Expanded child tax credit complicates filing season

This tax season, taxpayers who care for children are navigating a fundamental change in the Child Tax Credit (CTC) as they file their returns. For some, it could mean a surprise change in their refund size, or other potential complications, highlighting the downsides of administering family programs in the already remarkably complex federal tax system.

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How the Child Tax Credit Changed 

The amount and age limit were increased from $2,000 for children aged 16 and under to $3,600 for children aged 5 and under and $3,000 for children aged 6 to 17. (The extra boost in the credit was phased out for higher-income households.) 

For the first time since its creation in the 1990s, the credit no longer depended on having wages or self-employment income but was instead made fully available to households without earned income 

Instead of having to wait until tax filing season to receive the benefit, up to half the credit was paid out in advance

CRYPTOS MAKE FOR DICEY FILING FOR SOME

Despite many unanswered questions about how the advance payments would work, the Treasury Department and Internal Revenue Service (IRS) began sending monthly payments of up to $300 per child in July 2021. From July through December of last year, they disbursed more than 30 million monthly payments for a total of more than $90 billion paid out ahead of the tax filing season, based on IRS estimates of eligibility using recently filed tax returns or Economic Impact Payment (stimulus check) information.

Families used the advance payments primarily for expenses such as childcare costs, school supplies, food, rent and bills or to pay down debt. Now, they have to reconcile what the IRS says they received in advance, which can be found on Letter 6419, on their Form 1040.

While the CTC expansion was structured to not increase taxes on any household, a dollar of credit received in advance results in a dollar less received at filing time. For families unaware of the trade-off, it could mean a surprise when they see their refund total this year.

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Consider a married couple with a 10-year-old child who normally received their $2,000 CTC when they filed their taxes. They would have received $1,500 of their $3,000 in advance. As such, they could potentially see their refund shrink by $500 even though their total benefit increased to $3,000 because they are left with $1,500 instead of their normal $2,000 at tax time.

Other families could see their refund size go in the other direction. In particular, lower-income families who have not previously qualified for any CTC or received a limited credit may receive a refund larger than usual. 

Unanticipated changes in refunds only scratch the surface of potential complications. 

If the advance monthly payments a taxpayer received added up to more than the amount they were eligible for, they may have to repay the excess when they file their taxes. Joint filers with under $60,000 in modified adjusted gross income (MAGI), head of household filers under $50,000, and single filers under $40,000 receive repayment protection, but protection phases out for households with higher incomes.

Families with complex living situations may have experienced difficulty with the advance payments, which could spill over into difficulties filing their tax returns.

For example, some parents who share custody of a child have agreements to take the Child Tax Credit every other year. The IRS estimates of eligibility, however, mean the payments could have gone to the same parent who claimed the child the year before instead of switching to the other parent. If a parent didn’t opt out of the payments, they could potentially be on the hook for repayments if they don’t qualify for full protection.

The complications highlight the downside of running a child benefit through the IRS, an agency tasked primarily with collecting revenue, not administering social programs. The expansion of the credit has now expired, but lawmakers are debating how to bring it back in the future. Weighing the trade-offs of using the tax code to deliver child benefits should be a key part of the debate — taxpayers deserve a simpler system.

Erica York is an economist at the Tax Foundation, a nonpartisan think tank in Washington, D.C. You can follow her on twitter at @Ericadyork.