Every dollar counts, especially as the COVID pandemic continues to create economic uncertainty here in Maine and throughout the country. As tax season arrives, it can be helpful to learn about federal income tax credits that can significantly lower your tax obligations.
It’s important to note that tax credits aren’t the same as tax deductions. Credits usually provide greater tax savings, because a credit reduces your tax bill dollar for dollar. Deductions, meanwhile, only reduce the amount of income that’s subject to tax.
With that in mind, here are five major tax credits for Mainers to consider as they prepare to file their 2020 tax return.
1. Higher Education Credits
Tax law provides a choice between two tax credits for higher education expenses:
- American Opportunity Tax Credit (AOTC): A maximum annual credit of $2,500 per student for the first four years of study. It’s phased out based on your modified adjusted gross income (MAGI) — which for 2020 is between $80,000 and $90,000 for unmarried individuals and between $160,000 and $180,000 for married couples filing jointly.
- Lifetime Learning Credit (LLC): A maximum annual credit of $2,000 per tax return, regardless of the number of students. It has lower phase out ranges than the AOTC — between $59,001 and $69,000 of MAGI for unmarried individuals and between $118,001 and $138,000 for married couples filing jointly. However, unlike the AOTC, this credit isn’t limited to four years of study.
It’s important to note that you can’t apply both credits, even if you’re eligible for both. You have to choose just one. The threshold limits generally make the AOTC more favorable, but your situation may vary.
2. Child Credit
The Tax Cuts and Jobs Act (TCJA) doubled the tax credit from $1,000 to $2,000 for the tax years of 2018 through 2025. $1,400 of the child credit is currently refundable, up from a maximum of $1,000.
To qualify for this credit, the child must be:
- Under age 17 at the end of the applicable tax year
- Your own child, stepchild or a qualified foster child
- An individual who didn’t provide more than half of his or her own financial support during the tax year
- Your tax dependent as defined by prior law
- A U.S. citizen, a U.S. national or a U.S. resident alien
- An individual who lived with you for more than half of the applicable tax year.
In addition, for each qualifying dependent other than a qualifying child (such as a dependent child age 17 or older or a dependent elderly parent), a $500 “family” credit is available.
3. Dependent Care Credit
You can also claim a credit for the cost of caring for under-age-13 children and other qualifying dependents (such as an elderly relative who needs nursing care) while you (and your spouse, if you’re married) work.
The dependent care credit is 20% for taxpayers with an adjusted gross income (AGI) above $43,000 and available for the first $3,000 of qualified expenses for one dependent or $6,000 for two or more children. Qualified expenses can’t exceed your earned income (if you’re single) or the earned income of the lower-earning spouse. The credit can be applied for expenses paid to daycares, nursing care centers, certain in-home or outside caregivers and summer day camps (but not overnight camps).
4. Adoption Credit
For the 2020 tax year, there is a maximum credit of $14,300 for the qualified expenses incurred to adopt an eligible child. This credits covers reasonable and legal cost related to the adoption, including:
- Adoption agency fees
- Court costs
- Attorneys’ fees
- Travel costs, including meals and lodging
- Extra expenses needed to adopt a foreign child
5. Retirement Saver’s Credit
To encourage retirement saving, there is a nonrefundable credit that some taxpayers can apply to the first $2,000 voluntarily contributed to a qualified plan, such as a 401(k), a traditional IRA or a Roth IRA.
The credit may equal 10%, 20% or 50% of the qualified contribution, depending on the saver’s AGI. The income levels aren’t very high, and they’re adjusted annually for inflation. For example, an unmarried taxpayer can’t claim a credit if he or she has an AGI of more than $32,500 in 2020 ($65,000 for married couples filing jointly and $48,750 for head of household).
If you qualify, the maximum credit is $1,000 (50% of $2,000). Other special rules may apply. For instance, a taxpayer who was under age 18 last year or is a full-time student can’t claim the credit.
Ready, Set, File
This is just a sampling of some of the tax credits available. Of course, your unique situation will affect which ones you qualify for.