For years, all taxpayers have had to look forward to from the Internal Revenue Service was their annual tax refund. Then, along came COVID and suddenly 2020 offered Economic Impact Payments, one in 2020 and the next in calendar year 2021 but related to the 2020 tax return. The year 2021 has further expanded the trend, with a third round of EIPs, which might even be divided into two parts, one based on the 2019 tax return and a possible second payment based on the 2020 tax return. The year 2021 has also brought IRS payments for refunds of taxed unemployment compensation for 2020 tax returns filed before the unemployment compensation exclusion was enacted. And now, starting on July 15, 2021, 2021 has also brought monthly advance payments of the Child Tax Credit. Currently the advance payments are for 2021 only; however, the Biden administration has proposed extending them through at least 2025 and some Democrats in Congress hope to make it permanent.
Yet, like anything involving taxes, it gets complicated. The advance payments come with an opt-out provision, and many tax pros are advising their clients to seriously consider opting out. Just like many tax authorities advise that getting a big tax refund is not a good idea, getting the advance payment of the CTC may do more harm than good in some cases.
1. The credit
The Tax Cuts & Jobs Act enacted at the end of 2017 increased the size of the Child Tax Credit and expanded the scope of those eligible. It increased the amount of the credit from $1,000 per child under age 17 to up to $2,000 per child. It also increased the start of the phaseout range to $200,000 for single and head of household filers and $400,000 for married filing jointly from $75,000 for single and head of household filers and $110,000 for joint filers. Up to $1,400 of the credit could be refundable. Those changes took effect in 2018 and are scheduled to expire after 2025.
The American Rescue Plan Act, enacted in early 2021, has made even further expansions in the credit, but for 2021 only. The credit amount is increased to $3,000 for children age 6 through 17 and $3,600 for children under age 6, expanding the age range to include 17-year-olds. The phaseout range, only for the additional amount of the credit, starts at lower thresholds than the thresholds for the TCJA credit amount: $75,000 for single filers, $112,500 for head of household filers, and $150,000 for married filing jointly. The higher phaseout thresholds for the first $2,000 are preserved from the TCJA. The American Rescue Plan Act also makes the credit fully refundable.
2. The advance payment
The most unique feature, however, of the CTC under the American Rescue Plan Act is that it includes an advance payment of the credit of up to $300 per month for children under age 6 and $250 per month for children age 6 through 17, starting July 15, 2021, and ending Dec. 15, 2021. Unlike the Economic Impact Payments, which taxpayers could keep if it turned out they were entitled to a lesser amount when the Recovery Rebate Credit was calculated on their tax return, if too much advance payment has been received when the CTC is calculated on the 2021 tax return, in general that excess amount must be repaid. There is a safe harbor for the excess payment for certain taxpayers whose adjusted gross income does not exceed 200 percent of the applicable income threshold ($60,000 for married filing jointly), with what is considered an excess payment reduced by up to $2,000 per child. These complications create situations in which it may be advisable for some taxpayers to opt out of receiving the advance payments.
The IRS will base the advance payments on the information in the 2020 tax return if the 2020 return is available to the IRS when the advance payments are processed. Otherwise, the IRS will use information from the 2019 tax return. The IRS is directed under the statute to project the ages of the children into 2021 to determine eligibility for the CTC in 2021 in determining eligibility for the advance payments, but it is not clear at this point whether the IRS systems are sophisticated enough to make those adjustments. With the use of prior-year tax return information for the advance payments, the possibility is created that the advance payments could end up being larger than the amount of the CTC to which the taxpayer is entitled on the 2021 tax return.
3. The IRS portal
Similar to the portals it developed with respect to the Economic Impact Payments, the IRS is in the process of developing portals to help address these issues with respect to advance payments of the CTC. As of this writing, the service has developed a Child Tax Credit Eligibility Assistant to help taxpayers and their tax advisors determine if the taxpayer is ultimately eligible for the CTC in 2021. Also similar to the tool used with respect to the EIPs, the IRS has developed a nonfiler tool for taxpayers to utilize to apply for an advance payment even if they have not been required to file a 2019 or 2020 tax return. The IRS will also utilize a nonfiler tool utilized by the taxpayer for EIPs to make a determination of eligibility for the advance CTC payments. The IRS portal may also be utilized to update bank account information for direct deposit of the advance payments. If the IRS does not have bank account information, it plans to send the advance payments by check.
The IRS portal can also be used to unenroll from the advance payments. The deadline has already passed for unenrolling from the July 15, 2021, initial advance payment. The deadline to unenroll from the Aug. 13 payment is Aug. 2, 2021. It is also possible to unenroll later to avoid subsequent advance payments.
As of this writing, the IRS also expects to further develop the portal so that a taxpayer can check on the status of their advance payment or provide additional information, such as informing the IRS of the birth of an additional child in 2021.
The IRS also intends to back up the advance payments with letters to taxpayers confirming their eligibility for the advance payments, the amount of those payments, and the date that the payments will commence.
4. Opting out
There are several reasons that a taxpayer might want to consider opting out of the advance payments, primarily related to the fact that the advance payments must be repaid if they exceed the CTC to which the taxpayer is ultimately entitled on the 2021 tax return (again, taking into account those low-income exceptions).
With many people having reduced income in 2020 due to COVID, it is possible that many taxpayers would be entitled to the advance payments based on their 2020 income while they would not be entitled to the full CTC on their 2021 tax return if their income has returned to normal levels.
With the Economic Impact Payments, it was possible both for one parent to be entitled to the EIP for a child based on an earlier tax return and for another parent to be entitled to the Recovery Rebate Credit for the same child for the current-year tax return. For the CTC, however, if someone else can claim the credit for the child on the 2021 tax return, the recipient of the advance payments for that child will have to repay that sum.
There can also be a loss of entitlement to the advance payments if the taxpayer receiving those payments has a primary residence outside of the U.S.
Taxpayers should consult with their tax advisors about the wisdom of accepting the advance payments in their particular fact situation. For many taxpayers, however, the Biden administration is predicting that the advance payments will help lift a significant percentage of children in the U.S. out of poverty.
