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Ask Jane: What’s the best tax break for childcare expenses?

Jane Bryant Quinn
by Jane Bryant Quinn, Dimespring Contributor  (@janebryantquinn)

Most working parents have only one way of getting a tax break on the expenses they pay for childcare – the special tax credit allowed by law. You get a credit against expenses of up to $3,000 for the care of one child and $6,000 for the care of two children or more.

But if you work for a company with a flexible benefits plan, there’s a second choice. You can have up to $5,000 deducted from your salary and stashed in a flexible spending account. You can then use that money tax-free to help cover child-care costs.

You can’t claim both tax breaks against the same expenses. If you have the option – the tax credit or the flex spending account -- which should you use?

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In most cases, the flexible spending account will yield more tax savings than the government tax credit, says Mark Luscombe, principal federal tax analyst for CCH, a tax information firm. Childcare paid through a flex spending not only lowers your income tax, it also escapes the 7.65 percent tax the employees pay for Social Security and Medicare. The savings are even higher if you pay state income taxes, too.

For example, say you’re comfortably into the 15 percent federal bracket, with two children, and pay $5,000 in childcare expenses through your employee plan. You’d reduce your federal taxes by $1,133. In the 25 percent bracket, it saves you $1,633.   

By contrast, the government’s childcare credit might give you only $600 for one child or $1,200 for two.

What if you pay more than $5,000 for child care? You’re entitled to a tax break against $6,000 in expenses, if you have at least two children under 13. The solution: Use your flexible spending account against your first $5,000 and the IRS tax credit for the $1,000 that’s left. That’s worth at least another $200 on your tax return.

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People with the lowest earnings in the 10 percent tax bracket and perhaps at the very start of the 15 percent bracket – you might get more from the credit, Luscombe says. You have to check the numbers.

For the details about the childcare credit—who qualifies and how to figure it -- check my previous post.

By the way, you might also be able to claim a $1,000 tax credit for each of your children under 17, depending on your income. That’s in addition to childcare expenses for children under 13. The credit for children starts phasing out for married couples with adjusted incomes of $110,000 and single heads of household at $75,000.

Kids – don’t you love them at income-tax time?

 

Jane Bryant Quinn is a nationally known commentator on personal finance, with books and columns read and trusted by millions. In her long career, she has established herself as America’s most reliable voice for people trying to manage their money well. Read more of Jane's articles here