When you decide that it is time to start a family, the chances are good that you and your significant other are not only contemplating the joy that a child will bring into your home, but also the necessary expenses to ensure that they have all of the opportunities they need to succeed in the world. Education is first and foremost when it comes to establishing a strong foundation for future success. With that in mind, many parents will begin to explore preschool options even before a child is born.
Particularly when it comes to more expensive schools, many parents are eager to determine whether or not preschool fees are tax-deductible. Although preschool expenses do not qualify as a tax deduction on their own right, you can claim them as part of the child and dependent care credit, assuming you qualify.
If you have enrolled a child in preschool, there is a good chance that you can claim these expenses as a tax deduction. That being said, you will first need to ensure that you qualify for the Child and Dependent Care Credit offered by the IRS.
Basics of the Child and Dependent Care Credit
According to IRS guidelines, individuals have the opportunity to deduct various forms of childcare as part of the Child and Dependent Care Credit. Although preschool obviously incorporates educational components, federal guidelines classify preschool as a form of childcare. In addition to preschool, programs such as nursery school and pre-kindergarten also qualify as valid childcare deductions.
In order to ensure that the expenses you have made on preschool are deductible, however, you must first determine your eligibility for the federal Child and Dependent Care Credit. This program, while immensely valuable for parents and caregivers, includes its own extensive array of requirements and qualifications. Failure to meet these requirements could void any opportunity for preschool to qualify as a legally deductible childcare expense.
Guidelines for the Child and Dependent Care Credit
The IRS has established an extensive requisite checklist that individuals can use to determine whether or not their particular situation qualifies for the Child and Dependent Care Credit. First and foremost, the IRS checks to ensure that married couples claiming the credit typically file a joint tax return. Although it is possible to claim the credit using the "Married Filing Separately" status, a variety of additional regulatory hurdles come into play which can lengthen the application process significantly.
For example, individuals seeking to claim the Child and Dependent Care Credit while continuing to file their taxes with the "Married Filing Separately" status must demonstrate that the individual filing for the credit paid more than half of the total home expenses for the year. Also, the spouse of the individual filing for the credit must not have used the house in which the filer resides as a primary residence for the last six months of the tax year. As you can see, these stringent guidelines may prohibit some individuals from claiming this credit during tax filing season.
If a couple is married and living together, both parties must present evidence of earned income. However, certain exceptions may apply in situations where one spouse is disabled or is registered as a full-time student for, at minimum, five months of the year. The IRS does not mull voiding the credit in situations such as this, but instead assigns a specific dollar amount per child that will be paid to the parents as a subsidy. In this situation, the IRS will provide either $250 on a monthly basis for one child or $500 for two or more children.
Residency and Payment Requirements for the Care Credit
As part of their established guidelines, the IRS makes it clear that the individual requiring the care (in this case, the child) must live in the same home as the adult applying for the credit for a minimum of six months out of the year. It is also important to note that the IRS will check to ensure that the expenses claimed as part of preschool attendance are in fact paid to someone or some organization that is not directly linked to the spouse of the filer. Without this provision, the opportunity for fraudulent claims would skyrocket.
Characteristics of Qualifying Dependents
Although an extensive amount of attention is always devoted to the qualifying characteristics of the filer, it is also important to mention that the IRS clearly dictates what type of dependent actually qualifies for the credit. According to the most recent guidelines, the dependent must legally qualify as your child and be under the age of 13 in order to render the parent eligible for the deduction. For parents seeking this deduction in order to offset preschool expenses, this particular guideline shouldn't pose much of a problem.
That being said, another critical guideline that deserves attention is the IRS rule that states that the dependent must use the residence of the filer as their primary residence throughout the year. Therefore, in the event that two parents live in separate homes, only the parent whose home qualifies as the primary residence will be eligible for filing. A primary residence is commonly defined as a place where an individual lives for more than half of the year.
Determining the Size of the Credit
Once your eligibility for the Child and Dependent Care Credit has been affirmed, the next question you are probably asking yourself is, "So, how much money will I receive?" Generally speaking, the Child and Dependent Care Credit is equivalent to between 20 and 35 percent of the qualifying expense. The definitive percentage that you will be eligible for largely depends on your adjusted gross income.
That being said, there is an upper limit of $3,000 per qualifying person for the size of the credit, meaning that individuals should not expect staggering sums of money as part of this tax perk. So, if you have one child in preschool, you will be able to claim $3,000. If two or more children are enrolled in preschool, you will be eligible for a maximum of $6,000. This credit cannot exceed $6,000 as per 2019 IRS guidelines.
Using IRS Form 2441
Fortunately, the IRS has prepared Form 2441 which offers a detailed breakdown of the calculation process and will allow filers to better understand how their particular financial circumstances affected their eligibility for the credit.
A quick look at Form 2441 will reveal that filers seeking to claim this credit must provide a variety of applicable information, including relevant identifying information both for themselves and the qualifying dependent, as well as information regarding the total value of the dependent care expenses. Completing this form will provide the filer with the information they need to understand exactly how much money they should be prepared to receive in credits.
Credits are non-transferrable. This means that once they have been allocated for a tax year, the filer must choose to use them at that time or lose access to them entirely. Also, credits cannot be transferred to another individual, irrespective of their relationship to the filer. So, if IRS guidelines dictate that one parent must be the filer for the Child and Dependent Care Credit, they cannot collect these credits and then transfer them to their spouse.
Understanding a Credit Versus a Deduction
Although the terms credit and deduction are often used interchangeably, the truth is that each represents a distinctly unique tax concept which carries its own actions and implications. Calling the Child and Dependent Care Credit a "deduction" would actually be a mistake due to the fact that a credit affects your tax return in a fundamentally different way than a deduction.
Whereas a credit works to lower your overall tax bill once the tax has been computed, a deduction actually lowers your adjusted gross income by the amount included in the credit itself. This, in turn, may actually reduce your tax burden significantly due to the fact that it could place you in an entirely different tax bracket. With that in mind, consider the following example:
An individual whose adjusted gross income, or AGI, is $75,000 files for the Child and Dependent Care Credit for two eligible children. Both children are enrolled in a preschool that costs $7,000 per student. The adult filer discovers that they are eligible for the equivalent of 35 percent of their qualifying expenses in credits; this is equal to $4,900. (35 percent of the combined $14,000 in expenses is $4,900). When it comes time to file taxes, the adult filer can use their $6,000 credit to reduce their tax bill by this amount. In the event that this was a deduction rather than a credit, these funds would be used to lower the filer's AGI to $71,100 ($75,000 - $4,900).
Moving Ahead With Your Financial Planning
If you are interested in claiming the Child and Dependent Care Credit but still feel that you would like more information about eligibility and filing requirements, your best solution will be to consult with a financial advisor or tax expert. These individuals can offer you a pragmatic, no-nonsense assessment of your current eligibility for the credit. They may also be able to provide you with additional insight into other federal credits or deductions that could supplement the Child and Dependent Care Credit or even replace it entirely. For example, some individuals may not be aware that they are eligible to claim up to $2,000 as part of the Child Tax Credit simply because they have had a child.
Given the fact that there can be lofty penalties for incorrect filings on tax returns, it is in your best interest to ensure that you get this information correct the first time. With that in mind, investing in expert advice via a financial advisor may be the best possible short-term solution. The chances are good that the information you obtain from one of these experts will equip you to prepare your own tax returns for the foreseeable future.
As an additional point of reference, you may consider consulting directly with IRS resources on the topic at hand. In an effort to reduce the number of improper filings and general confusion, the IRS has included a massive array of information and helpful guides on their website which can be used by tax filers to prepare the most accurate returns possible. Especially for those who may be seeking the Child and Dependent Care Credit for the first time, a thorough review of available IRS documentation is strongly recommended.
Ryan Cockerham is a nationally recognized author specializing in all things business and finance. His work has served the business, nonprofit and political community. Ryan's work has been featured on PocketSense, Zacks Investment Research, SFGate Home Guides, Bloomberg, HuffPost and more.