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Reforming the Child and Dependent Care Tax Credit

Jeff Rohaly

Published: June 11, 2007
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Reforming the Child and Dependent Care Tax Credit

The nonpartisan Urban Institute publishes studies, reports, and books on timely topics worthy of public consideration. The views expressed are those of the authors and should not be attributed to the Urban Institute, its trustees, or its funders.

The text below is an excerpt from the complete document. Read the full report in PDF format.


Abstract

The child and dependent care tax credit (CDCTC) is a nonrefundable tax credit designed to help offset the expenses of providing care for children under the age of 13 or disabled dependents as long as a parent or caretaker is working or searching for work. In theory, a low-income family can qualify for a maximum $2,100 credit. The credit is not refundable, however, and families with low incomes generally owe little or no income tax. Thus, the theoretical maximum rarely applies in practice. This paper examines the revenue and distributional implications of making the CDCTC fully refundable.


Introduction

The child and dependent care tax credit (CDCTC) is a nonrefundable tax credit designed to help offset the expenses of providing care for children under the age of 13 or disabled dependents as long as a parent or caretaker is working or searching for work. One-earner couples are not eligible for the credit. Under current law, eligible expenses are limited to the lesser of $3,000 per child (up to a maximum of $6,000) or the earnings of the lesser-earning spouse. The maximum credit is reduced by any tax-free child-care benefits paid by an employer.

The credit rate applied to eligible expenses is 35 percent for taxpayers with adjusted gross income (AGI) less than $15,000, phasing down to 20 percent for those with AGI greater than $43,000. Thus, in theory, a low-income family could qualify for a maximum $2,100 credit (35 percent of $6,000). The credit is not refundable, however, and families with incomes under $15,000 generally owe little or no income tax. Thus, the theoretical maximum rarely applies in practice.

The expansions to the CDCTC enacted by the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) expire at the end of 2010. After that, the maximum eligible expenses revert to $2,400 per child (up to a maximum of $4,800) and the highest credit rate falls to 30 percent.

Finally, a temporary provision that allowed the use of the CDCTC against both regular tax and AMT liability regardless of tentative AMT expired at the end of 2006. Unless the provision is extended (or the AMT is reformed or repealed) many middle- and upper-middle-income households could lose some or all of the benefits of the CDCTC beginning in 2007.

(End of excerpt. The complete report is available in PDF format.)