Child Tax Credit: Opt Out or Take the Money?

If you are a parent receiving your Child Tax Credit as monthly payments in advance of filing your 2021 tax return, be cautious. You may be required to pay some or all of the money back to the federal government.

On July 15th, thousands of families across the country received deposits from the IRS in their bank account and those deposits are going to keep coming each month for the rest of 2021! That’s not the IRS feeling generous, but actually an advance of the 2021 Child Tax Credit.

Earlier this year, the American Rescue Plan authorized a portion of the Child Tax Credit be paid to eligible taxpayers monthly. Don’t spend those funds right away though! The payments are based on your most recent tax filing, but if your financial situation has changed, you may have to pay some of those dollars back!

Two Tiers of Credits

Before 2021, the Child Tax Credit was $2,000 per child under the age of 17. The credit began to phase out when Modified Adjust Gross Income (MAGI) exceeded $200,000 for single and head of household filers and $400,000 for those married filing jointly.

The American Rescue Plan expanded the Child Tax Credit to $3,600 per child for children under the age of 6 years and $3,000 for children older than 6, but younger than 18. But wait! The income ranges to qualify for the full tax credit are much lower in 2021 than in 2020. For tax year 2021, single filers are eligible for the full credit only when MAGI is less than $75,000 (reduced from $200,000). For head of household and married filing jointly filers, the credits begin to phase out when MAGI exceeds $112,500 and $150,000, respectively, versus $400,000 in 2020.

Monthly Payments

The numbers weren’t the only thing to change. To help families immediately, half of the credit is prepaid to families each month from July 2021 to December 2021. The second half of the credit is applied when your 2021 taxes are filed. The monthly prepayment is based on the entire child tax credit you are eligible for based on your income reported on your 2020 tax return. Even if your 2021 income exceeds the thresholds for the expanded credit, you will still receive the monthly prepayments unless you opt out.

How to Opt-Out?

If you decide to opt-out of the monthly payments, you must call the IRS or use their online portal to notify them. Neither platform has received rave reviews from users, but you can update your preferences with some patience. The deadline to opt out for the next month’s payment is three days before the first Thursday of the month. If you are married filing jointly, both parents need to opt out from payments. If only one parent opts out, half the amount will still be paid out.

Who Should Opt Out?

Will your income in 2021 be higher than in 2020? A small increase will have a minimal impact, but a substantial change in income could significantly impact the credit you are eligible for. The IRS can only base the payments on their information, so they won’t know if overpayments have been issued until you file your 2021 tax return. You won’t be penalized, but you will have to pay the money back when completing your 2021 tax return.

Divorced families often alternate who claims children as dependents each year. While it seems a straightforward solution, it throws a wrench into the tax credit payments. The advanced credit will be paid to the parent who claimed the child on their 2020 tax return. However, if the other parent will claim the child in 2021, that parent will receive the entire tax credit when filing their 2021 tax return. The parent who received the advanced payments will have to pay the money back.

Did one of your dependents turn 6 (monthly credit reduced from $300 to $250) or 18 (no credit eligibility)? The IRS should have adjusted the payments, but it’s possible that some were missed, so it’s best to double-check.

One final reason you may choose to opt-out of the monthly payments is if you like getting a tax refund in the spring. The amount of the credit you receive will be the same whether you receive the monthly payments or a lump sum credit when you file your tax return.

2022 and Beyond?

As of the publication of this article, the expanded Child Tax Credit only applies to the 2021 tax year. However, there is pending legislation that could extend the Child Tax Credit beyond 2021. Whatever happens, keep an eye on your income and the payments you receive to make sure you aren’t surprised come tax time.

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