From experience, having children is more of a game-changer in your life than anything else. For this post, I’m just going to focus on the tax questions.
1. Should I rush out and change my withholding?
You or your spouse (not both) might be able to claim one more allowance. I would only change withholding if you know that you are withholding too much or too little – from a pro’s calculation, or from your tax refund. Often people have kids at a point in their lives that they have increases in income which may offset the tax benefits of children.
2. What does a dependent count as on your tax return?
In 2015, the exemption is $4k, so, your tax savings is $4k multiplied by your marginal (top) tax rate for federal and state. For most, that means a savings of about $1,000. HOWEVER – if your combined income is more than $300,000, the personal exemptions start to phase out.
3. Does my filing status change?
If you are married, no. If you are single, you now file Head of Household – which is much better. More on this in another post.
4. What about the child tax credit?
The child tax credit is separate from the exemption, and is worth $1k per child. It’s a credit, so you get this, dollar for dollar. However, the phaseout starts at $110k of adjusted gross income, and phases out quickly.
5. Can I write off expenses for my Nanny/preschool/sitter etc.?
Some, if both spouses are working, and need the care to work, go to school, or look for work. Your employer may have a $5000 pre-tax savings program for dependent care. Max this out first. You can claim a portion of the dependent care credit as well. More on this in the next post.
Lets return to our example of Tobias and Lindsay. After the birth of their daughter Mae, their $4k additional exemption will save them $1120 in taxes in the $28% bracket. Based on this, they could add one allowance. They will be ineligible for the child tax credit due to the income phaseout.
Children will increase the number of personal exemptions, make you eligible for the child tax credit, and potentially the dependent care credit. The personal exemptions and child tax credits do phase out though. Don’t change your withholding by much unless you are sure of the consequences.