So isn’t it a no-brainer to take the money? Actually, not exactly. Depending on how likely your circumstances are to change, you may be better off turning the monthly payments down in favor of the lump sum next tax season. “In the tax system, we evaluate people’s conditions every year. We don’t evaluate them every month,” said Elaine Maag, principal research associate at the Urban-Brookings Tax Policy Center. Someone who “might want to opt out is a middle-income person who isn’t certain whether they’re going to qualify for the benefit, or is not sure if their child is going to be living with them for the majority of the year, or with someone else.” Here’s why and what you should consider, according to Maag.
2021 Differences
First, here’s how the tax credit is different this year. A provision of the American Rescue Plan pandemic relief bill, the child tax credit was significantly increased and overhauled for 2021. Not only is the maximum credit much bigger than the $2,000 for 2020 (up to $3,600 per child under 6 and $3,000 for those 6 to 17 for those under certain income limits,) but half of the funds will be given as an advance, ahead of the filing season for 2021 tax returns. Except for those who opt out, the IRS said 39 million households with 65 million children will automatically receive monthly installments of up to $250 or $300 per child starting on July 15, either via direct deposit, check, or debit card. So why would you want to turn down money in the bank? In general, isn’t it better to have money sooner rather than later because if it’s not needed right away, you can invest it and gain more value from it? Often, yes, but not always.
Changes in Circumstances
One big reason to delay the payments is that if it turns out you’ve received more money than you should have, you would have to pay some or all of it back to the IRS when you file your 2021 taxes next year. The IRS will base the amount of the monthly payments on tax returns from 2020 (or 2019, if there is no 2020 filing yet,) so they are actually estimates for 2021 made well before the year is over. The payments—which will last from July to December—will add up to half the total amount of the credit, with the rest coming as a “lump sum” credit to be claimed next year at tax time (like it usually does). But a lot can change in a year, including whether you are eligible for the credit, and how much you should get. First, there’s your income. The cutoff for the full credit is $75,000 or less for individuals (or $150,000 for married couples filing jointly) and $112,500 for heads of household. For people making more than that, the credit amount decreases on a scale, eventually phasing out entirely. (The phaseouts are complicated, but for example, a head of household with a 2-year-old would not get any credit if they made $240,000 or more.) That means if you’re earning more in 2021 than you did last year, the government might be sending you more money than it should. Another factor that could affect eligibility is custody. As a general rule, tax law is all-or-nothing: The parent who has primary custody of the child gets to claim all the tax benefits that go along with parenthood, and the new child tax credit is no exception, Maag said. “We don’t allow people generally to split benefits, and we never allow more than one person to get the child tax credit in a given tax year,” she said. That means that while the IRS could automatically send payments to one parent based on 2020 tax returns, if that parent turns out not to have custody in 2021, they would have to send back some or all of the money they received. If you’re in that situation, exactly how much you would have to repay depends on your income: For those making $40,000 or less, and couples making $60,000 or less, there is a “safe harbor” that allows them to keep $2,000 per child that was sent by mistake—an amount that would more than cover the maximum of $1,800 per child that might be received as an advance credit this year. That amount decreases for people who make more, dropping to nothing for individuals who make $80,000 and couples earning $120,000. (And the safe harbor only covers changes in the number of eligible children, not changes in income, so if your income rises, you might end up having to paying the advance back.) If this seems confusing and unfair for parents who split custody, Maag agrees. If the child tax credit behaved more like other benefit programs, such as SNAP food benefits, the payments would go to whichever parent had custody at any given time—a more fair and sensible system, she said. “In my mind, it is critical that we develop benefits that meet people’s needs,” she said. “And we know that families are changing throughout the year and we know that children are moving between multiple caregivers and I would really like to see us figure out how to deliver the child tax credit to multiple people who are caring for a child.”
Year-End Bonanza
Other taxpayers might want to decline the advance portion of the tax credit simply because they prefer to get a bigger tax refund all at once at the end of the year, Maag said. “There are people who use their tax refunds as a financial planning tool,” Maag said. “They may frankly be excited that they will receive even more money with the increased child tax credit.”
Meticulous Highfliers
Yet another group that may prefer not to get the advance credit are higher-income taxpayers who have meticulously planned out their income tax withholding in advance, including calculations for capital gains, and don’t want to upset their carefully laid plans, Maag said. Taxpayers in that situation (which includes Maag herself) may have already adjusted their withholding to account for the child tax credit and might end up having to pay back the advance portion at tax time if they get it early. “They just might not want anything to change about their taxes,” she said. “They worked hard to get their tax refund to look how they want it to look.”
