Understanding Custodial Tax Benefits

  • There are many child-related tax benefits, if you are the custodial parent.
  • There is an exception to the rule for the noncustodial parent.
  • Learning more about the custodial tax benefits can help motivate you in your custody case.

While experiencing a divorce, there are many worries regarding who gets what. Whether it is custody of the children or assets accrued, everything is under a microscope. In ending the marriage, the fallout is created, leaving both parties looking to figure out their financial futures moving forward.

For parents, that starts with determining the custody situation. No matter which parent gets custody, both are generally looking out for the best interest of their children. In addition to having their children around and providing them with the best situation to grow and thrive, there are other consequences to the custodial decision that the custodial parent needs to be aware of.

Learning the child-related tax benefits

From a financial perspective, the custodial parent generally gets to claim all of the child-related tax benefits for a child, including the child tax credit, the dependency exemption, the child and dependent care credit, the exclusion for dependent care benefits, head of household filing status, and the earned income tax credit, according to the Internal Revenue Service of the United States Department of the Treasury.

For those unaware, the child tax credit (CTC) provides a credit of up to $1,000 per child younger than the age of 17, and if the CTC exceeds taxes owed, families may receive some or all of the credit as a refund, known as the additional child tax credit (ACTC) or refundable CTC, according to the Tax Policy Center.

A dependency exemption reduces your taxable income, so that a parent pays less income tax, based on the number of children that they support, according to the IRS.

The child and dependent care credit is a credit for the costs of care for a qualifying individual to allow them to work or look for work, according to the IRS. This includes a dollar limit of $3,000 on the amount of the expenses allowed to be used for the credit for the care of one qualifying individual or $6,000 for two or more qualifying individuals.

The amount of the credit is between 20 and 35 percent of the allowable expenses, and the percentage used is dependent on the amount of adjusted gross income accumulated.

An exclusion for dependent care benefits means that an employer provides dependent care benefits under a qualified plan, thus allowing an individual to exclude dependent benefits, such as the amounts your employer paid directly to either you or your care provider for the care of your dependents while you work, the fair market value of care in daycare facility provided or sponsored by your employer, or pre-tax contributions you made under a dependent care flexible spending arrangement, from your income, according to the IRS.

This requires your employer to inform you whether your benefit plan qualifies and the completion of Part III of Form 2441.

The head of household filing status is for single or unmarried taxpayers who keep up a home for a dependent, according to eFile. It gives you a lower tax rate and a higher standard deduction than a single filer. However, it also requires you to have paid more than half the cost of “keeping up a home” for a year and the dependents lived with you in that home for more than half the year, except for temporary absences.

The earned income tax credit (EITC or EIC) is a benefit for working people with low to moderate income, and in order to qualify, you must have earned income from working for someone or from running or owning a business or farm, as well as meeting basic rules, according to the IRS. In addition, you need to file a tax return and have a child or children that meet all of the qualifying child rules.

Exception to the rule

There is an exception to this rule, regarding the claiming of child-related tax benefits and custodial and noncustodial parents, according to the IRS. The exception applies to divorced or separated parents or parents who have lived apart for the last six months of the calendar year. The exception states that the noncustodial parent may claim the dependency exemption for a child if the custodial parent releases the exemption.

In addition, the noncustodial parent can claim the child tax credit if the other requirements for the child tax credit is met. However, only the custodial parent can claim the dependency care credit.

Moving forward

Tax credits pertaining to custody and children are valuable aspects of how financial futures are shaped. For the custodial parent, they are given the opportunity to better prepare themselves for tax season and how they can provide for their children.

For the noncustodial parent, learning about the tax credits that having custody entails can help them better prepare their homes and finances for their children, so that they can look for custody down the line.

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