How does having a baby help out at tax time?

Question

My uncle (CPA) explained to me that next year my husband and I will benefit from an automatic $1,000 tax credit AND we will get an automatic $3,000 tax deduction because we will have a baby this year.

First of all, what is the difference between a tax credit and a tax deduction?

B/c of our baby, can we expect 2 tax benefits that will automatically be granted by the government, or does this differ from state to state?

Hypothetically, if we owe...say $1,000 in taxes this year for fed and state (from the 2006 year), and we did no changes on our W2's for this current tax year (no additional withholding, same deductions...plus our new dependent- baby), should we expect to "break even" or perhaps be reimbursed a couple hundred in 2008 b/c of our baby?

Our accountant neglected to tell us about the auto $1000 credit...

Thanks for your help!

Take it easy, Miss Wong. I'm entitled to have a baby! If we really will get $1000 in child tax credit, that won't be enough to raise my baby on... It will give us a much needed break, though!

Answer 1

A deduction is subtracted from your taxable income before your tax is calculated. A credit is actually subtracted from the tax that you owe.

For each dependent child, you get a deduction - for 2006 it was $3300, and will be a little higher this year. As long as the dependent child is under age 17, you also get a child tax credit of $1000 if your total tax liability is that much - if it's less, it will take your tax liability to zero.

This is on your federal return, and does not depend on what state you live in. Depending on the state, you might or might not get a tax benefit there also.

When you say that you owe $1000 this year - if you mean that you're paying that much at tax time in addition to your withholding, then yes, if nothing else changes, then you could expect to not owe anything to the feds, or might get something back.

The accountant might not have mentioned the credit, but would be a pretty poor accountant if he/she did your taxes next year and didn't put it on your tax return.

Answer 2

Congratulations!!! I'm so happy for you.

As to your questions, let me start with a few definitions. First, a tax deduction is a reduction in taxable income. A personal exemption is also a reduction in taxable income. When taxable income is reduced, the tax is naturally lower.

A tax credit is a dollar-for-dollar reduction in the amount of tax that is owed.

Every person is allowed a personal exemption on a tax return. So, when a couple files a joint return, the personal exemption amount is $6600 (on 2006 returns) if they don't have any dependents to claim a personal exemption for.

Because a baby is definitely a person, a personal exemption may be claimed for this dependent child in the year it was born, and every year that this person is a dependent of the parents/guardians, etc. So, if your baby was born in 2006, you may claim a personal exemption for him/her. If your baby was born after Jan. 1st this year, then you may claim your baby's personal exemption on your 2007 return. (I expect it to go up to $3500 next year, because it jumps a little every year.)

Now, the child tax credit is awarded to people who meet certain rules. Because it's a tax credit, it reduces the tax itself. Most people who are eligible for the child tax credit are allowed $1000 per child who is under the age of 17. The great thing about the child tax credit is that a portion of it can be refunded to you. (Some tax credits are refundable, while others aren't.)

I don't know how much of your tax bill you mentioned is from the federal tax return and how much of it is for the state. State tax returns are usually based on the amounts on the federal return, and generally if a person receives a federal refund, they'll receive a little state tax refund, too.

What I'd do is look at my federal tax return and see what the bottom line is on the first page. That is the adjusted gross income. This amount carries to the top line of the second page of the return. Now, if you itemized your deductions, you'll have a different figure on the second line of page 2 on there. The MFJ Standard Deduction for 2006 is $10,300. There's a sub-total, and on the next line down, see where it says Personal Exemptions? Jot down the Adjusted Gross income less the Standard or Itemized deduction amount, and then subtract $9900 from that. Multiply your wages by 5%, (to account for any cost of living increases or wage increases for 2007), and add that figure. This will give you a pretty accurate guess as to your taxable income for 2007.

Give a local income tax preparation office a call and get them to tell you the amount of income tax from the tax table on your estimated taxable income for 2007, married filing jointly, with 3 exemptions.

When you get that number, subtract $1000 from it (to account for the Child Tax Credit). Then look at the amount of federal withholding on your tax return. You can figure on that having increased some, too, if your wages increase. (Let's say, about 3%.) This will give you a rough idea of where you'll stand on the federal tax return for 2007.

I know this answer is long-winded, but I hope it is helpful. There is a way to find the 2006 tax table on the IRS web site, but a phone call is much simpler.

If you decide to have a little more tax withheld on your income in 2007, I suggest you do this on the higher income of the two. All you have to do is file a new Form W-4 with your employer. And, don't use the worksheet at the top of the form, because it's designed to have people break even or actually come out owing taxes. You'd be surprised how much difference even $15/month could make on this.

Well, good luck and I hope you have a great year. Take lots of pictures, because babies change SO fast!!!

Answer 3

As long as your joint adjusted gross income is less than $110,000, you should get the $1,000 child tax credit. You would also get the dependent deduction of $3,400 for your child.

A tax credit is applied toward your tax liability. So if you owed $1,000 in federal tax, the child tax credit would reduce your tax liability to zero. A deduction reduces your taxable income. So if your gross income is $50,000 and you take the standard deduction, you would reduce your income by $10,700 (standard deduction for MFJ) and also $10,200 ($3,400 exemption * 3 people). So your taxable income is now $29,100 ($50,000-$10,700-$10,200). Your tax on this would be approx. $4,365 (15% tax rate). The child tax credit would reduce this amount to $3,365.

If your tax liability is less than $1,000, the child tax credit will reduce your liability to zero, but not get refunded. You may then be able to get the additional child tax credit, which is refundable.

If you pay for daycare, you could also be eligible for the childcare tax credit.

Answer 4

Yes the government basically subsidizes people to have more babies. Does anyone wonder why so many people have more kids than they can actually afford? Those who do the right thing and choose to have no kids get nothing except the privilege to help pay for those who do. I ask you - does that make any kind sense in todays world?

Accountants are not all brilliant or on the ball. It doesn't matter that much to them if you get some money back since it doesn't change what you pay them.