savings fund, the new CTC is a tremendous gift to get you started. Many financial experts recommend saving enough to cover your expenses(PDF) for three to six months. Think about your future self and the future you want for your kids, then make the wisest decisions for how to save, spend, and give this money you will be receiving.
