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Adoption Tax Credit Two tax benefits are available to offset the expenses of adopting a child. For 2005, adoptive parents may be able to claim a credit against their federal tax for up to $10,630 of "qualified adoption expenses" (see below) for each adopted child. That's a dollar-for-dollar reduction of tax—the equivalent, for someone in the 25% marginal tax bracket, of a deduction of over $42,000. Also, adoptive parents may be able to exclude from their gross income up to $10,630 of qualified adoption expenses paid by an employer under an adoption assistance program. The credit is nonrefundable and both the credit and the exclusion are reduced (phased out) if the parents' income exceeds certain limits (see discussion below).
Adoptive parents may claim both a credit and an exclusion for expenses of adopting a child. But they may not claim both a credit and an exclusion for the same expense. Qualified adoption expenses. To qualify for the credit or the exclusion, the expenses must be "qualified adoption expenses." These are the reasonable and necessary adoption fees, court costs, attorney fees, traveling expenses (including amounts spent for meals and lodging) while away from home, and other expenses directly related to the legal adoption of an "eligible child" (defined below). Qualified adoption expenses don't include expenses connected with the adoption of a child of a taxpayer's spouse, expenses of carrying out a surrogate parenting arrangement, expenses that violate state or federal law, or expenses paid using funds received from a federal, state, or local program. Expenses that are reimbursed by an employer don't qualify for the credit, but benefits provided by an employer under an adoption assistance program may qualify for the exclusion. Expenses in connection with an unsuccessful attempt to adopt an eligible child before successfully finalizing the adoption of another child can qualify. Expenses connected with a foreign adoption (i.e., one in which the child isn't a U.S. citizen or resident) can only qualify if the child is actually adopted. Taxpayers who adopt a child with special needs will be deemed to have qualified adoption expenses in the tax year in which the adoption becomes final in an amount sufficient to bring their total aggregate expenses for the adoption up to $10,630 in 2005. They can take the adoption credit or exclude employer-provided adoption assistance up to that amount, whether or not they had $10,630 of actual expenses. Eligible child. An "eligible child" is a child under the age of 18 at the time the qualified adoption expense is paid. If the child turned 18 during the year, the child is an eligible child for the part of the year he or she is under age 18. A person who is physically or mentally incapable of caring for himself is also eligible, regardless of age. Special needs child. This refers to a child who the state has determined cannot or should not be returned to his parents and who can't be reasonably placed with adoptive parents without assistance because of a specific factor or condition, e.g., ethnic background, age, membership in a minority group, medical condition, or handicap. Only a child who is a citizen or resident of the U.S. can qualify as having special needs. When to claim the credit or take the exclusion. If the qualifying expenses are paid before the year the adoption becomes final, the credit is claimed for the year after the one in which the expenses are paid. If the expenses are paid in the year the adoption becomes final or in a later year, the credit is claimed for the year in which the expenses are paid. For example, say $3,000 was paid in 2003, $2,000 in 2004, and $4,000 in 2005, when the adoption becomes final. The taxpayer claims a $3,000 credit in 2004 (for the 2003 expenses). The $2,000 of 2004 expenses and the $4,000 of 2005 expenses are combined to be claimed in 2005. Adoption credit is nonrefundable. The adoption credit is a nonrefundable credit. The amount of the credit can't exceed the sum of your regular and alternative minimum tax, reduced by the sum of your other nonrefundable credits. Thus, while the credit can reduce your tax, it won't cause you to get a refund check. Phase-out for high-income taxpayers. The credit allowable for any year is phased out for taxpayers with adjusted gross income (AGI) over $159,450 and is eliminated when AGI reaches $199,450. The credit is reduced by a percentage equal to the excess of AGI over $159,450 divided by $40,000. For example, say taxpayers who could otherwise claim a $2,000 credit have an AGI of $169,450. Their $169,450 AGI minus $159,450 equals $10,000, and $10,000 divided by $40,000 is 25%. Accordingly, the taxpayers "lose" 25% of their credit ($2,000 times 25% is $500) and can only claim a credit of $1,500. (Special rules for determining AGI apply in some cases.) The phase-out rules for high-AGI taxpayers apply for the exclusion as well. How to claim the credit or take the exclusion for qualified adoption expenses. Adoptive parents who paid qualified adoption expenses or who received employer-provided adoption benefits must use Form 8839 to compute the amount of the credit and the amount of benefits that may be excluded from their gross income. Child's taxpayer identification number required for credit or exclusion. IRS can disallow the credit and the exclusion if a valid taxpayer identification number (TIN) for the child is not included on the return. Taxpayers can get what is in effect a temporary identification number for a child they are in the process of adopting. This form of TIN, called an adoption taxpayer identification number (ATIN), enables the adoptive parents to claim the credit and exclusion for qualified adoption expenses. Form W-7A is used to get an ATIN. When the adoption becomes final, the adoptive parents must apply for a social security number for the child and, once obtained, the social security number, rather than the ATIN, must be used. Adopted child may qualify for dependency deduction, other tax benefits. Your legally adopted child will qualify as your dependent if the other dependency tests are met, e.g., you provide more than half of the child's support. Even if the adoption isn't yet final, the child will be your dependent is if he or she was placed with you for legal adoption by an authorized placement agency and was a member of your household for at least part of the year. Special requirements apply to adoptions of foreign children who aren't U.S. citizens or residents. Once child is your dependent, you will qualify for the dependency deduction and for other tax benefits, such as the child tax credit. Employer-provided adoption benefits are excludable from the employee's gross income for the year in which the employer pays the qualified adoption expense. In the case of a foreign adoption, neither the credit nor the exclusion may be taken until the year in which the adoption becomes final. Adoption Expenses(a) Allowance of credit. (1) In general. In the case of an individual, there shall be allowed as a credit agains the tax imposed by this chapter the amount of the qualified adoption expense paid or incurred by teh taxpayer. (2) Year credit allowed. The credit under pargraph (1) with respect to any expense shall be allowed -- (A) in the case of any expense paid or incurred before the taxable year in which such adoption becomes final, for the taxable year following the taxable year during which such expense is paid or incurred, and (B) in the case of an expense paid or incurred during or after the taxable year in which such adoption becomes final, for the taxable year in which such expense is paid or incurred. (3) $10,000 credit for adoption of child with special needs regardless of expenses. In the case of an adoption of a child with special needs which becomes final during a taxable year, the taxpayer shall be treated as having paid during such year qualified adoption expenses with respect to such adoption in an amount equal to the excess (if any) of $10,000 over the aggregate qualified adoption expenses actually paid or incurred by the taxpayer with respect to such adoption during such taxable year and all prior taxable years. (b) Limitations. (1) Dollar limitation. The aggregate amount of qualified adoption expenses which may be taken into account under subsection (a) for all taxable years with respect to the adoption of a child by the taxpayer shall not exceed $10,000. (2) Income limitation. (A) In general. The amount allowable as a credit under subsection (a) for any taxable year (determined without regard to subsection (c) ) shall be reduced (but not below zero) by an amount which bears the same ratio to the amount so allowable (determined without regard to this paragraph but with regard to paragraph (1) ) as— (i) the amount (if any) by which the taxpayer's adjusted gross income exceeds $150,000, bears to (ii) $40,000. (B) Determination of adjusted gross income. For purposes of subparagraph (A) , adjusted gross income shall be determined without regard to sections 911 , 931 , and 933 . (3) Denial of double benefit. (A) In general. No credit shall be allowed under subsection (a) for any expense for which a deduction or credit is allowed under any other provision of this chapter. (B) Grants. No credit shall be allowed under subsection (a) for any expense to the extent that funds for such expense are received under any Federal, State, or local program. Caution: Para. (b)(4), following, is not effective for tax. yrs. begin. during 2002, 2003, 2004, or 2005 as provided by Sec. 601(b)(2) of P.L. 107-147 and Sec. 312(b)(2) of P.L. 108-311. For sunset provisions, see Sec. 901 of P.L. 107-16 reproduced in the history of this Code Sec. (4) Limitation based on amount of tax. The credit allowed under subsection (a) for any taxable year shall not exceed the excess of -- (A) the sum of the regular tax liability (as defined in section 26(b) ) plus the tax imposed by section 55 , over (B) the sum of the credits allowable under this subpart (other than this section ) and section 27 for the taxable year. Caution: Subsec. (c), following, does not reflect amendments made by Secs. 201(b)(2)(E), 202(f)(2)(A)(i) and 202(f)(2)(A)(ii) of P.L. 107-16. These amendments are not effective for tax. yrs. begin. during 2002, 2003, 2004, or 2005 as provided by Sec. 601(b)(2) of P.L. 107-147 and Sec. 312(b)(2) of P.L. 108-311. For subsec. (c), which does reflect such amendments, see below. For sunset provisions, see Sec. 901 of P.L. 107-16, reproduced in the history of this Code Sec. (c) Carryforwards of unused credit. If the credit allowable under subsection (a) for any taxable year exceeds the limitation imposed by section 26(a) for such taxable year reduced by the sum of the credits allowable under this subpart (other than this section and section 1400C), such excess shall be carried to the succeeding taxable year and added to the credit allowable under subsection (a) for such taxable year. No credit may be carried forward under this subsection to any taxable year following the fifth taxable year after the taxable year in which the credit arose. For purposes of the preceding sentence, credits shall be treated as used on a first-in first-out basis. Caution: Subsec. (c), following, reflects amendments made by Secs. 201(b)(2)(E), 202(f)(2)(A)(i) and 202(f)(2)(A)(ii) of P.L. 107-16. These amendments are not effective for tax. yrs. begin. during 2002, 2003, 2004, or 2005 as provided by Sec. 601(b)(2) of P.L. 107-147 and Sec. 312(b)(2) of P.L. 108-311. For subsec. (c), which does not reflect such amendments, see above. For sunset provisions, see Sec. 901 of P.L. 107-16, reproduced in the history of this Code Sec. Note: Sec. 1335(b)(1), P.L. 109-58, substituted "this section, section 25D, and section 1400C" for "this section and section 1400C" in subsec. (c), below, generally effective for property placed in service after 12/31/2005, in tax. yrs. end. after 12/31/2005. This amendment cannot be applied to subsec. (c) as in effect on 1/1/2006. * (c) Carryforwards of unused credit. If the credit allowable under subsection (a) for any taxable year exceeds the limitation imposed by subsection (b)(4) for such taxable year, such excess shall be carried to the succeeding taxable year and added to the credit allowable under subsection (a) for such taxable year. No credit may be carried forward under this subsection to any taxable year following the fifth taxable year after the taxable year in which the credit arose. For purposes of the preceding sentence, credits shall be treated as used on a first-in first-out basis. (d) Definitions. For purposes of this section —
(1) Qualified adoption expenses. The term "qualified adoption expenses" means reasonable and necessary adoption fees, court costs, attorney fees, and other expenses—
(A) which are directly related to, and the principal purpose of which is for, the legal adoption of an eligible child by the taxpayer, (B) which are not incurred in violation of State or Federal law or in carrying out any surrogate parenting arrangement, (C) which are not expenses in connection with the adoption by an individual of a child who is the child of such individual's spouse, and (D) which are not reimbursed under an employer program or otherwise. (2) Eligible child. The term "eligible child" means any individual who—
(A) has not attained age 18, or (B) is physically or mentally incapable of caring for himself. (3) Child with special needs. The term "child with special needs" means any child if— (A) a State has determined that the child cannot or should not be returned to the home of his parents, (B) such State has determined that there exists with respect to the child a specific factor or condition (such as his ethnic background, age, or membership in a minority or sibling group, or the presence of factors such as medical conditions or physical, mental, or emotional handicaps) because of which it is reasonable to conclude that such child cannot be placed with adoptive parents without providing adoption assistance, and (C) such child is a citizen or resident of the United States (as defined in section 217(h)(3) ). (e) Special rules for foreign adoptions. In the case of an adoption of a child who is not a citizen or resident of the United States (as defined in section 217(h)(3) )— (1) subsection (a) shall not apply to any qualified adoption expense with respect to such adoption unless such adoption becomes final, and (2) any such expense which is paid or incurred before the taxable year in which such adoption becomes final shall be taken into account under this section as if such expense were paid or incurred during such year. (f) Filing requirements. (1) Married couples must file joint returns. Rules similar to the rules of paragraphs (2) , (3) , and (4) of section 21(e) shall apply for purposes of this section . (2) Taxpayer must include TIN. (A) In general. No credit shall be allowed under this section with respect to any eligible child unless the taxpayer includes (if known) the name, age, and TIN of such child on the return of tax for the taxable year. (B) Other methods. The Secretary may, in lieu of the information referred to in subparagraph (A) , require other information meeting the purposes of subparagraph (A) , including identification of an agent assisting with the adoption. (g) Basis adjustments. For purposes of this subtitle, if a credit is allowed under this section for any expenditure with respect to any property, the increase in the basis of such property which would (but for this subsection) result from such expenditure shall be reduced by the amount of the credit so allowed.
(h) Adjustments for inflation. In the case of a taxable year beginning after December 31, 2002, each of the dollar amounts in subsection (a)(3) and paragraphs (1) and (2)(A)(i) of subsection (b) shall be increased by an amount equal to—
(1) such dollar amount, multiplied by
(2) the cost-of-living adjustment determined under section 1(f)(3) for the calendar year in which the taxable year begins, determined by substituting "calendar year 2001" for "calendar year 1992" in subparagraph (B) thereof. If any amount as increased under the preceding sentence is not a multiple of $10, such amount shall be rounded to the nearest multiple of $10. (i) Regulations. The Secretary shall prescribe such regulations as may be appropriate to carry out this section and section 137 , including regulations which treat unmarried individuals who pay or incur qualified adoption expenses with respect to the same child as 1 taxpayer for purposes of applying the dollar amounts in subsections (a)(3) and (b)(1) of this section and in section 137(b)(1) .
Adoption Expense Credit—Form 8839An individual may claim an income tax credit (use Form 8839 with Form 1040 or Form 1040A ) for qualified adoption expenses. (Code Sec. 23(a)(1)) The total amount that may be taken as a credit for all tax years for the adoption of a child is $10,630 for 2005 ($10,960 for 2006), whether or not the child has special needs. The credit for the adoption of a special-needs child is $10,630 for 2005 ($10,960 for 2006) regardless of whether the taxpayer has qualified adoption expenses, reduced by aggregate adoption expenses for the tax year the adoption becomes final and all earlier tax years. (Code Sec. 23(a)(2) and Code Sec. 23(a)(3)) The credit begins to phase out if the taxpayer's adjusted gross income (as modified in a special way) exceeds $159,450 for 2005 ($164,410 for 2006), and is fully eliminated when it reaches $199,450 for 2005 ($204,410 for 2006) of modified AGI. (Code Sec. 23(b)(2)) If the credit exceeds the Code Sec. 26(a) limitation (¶ 2370), reduced by the sum of other personal nonrefundable credits, other than this credit, the residential energy efficient property credit, and the D.C. first-time homebuyer credit, the excess credit can be carried to the next tax year. For tax years beginning after 2005, if the adoption expense credit for any tax year exceeds the Code Sec. 23(b)(4) limitation, the excess credit can be carried to the next year. (Code Sec. 23(c)) The Code Sec. 23(b)(4) limit is the sum of the regular tax liability (¶ 2370), plus the AMT liability, over the sum of the nonrefundable personal credits, other than the adoption credit, allowable under Code Sec. 21 through Code Sec. 26, plus the foreign tax credit for the tax year. To get the credit, married individuals must file jointly and the taxpayer must include (if known) the name, age and taxpayer identification number (TIN) of the child on the return. (Code Sec. 23(f)) The credit for an expense paid or incurred before the tax year in which the adoption becomes final is allowed for the tax year following the tax year during which it is paid or incurred. For an expense paid or incurred during or after the tax year in which the adoption becomes final the credit is allowed for the tax year in which it's paid or incurred. The credit for a foreign adoption isn't available unless the adoption becomes final. Expenses paid or incurred in the year the foreign adoption is finalized or in an earlier year are allowed in the year the adoption is final; and expenses after the year the foreign adoption becomes final are taken into account when paid or incurred. (Code Sec. 23(e)) In some cases, taxpayers may treat adoptions as final where the competent authority enters a decree of adoption or a home state enters a decree of re-adoption. FTC ¶ A-4402; USTR ¶ 234; Tax Desk ¶ 569,502 A taxpayer can't claim a credit for any employer-reimbursed adoption expense (¶ 1260). Qualified adoption expenses are reasonable and necessary adoption fees, court costs, attorney fees, and other expenses that are directly related to and the principal purpose of which is the taxpayer's legal adoption of an eligible child. (Code Sec. 23(d)(1)(A)) FTC ¶ A-4400 et seq.; USTR ¶ 234 ; Tax Desk ¶ 569,501 et seq. For more information on the Adoption Tax Credit go to www.irs.gov The information on this page is for general information only and does not replace the advice and/or opinion of a qualified tax practitioner. Information provided by: Saltzman Hamma Nelson Massaro, LLP www.shnm.com
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