While the litmus test for the benefits that the Tax Cuts and Jobs Act (also known as tax reform) may deliver to freelance taxpayers will likely be next tax season, there are several provisions of the bill that should, in theory, reduce the tax obligation of those who qualify for them.
The changes to the Child Tax Credit (CTC) and a new Dependent Tax Credit are two such provisions, specific to freelancers who have children or other dependents whom they support financially.
How the CTC works
As part of the American Taxpayer Relief Act (ATRA) in 2012, the Child Tax Credit, which reduced parents’ tax burden, was made permanent. Under the new tax law this tax credit has increased from $1,000 to $2,000 per qualifying child depending on a parent’s taxable income.
You may qualify for the CTC under tax reform, even if you didn’t before
Another important bit of good news related to the Child Tax Credit: tax reform increased the income threshold for phase out of the credit to $400,000 for couples and $200,000 for singles. This is a big increase when compared with the 2017 tax year amounts of $110,000 for couples and $75,000 for singles. As such, even if you didn’t qualify for the Child Tax Credit in prior years because your income was too high, you may now find that you do.
Since this is a tax credit rather than a tax deduction, the Child Tax Credit reduces your tax liability dollar for dollar with the amount of the allowable credit. This is in contrast to a deduction, which simply reduces your taxable income.
However, the credit still cannot be taken for more than the amount of tax you owe to the IRS.
The Additional Child Tax Credit has also increased
If you are not able to use the full Child Tax Credit because it is more than the tax you owe, you may be able to use the Additional Child Tax Credit. In this case, you may be eligible to claim this credit, allowing you to receive a payment (i.e. a tax refund) for the unused portion of your Child Tax Credit.
Under the new law, the Additional Child Tax Credit increased from $1,000 to $1,400. However, if you are able to claim the full amount of the Child Tax Credit, you will not be eligible to claim this credit as well.
How do I know if I qualify for the CTC?
In addition to having dependents, the IRS provides the following tests to see if you are eligible for the Child Tax Credit:
- Age test: The child being claimed must have been under the age of 17 at the end of 2018.
- Relationship test: The child being claimed must also be your son, daughter, stepchild, foster child, brother, sister, stepbrother, or stepsister. A child can also be a descendant of any of these persons. For example, your grandchild, niece, or nephew will qualify. An adopted child includes a child lawfully placed with you for legal adoption.
- Support test: The child must not have provided more than 50 percent of his or her own support for 2018.
- Dependent test: The child must be claimed as a dependent on your 2018 federal income tax return.
- Joint return test: A married taxpayer can’t file a joint return with his or her spouse if the couple is filing jointly only to claim a tax refund.
- Citizenship test: The child being claimed must be a U.S. citizen, U.S. national, or U.S. resident alien.
- Residence test: In general, the child being claimed must have lived with you for more than half of 2018 to be claimed. However, a child is considered to have lived with you for more than half of 2018 if the child was born or died in 2018 and your home was this child's home for more than half of the time he or she was alive.
If you qualify to claim the Child Tax Credit, you will need to file IRS Form 8812 with your income tax return.
Supporting college-age kids or other dependents?
A new tax credit may be available to you. Tax reform also introduced a $500 dependent credit to the mix which can benefit taxpayers who support dependents such as qualifying children (those over 17 attending college) or qualifying relatives, such as an elderly parent.
The personal tax exemption has been eliminated. An important downside to the Tax Cuts and Jobs Act is that it removes the personal exemption that taxpayers used to be able to claim for themselves, their spouses, and dependents, so don’t forget to factor this change into your tax calculations.
Once you have taken these changes into account, it may be worthwhile considering if you should adjust your estimated tax payments (or your tax withholding at work if you are a W-2 employee). In addition, you may want to check any state or local tax withholding that you are obligated to do.
If your tax bill is going to be considerably lower, reducing the amount of your withholding will put more money in your pocket now, rather than having to wait until next tax season’s refund.
Jonathan Medows is a New York City based CPA who specializes in taxes and business issues for freelancers and self-employed individuals across the country. He offers a free consultation to members of Freelancer’s Union and a monthly email newsletter covering tax, accounting and business issues to freelancers on his website, www.cpaforfreelancers.com which also features a new blog, how-to articles, and a comprehensive freelance tax guide.
Jonathan is happy to provide an initial consultation to freelancers. To qualify for a free consultation you must be a member of the Freelancers Union and mention this article upon contacting him. Please note that this offer is not available Jan. 1 through April 18 and covers a general conversation about tax responsibilities of a freelancer and potential deductions. These meetings do not include review of self-prepared documents, review of self-prepared tax returns, or the review of the work of other preparers. The free meeting does not include the preparation or review of quantitative calculations of any sort. He is happy to provide such services but would need to charge an hourly rate for his time.