The Tax Cuts and Jobs Act of 2017 brought several changes and expansions to the tax benefits available for parents and those with dependents. Sean Brennan, CPA, MBA, president of Brennan and Company CPA PC in Philadelphia and chair of PICPA’s Federal Taxation Committee, discusses the child care and dependent care tax credits, as well as why CPAs shouldn’t disregard the earned income tax credit.

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By: Jim DeLuccia, PICPA Communications Manager

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Podcast Transcript

If you have clients who are new parents, be sure they know about the tax benefits available to them, especially those brought on by the Tax Cuts and Jobs Act of 2017. Joining me on the phone to provide some more insight on this issue is Sean Brennan, CPA, MBA, president of Brennan and Company CPA PC in Philadelphia. Sean is also the chair of PICPA's Federal Taxation Committee and a very active PICPA member overall. Sean, welcome to the program.

[Brennan] Thank you, Jim. Good morning.

What are a few changes brought about to child tax breaks by the Tax Cuts and Jobs Act?

[Brennan] Well, Jim, I would say that more than the depth or the amount of changes that occurred, I think expansion is the operative word. The existing programs, which I would say for parents and those with dependents, there were seven, really, that they were or should be concerned about. The child tax credit, the child and dependent care credit, the EITC or earned income tax credit, which is probably the most prevalent, and we'll talk about that later, the adoption tax credit, 529 education savings plan, Coverdell Education Savings Accounts, and then, tangentially, medical expense deductions. Those are the seven, I'd say, main categories of deductions and credits that have existed prior to the Tax Cut and Jobs Act but have been expanded to some extent since the changes in the tax law that occurred.

In your opinion, what are a few breaks that could be overlooked that CPAs should be helping their clients take advantage of?

[Brennan] Well, in continuing with this idea of expansion, I think, in my experience this past tax season, many taxpayers were surprised to find that in waiting through the difficulty of trying to understand what the Tax Cuts and Jobs Act meant for them, how it would impact them individually, and what would be the effect on their tax returns, they were surprised to find that the expansion improved their particular situation in many cases.

If we just focus on a couple of these very quickly, if you look at two long-standing credits that many families were able to avail themselves of, the child tax credit and the dependent care tax credit are two of those. The child tax credit has been expanded, whereas families were narrowly receiving a tax credit for children up to $1,000 may be able to get up to $2,000 with $1,400 being a refundable tax credit for each additional child.

There's also been an expansion of a dependent credit. Now, this isn't refundable, but even for having dependents other than children, there's now a separate $500 credit that can be available in some instances, and many families with children have heard about the dependent care tax credit over the years, and it would phase out in the past at certain income levels. Well, now, there's really no phase-out for this. More and more families are being able to take this credit of between 20-35%, maxing out at about $1,440, but nevertheless, more and more individual families are being able to take this dependent care credit that were never able to take it before. Those are just two examples, the child tax credit and the dependent care credit that, while not necessarily new programs in and of themselves, I think more people are being able to use these credits.

I would add a third credit here maybe at this time. The old standby, the earned income tax credit. Many people are aware of this credit. I think the numbers are somewhere around 25 million Americans take the earned income tax credit, and the benefits paid out were $60 billion. I checked more closer to home to see how Pennsylvanians are impacted by the earned income tax credit, and I saw that with the latest data available, 890,000 Pennsylvanians take the earned income tax credit. They are claiming the credit, and they received $2 billion in earned income tax credits.

Now, that's significant because those tax credits are refundable, and that means if there is no tax incurred, if there is no tax due, you can still receive this credit. It can be refunded to you and for a family that may be living at or near the poverty line, and I think, again, statistically, there were 43 million people living in the poverty line. If that poverty level for a family of four is about $25,000-$26,000, if you can increase your income with this refundable tax credit by 20%, if you can get a $4,000 or $5,000, I believe the max is somewhere around $6,600, that is a tremendous increase to your income and can lift many families out of poverty.

Pennsylvanians receive an average of $2,465. $2,488 is the national average, so right about the national average, Pennsylvanians are receiving this earned income tax credit. Again, not a new program, but an expanded program, so the range and the phase-out, depending on your filing status, are you single with no children, there's even a credit for that up to about $16,000 of income. That benefit was expanded up to about $600, little less than $600, but married filing jointly, head of household, and given certain income thresholds, those credits were expanded. That's a real significant expansion and increase in the program, and I think that while we know that program has always been around, more and more people are going to be able to get significantly greater amounts of money in taking that.

Last point I'd make about EITC, if there are about 43 million people, according to government estimates, receiving some type of poverty assistance and living in poverty and only about 25 million are claiming the EITC, that disparity means that there are probably a significant number of people who are not getting the credit to really help them. They're not getting it, and it's something that, depending on where you're at, it might be something for CPAs to keep an eye on as to whether or not some of your clients can claim this.

Yeah, I wasn't considering the, of course, I'm not a CPA, but wasn't considering how the earned income tax credit would factor into this discussion, but it seems like it does.

[Brennan] Oh, yeah, I mean, and 900,000 Pennsylvanians are claiming it. With that disparity, I'm sure that many Pennsylvanians are not filing for it and could be. In fact, some of the areas are better at risk according to the IRS are those with limited English skills and veterans or those who've had a dramatic change in their earnings from one year to another, people that've lost their jobs or had other things that have occurred such as disabilities or even for those living in nontraditional homes.

I think sometimes we tend to think of this program as maybe relating strictly to the urban poor. I think that's a skewed way of looking at it. I mean, poverty exists in every community everywhere in the United States. With such a disparity there in the numbers of those claiming adversities, those who potentially could be eligible, there are many people right around the corner that could be getting this important program and could be availing themselves of that benefit. Just good to keep in mind.

It's a great point, Sean. Appreciate you elaborating on that. What are some items CPAs need to tell their clients in advance of taking these tax credits?

[Brennan] I'd say the biggest thing is the change in the law is that... The biggest new development I'd say is that children, newborn, have to obtain their Social Security prior to the due date for the tax filing. Without that, those credits can't be claimed, whether it's EIC or child tax credit.

Now, there is some nuance there with both filing with ITINs and things, but the vast majority should be aware that you need to have your Social Security for the child when filing that tax return. That's something that needs to be done immediately because that's a change that's going to leave some people out I think in claiming that that are unaware of that change.

Finally, Sean, what is new or should be discussed related to the kiddie tax and the nanny tax? What should CPAs be telling their clients about these two areas?

[Brennan] Let's start with the nanny tax. Let's start with the second one. I don't have any specific statistics on it, but I know that in the past in relation to government appointments or things related to the IRS, public officials have been tripped up over this matter. I think sometimes it's just an oversight as opposed to trying to get one over, so to speak.

The nanny tax is essentially treating anyone that works in your home and receives more than $2,100 annually or $1,000 and a quarter as an employee. We don't think of that it that way. Now, not everyone is paying someone $4,000 a year to cut their lawn or $4,000 to take care of their child, but if you are, the rules apply to those workers in your home as they would if they worked for someone in their business. The nanny tax is a broad description of anyone that would fall under that category, and payroll taxes have to be collected. They have to be withheld from the pay, and they have to be remitted to the appropriate tax authority.

Then the taxes in particular, the Social Security and Medicare, they have to be matched just as any corporation does for its employees. Then that is all reconciled on what's called Schedule H and sent to the government. Payments are made quarterly.

It's involved. I mean, there's no way around it, and if you're not familiar with payroll, there are companies that do this for you. The enforcement is up at down at different times. I think it becomes more of a hot button issue, but it's certainly something to keep in mind because unraveling that, and the penalties in some regard for mistakes in payroll, whether it's a company or failure to do the nanny tax, can be more severe than income tax penalties.

It's just something that you want to bear in mind, and like anything else that you might be able to do that's a challenge or it's cumbersome or it's difficult, you might want to think about outsourcing it depending on the cost for you. The compliance is certainly better. It's better to pay that amount and be in compliance than to ignore this issue and hope you don't get caught and have it hanging over your head. I mean, that's no way to live. That's the issue for the nanny tax.

I do think that in regard to the kiddie tax, this is one area that I think we could say has changed somewhat. In regard to this kiddie tax or the income that relates to children or a minor, when there's income, investment income above the annual threshold of $2,200, the tax rates really take off, and that's been the biggest change. Previously, that income could be taxed on the parents' tax return at their marginal tax rate, but now, when it gets over that amount, you're taxed at the rate for estates and trust, and over $12,500 of income, short-term gains, long-term gains, dividends, things like that, you can be taxed over 37% on that income. There just aren't that many people that are taxed at 37% across the board.

The whole idea of kiddie taxes, the tax returns or the custodial accounts that are being set up for children has come into play a little bit. I mean, it's a great idea for saving for college or setting things up that you could give your child a head start in their financial security; however, using that new tax rate is going to make this something that we have to give pause to and really think about.

In that vein, I would add that ABLE accounts are something that people should be taking a closer look at now. Couple of changes there that I think people should know about, Jim. For contributions made to an ABLE account, the beneficiary is eligible to a deduction based on their adjusted gross income. They can get 50% of the contribution. They can get 20% of the contribution. They can get 10% of the contribution. Essentially, that cutoff is about $64,000. Furthermore, you can roll a 529 into an ABLE account and do that tax-free or penalty-free. These ABLE accounts achieve Better Life Experience accounts.

Now that they allow for this credit, this saver's credit, I should say, from these contributions, they're making them more attractive, and I think that this is something that CPAs are going to see more regularly in the future. That's just another thing to be aware of.

Well, Sean, thanks so much for sharing this insight with our listeners today. We've worked with you with videos in the past, and you always come prepared with such great data and statistics, so definitely appreciate your, again, all your insight.

[Brennan] Oh, my pleasure. Anytime, Jim. I would add that we shouldn't fail to mention the adoption tax credit. Adopting children is such a difficult and worthwhile cause, certainly, but the Tax Cuts and Job Act hasn't eliminated the adoption tax credit, so that's a good thing as well.