You’ve decided to adopt a child. Congratulations! While it’s a joyful process, adopting a child can be both time consuming and expensive, and it’s a good idea to consider the tax ramifications as part of the planning process.
The U.S. tax code provides a few special provisions for adoptive parents. First, determine if your employer offers an adoption assistance program. An employer can offer as much as $13,400 in excluded income for expenses incurred. Remarkably, as of 2013, 52% of employers offer some assistance.1 Second, research the adoption tax credit, which is available for 2015 in a maximum amount of $13,400. To claim the entire credit, adjusted gross income must be below $201,000. While both benefits can be claimed if available, the employer adoption assistance program and the adoption tax credit can’t be used to offset the same expenses. The easiest way to understand this is through an example:
John and Shelly have $22,000 in adoption expenses. John’s employer offers $13,400 in financial assistance. Assuming their income is below the phase-out amount, they can exclude the entire employer benefit amount from their income and claim $8,600 for the adoption tax credit. ($22,000 expenses – $13,400 exclusion = $8,600 eligible expenses remaining).
- In what tax year do I claim the credit if I have expenses over multiple years?
- If adopting domestically, the tax credit is claimed the year following the expenses. (John and Sally spend $4,000 on legal fees in 2013. They take the credit on the 2014 form 1040). In the year the adoption is finalized, the credit is taken in the current tax year. (John and Sally finalize their adoption in 2015. Credits show on the 2015 return). If adopting internationally, the credit can only be taken after the adoption is finalized.
- What are eligible adoption expenses?
- Qualified adoption expenses include reasonable and necessary adoption fees, court costs and attorney fees, traveling expenses, and other expenses that are directly related to the legal adoption of an eligible child.
- What is an “eligible child?”
- An eligible child is any child under age 18, but may not be a stepchild. They can be over age 18 if they are physically or mentally unable to take care of themselves.
- How many times can I claim the credit?
- You can claim the credit once per child.
- What if my credit is more than my total tax?
- If the credit is more than the total income tax you paid for the year, you can carry-forward the unused portion for up to 5 years.
If your income is near the phase-out limit now or will be in the future, planning in advance can help you claim as much of the tax incentives as possible. Common ways to reduce your adjusted gross income include contributing more to your 401(k), deferring bonuses, contributing to an HSA or flex savings plan, and harvesting tax losses from your portfolio. It’s also important to note that if you are adopting and getting married in the same year, your marital status is based on December 31st of the calendar year. Make sure to plan ahead with your fiancé to see if your joint income will push you above the phase-out limits.
One last note: When filing for an adoption credit, you MUST file a paper return instead of filing electronically. You also must submit all documentation, as well. As with everything tax-related, make sure to keep good records to make proper filing easier.