If you're a foster parent, you’re well acquainted with the challenges you face when caring for a foster child. But you also know that the joy you receive from parenting can offset these challenges. Although your foster child may be uniquely set apart from your other children because of a different background and circumstance of life, he is not set apart for income-tax considerations. In fact, through the eyes of the IRS, your foster child is on equal footing with adopted children as well as your “birth” children when tax time rolls around.
The IRS doesn't offer a foster care tax credit that you can claim on your tax return that's earmarked specifically for a foster child. But as long as your foster child meets IRS “qualifying child” guidelines as your dependent, you can claim other credits and deductions that reduce the taxes that you owe.
Know the Qualifying Child Guidelines
To claim a qualifying child as your dependent for tax purposes, the IRS notes that the child does not have to be your child as long as the child is related to you. But there is one exception – foster children. As long as a foster child has a valid Social Security number and meets these same six tests as other children must meet, the foster child qualifies as a dependent:
- Relationship. A foster child must be placed in your care by an authorized placement agency or by court order. Authorized placement agencies include state and local government agencies, including Indian tribal governments, as well as tax-exempt organizations that are licensed by these government agencies.
- Age. A foster child must be younger than 19 on the last day of the year unless the child is a full-time student. Students must be younger than 24 years of age. You can claim a foster child as a dependent, regardless of age, if the child is permanently disabled at any time during the year. Your foster child cannot be older than you (and your spouse, if you file a joint return).
- Support. A foster child cannot provide more than half of his own financial support, which according to the IRS includes food, housing, clothing, transportation, medical expenses and recreation.
- Residency. A foster child must live with you for more than half the year. An exception is for temporary absences, such as when the child is away at school.
- Joint Return. A foster child who is married cannot file a joint return unless the couple files only to claim a refund of income tax.
- Exclusivity. A foster child may qualify for dependent status with more than one person, but only one person can legally claim the child as a dependent. If this is the case with your foster child, you must meet the guidelines of a test, which has what the IRS calls "tiebreaker rules,” before you can exclusively claim your foster child on your tax return.
Pass the Tiebreaker Test
If you are the only person who can claim your foster child as a qualifying dependent, then it's a "go” to claim tax benefits for the child. But you may need to take one extra step if your foster child qualifies as a dependent for anyone other than yourself –such as either (or both) of the child's birth parents. Another instance is if you and your spouse fostered a child together, but you're now separated or divorced from your spouse. Because the IRS views foster children the same as your birth children (from a tax standpoint), the same laws apply for claiming them as dependents, including foster children whose foster parents are separated, for example. The IRS establishes these tiebreaker rules to determine who can typically claim the qualifying child:
- The parents can claim the child if they file jointly.
- A parent can claim the child if one of the eligible persons is the child’s parent.
- If two eligible persons are both parents of the child, but they did not file a joint tax return, the parent with whom the child lived the longest during the year can claim the child.
- If both parents are eligible, but they did not file a joint tax return, and the child lived with each of them an equal amount of time, the parent with the highest adjusted gross income (AGI) can claim the child.
- If neither parent can claim the child, the person with the highest AGI can claim the child.
Calculate the Higher Tax Benefit
Once you and your foster child pass all the qualifying tests to meet the requirements for dependents, it’s time for you to claim your child tax credits. If you're married, filing jointly with your spouse may bring you the highest tax benefit. But you may want to calculate your tax liability both ways – married filing separately and married filing jointly – just to make sure which way is best for you.
Claim the Child Tax Credit
The Tax Cuts and Jobs Act (TCJA) of 2017 made some changes to the Child Tax Credit (CTC), beginning with the tax year 2018. For each qualifying foster child, you’ll be able to take up to $2,000 as a CTC benefit, depending on your income. You can receive up to $1,400 of this amount as a refundable credit, even if you don't have to file an income tax return. The $1,400 potential refund is not an additional child tax credit as prior years' laws allowed; it's now a part of the $2,000 CTC benefit.
To claim a refund, you must have "earned" income such as wages, salary or tips. "Unearned" income, such as dividends, retirement pay and Social Security benefits, won't qualify you for the CTC. Your potential refund is equal to 15 percent of your earned income that is greater than $2,500, up to the maximum credit of $2,000. To translate this into a real-world example, suppose you earn $10,000 and you qualify for the full CTC of $2,000. With such a low income, you probably won't owe income tax. If the CTC were a nonrefundable credit to lower your tax liability, you wouldn't actually benefit from it. But if you subtract $2,500 from your income, which is part of the requirement to receive the credit, and multiply the balance of $7,500 by 15 percent, the result of $1,125 is the refundable amount you can receive.
However, if you owed $5,000 in income tax on your unearned income of $50,000, you'd be able to claim the entire $2,000 as a nonrefundable tax credit. Instead of paying $5,000 in taxes, you'd owe only $3,000 after subtracting the $2,000 credit. The nonrefundable credit reduces your tax liability, but it doesn't refund any money to you.
The CTC is subject to phaseouts, which means that after you pass adjusted-gross-income income thresholds, the amount of CTC benefit you receive becomes less. If your filing status is married filing jointly, the phaseout begins with an income of more than $400,000. The phaseout amount for all other taxpayers begins with earned income of more than $200,000.
Although you can claim your qualifying foster child as a dependent as long as she is younger than 19 years of age (or 24 if a full-time college student), your child must be younger than 17 for you to claim the CTC.
Choose the Right Tax Form
To claim the CTC, you must use IRS Tax Forms 1040, 1040-A or 1040-NR. The reason you cannot use the shorter tax forms, such as 1040-EZ, is because they do not include the worksheets you'll have to complete for claiming your tax credit.
Add Another Tax Credit
The IRS offers another tax credit to help taxpayers – the Earned Income Tax Credit (EITC or EIC). Although this credit is also available to taxpayers who have no children, families with children are eligible for significantly higher credits than those without children. The IRS offers the EITC to lower-to-moderate-income taxpayers as a way to lower their tax liability and, in many cases, receive a refund. Even if you don't owe any taxes and you're not otherwise required to file a tax return, you'll have to file one to receive a refundable EITC.
As the name hints, your earned income qualifies you for the EITC, not your unearned income. (An exception is investment income, which cannot exceed $3,500 for the tax year.) Your filing status, income and the number of qualifying children you have determine the credit you can take. If you're married, you must file a joint return with your spouse to claim the EITC; married couples filing separate returns are not eligible for this credit. Filing statuses with corresponding income limits for the EITC are:
- Single, Head of Household or Widowed. Each amount of your earned income and your adjusted gross income (AGI) must be less than $40,320 if claiming one child, $45,802 if claiming two children and $49,194 if claiming three or more children.
- Married Filing Jointly. Each of your earned income and your AGI amounts must be less than $46,010 if claiming one child, $51,492 if claiming two children and $54,884 if claiming three or more children.
The maximum amounts you can receive for the EITC benefit are:
- $3,461 for one qualifying child (this is a stark contrast to the much-lower $519 credit for taxpayers claiming zero children).
- $5,716 for two qualifying children.
- $6,431 for three or more qualifying children.
Even if you file your income tax return early in January, the IRS cannot release your EITC refund until mid-February.
Is Foster Care Income Taxable?
You may be concerned that you’ll get dinged by income taxes even after taking advantage of allowable tax credits because of the foster-care payments you receive. The good news is that the IRS doesn't typically consider the money you receive for the care of your foster child as taxable income. If you receive compensation to care for your child from a qualified foster-care provider, you do not have to include this amount in your gross income.
Consult a Tax Professional
Just when you thought you understood how to claim these tax credits, the rules changed with the new TCJA tax reform bill in 2017. In an effort to address all family situations, marital statuses and income types, the IRS must provide a detailed laundry list of eligibility requirements for each tax credit. And although it would be easier to follow a simple step-by-step flow chart to determine your tax credit amounts, some of the steps end up veering off course because of some not-so-simple family situations.
If understanding IRS laws concerning these tax credits that apply to your foster child seem a bit daunting, you're not alone. The details of these laws are so precise that even tax professionals are required to go the extra mile when calculating your CTC or EITC. They must submit IRS Form 8867 (Paid Preparer's Due Diligence Checklist) with your tax return to ensure they've asked the right questions to determine your eligibility and credit amount. Tax professionals are also held accountable for their work on this form – to the tune of a $510 penalty for their non-compliance. They are charged with knowing the tax laws and submitting all required forms and worksheets to show the IRS how they computed your tax credits.
So if you get lost in the details of trying to claim the available tax credits for your foster child, you may find relief by consulting a professional who can help you navigate the tax-return waters.
- efile.com: How to Claim a Qualifying Child as a Dependent for Tax Deductions
- IRS: Qualifying Child Rules
- IRS: FAQs, Dependents & Exemptions
- IRS: Qualifying Child of More Than One Person
- Forbes: IRS Announces 2018 Tax Rates, Standard Deductions, Exemption Amounts and More
- H&R Block: The New Child Tax Credit
- Forbes: What the Expanded Child Tax Credit Looks Like After Tax Reform
- IRS: 2018 EITC Income Limits, Maximum Credit Amounts and Tax Law Updates
- IRS: Earned Income Tax Credit (EITC)
- IRS: Bulletin 2014-4
- IRS: Refundable Credit Due Diligence Law