Money Guide for Self-Employed Parents

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Money Guide for Self-Employed Parents

If you are self-employed and a parent, you are eligible for a range of special tax breaks and perks. The majority of the advantages come from tax deductions and credits. Health care, childcare, and education are all deductible costs. You may also be eligible for additional advantages as a parent. Keeping this in mind, the following costs may reduce your yearly tax obligation.

Key Takeaways

  • Most daycare expenditures may result in yearly tax deductions of up to $3,000 per eligible kid.
  • Most healthcare costs that exceed 7.5% of a family’s adjusted gross income may be deducted (AGI).
  • Some school expenditures may be deducted retrospectively for past tax years, beginning in 2018.
  • Self-employed parents may hire their children and give them a minimal tax-free remuneration.

Tax Considerations for Self-Employed Parents

Child Tax Credit and Other Dependent Credit

With an estimated 16 million self-employed employees in the United States, these deductions have the potential to affect millions of families. Check to see which ones apply to you.

A child tax credit of $2,000 is available for each kid under the age of 17 and $500 for children 17 and older or additional dependents. To be eligible for the entire credit, your modified adjusted gross income (MAGI) must have been $200,000 or less if you file separately, or $400,000 if you file jointly.

The Child Tax Credit has been increased to $3,000 for children aged six to sixteen and $3,600 for children under the age of six for the 2021 tax year. Beginning in July 2021, the credit was paid in monthly advance instalments. Because this updated credit was not extended beyond 2022, the tax credit reverts to the 2020 level—$2,000 for children under the age of 17 and only partly refundable—for 2022 through 2025.

Childcare Benefits

With tax breaks, paying for a child’s daycare, babysitter, or even summer camp may be much less expensive. A kid who is a qualifying tax dependent who is 13 or younger, as well as a handicapped dependant of any age, qualify parents for a tax credit that may reduce their federal income tax liability.

  • A single kid may receive up to 35% of eligible child care expenditures (up to $3,000).
  • Up to $6,000 is available for numerous children or dependents.

This tax credit is designed for both working and self-employed parents and guardians who have a regular source of income. Individuals and couples who have been jobless for a period of time throughout the year may also apply. All of the following requirements must be satisfied in order to qualify:

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  • You must have earned money during the previous tax year (both your spouse and you if you are filing together).
  • You must be the custodial parent or carer of the kid (or dependent).
  • You must either work and make a living or actively seek employment.
  • Your kid or dependant must be under the age of 13 unless they are physically or mentally disabled and unable to care for themselves.
  • The daycare provider(s) must neither be your dependant or spouse, nor the child’s parent.

The IRS examines a wide range of childcare-related costs, including but not limited to daycare and babysitters. The following are the entire list of possibly acceptable expenses:

  • Licensed childcare center or babysitter
  • A maid, housekeeper, or chef who is responsible for a kid or dependant.
  • Summer camps, day camps, and even sports camps may be eligible if they provide care for the kid or dependant while the parents are at work. Overnight camps are not covered and are not eligible.
  • Before and after school care for children under the age of 13
  • Nurses and other caregivers for handicapped children and dependents

Medical Expenses

Since January 1, 2020, any eligible health costs, including premiums, that exceed 7.5% of your AGI are tax-deductible. This only pertains to unreimbursed medical expenditures and does not include cosmetic procedures.

The following are qualified health costs that apply to children and their parents:

  • Detecting, diagnosing, and treating mental or physical illnesses
  • Surgery and bodily alteration for medical reasons only (and not cosmetic)
  • Transportation to a hospital facility
  • Health insurance premiums
  • Prescribed medication

The IRS changed its prior judgment, lowering the minimum AGI for medical cost deductions from 10% to 7.5%.

Self-employed persons who meet certain criteria may deduct 100% of their health insurance premiums. This deduction is available to self-employed persons regardless of whether they itemized or not on the first page of Form 1040.

Education Expenses

Because education is not usually considered an essential investment, there are fewer ways to reduce your yearly tax bill via your child’s school and college tuition. However, there are various more scenarios that may apply.

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College Tuition Fees and Expenses

This tax break has been extended until the end of 2020. If your income was $65,000 or less ($130,000 for married couples), you may deduct up to $4,000 in costs for 2020 and all previous years.

Individuals earning between $65,001 and $80,000 ($130,001 and $160,000 for married couples) were only eligible for a $2,000 deduction. If you failed to claim the deduction in a previous year, you must submit an updated tax return using Form 1040X.

College Tax Credits

The American Opportunity tax credit is available to taxpayers with a modified adjusted gross income (MAGI) of $90,000 or less (and married couples with a MAGI of $180,000 or less). For four years of college, this credit may decrease your taxes by up to $2,500 each year.

If this option is not available, you may choose to consider the Lifetime Learning Credit. It may reduce your tax by 20% of the first $10,000 you spend on enrollment and tuition costs, up to a $2000 maximum.

To qualify in 2021, single taxpayers must have a MAGI of $69,000 or less ($138,000 for married couples). For taxpayers with modified adjusted gross income of more over $80,000 ($160,000 for joint returns) in 2022, the Lifetime Learning Credit is phased out.

Coverdell Education Savings Account (ESA)

A Coverdell ESA allows you to invest $2,000 per kid each year. These contributions are not deductible, but all dividends from this savings account are tax-free to the recipient if used to pay for lower, middle, or higher school expenditures.

Contributions may be given for children under the age of 18. If your kid does not attend college when the time comes, the monies might be transferred to another child or family. Individuals and families with a high income are not eligible for an ESA.

Student Loan Interest Deduction

Interest on student loans for college or vocational school is also deductible. The deduction ceiling for qualifying students is $2,500, although it is tapered down for higher-income households. Depending on your income, the tax deduction is lowered and finally phased out.

Individuals with an income of $70,000 or over ($145,000 for married couples) will see a steady decline in the amount of interest that is deductible beginning in 2022. If your income is $85,000 or more ($175,000 for married couples filing jointly), you cannot take the deduction.

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Child Support for Self-Employed Parents

According to the IRS, child support payments are not taxed. Child support payments are generally determined based on the payer’s net income. A variety of concerns may occur if that person is self-employed.

This is owing to the subjectivity involved in estimating net income for self-employed individuals. In general, self-employment income is computed by subtracting the costs of running the company from the total money earned by the firm. In such a case, the self-employed parent might possibly inflate income by claiming superfluous business costs, resulting in a lower child support requirement.

Child support payments for self-employed parents are calculated using income that varies greatly by state. Certain courts will not examine tax breaks or costs that would have been incurred regardless of the company, such as electricity bills.

The self-employed parent may be needed to legally substantiate their income due to the inherent subjectivity and possibility for manipulation in declaring net income. The methods for doing this would vary depending on the appropriate jurisdiction, but it is probable that financial records, tax paperwork, and possibly bank statements would be required to prove income.

If the self-employed parent’s spouse detects improper income reporting, they may consult a certified fraud examiner to find hidden assets or a forensic accountant to look for exclusions in financial records.

Hiring Your Child

Sole proprietors (or partners if they are both the parent of that kid) and self-employed people may hire their children under the age of 18. You may pay your kid up to the standard deduction ($12,550 in 2021 and $12,950 in 2022), and they will not be subject to income tax or most employment taxes. This compensation is even deductible as a business cost.

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