The American Rescue Plan was signed into law last week, and you may be wondering what provisions apply to you. We will be covering the third round of stimulus checks, the Child Tax Credit, Dependent Care FSAs, a change to unemployment benefits, and how student loans are impacted. Feel free to skip to the heading of the topics that apply to you.
Stimulus Checks – Round 3
Stimulus checks in the amount of $1,400 per individual
A notable difference this time is that the definition of an eligible individual has been expanded to include all dependents, including:
- high school students aged 17-18
- college students still claimed by their parents as dependents on their tax return
- elderly family members.
Another important difference, the Phase Out restrictions are much stricter, so staying at (or beneath) $75,000 per single individual or $150,000 for a married couple filing jointly is very important.
Phaseout ranges based on Adjusted Gross Income (AGI):
Single Filers and Married Filing Separately: $75,000 – $80,000
Head of Households: $112,500 – $120,000
Married Filing Jointly: $150,000 – $160,000
If your income in 2019 was lower than in 2020 and you want to receive a stimulus payment, you should delay filing your taxes until the checks are processed. Remember, any taxes you owe are still due on April 15th even if you file for an extension.
Checks are supposed to start processing Monday, March 15th.
If you earned less in 2020 than you did in 2019 (such that your 2020 income qualifies you for the stimulus check but your 2019 income would disqualify you) then you should accelerate your tax filing.
The good news is that if you qualify for a stimulus payment based on your 2019 tax return and receive it, there is no clawback if your income exceeds phaseouts in either 2020 or 2021.
Expanded Child Tax Credit for 2021
Increased credit of $3,000 per child ($3,600 for children under 6) for certain taxpayers.
The American Rescue Plan also temporarily expanded the child tax credit from $2,000 to $3,000 (and up to $3,600 for children under age 6 on 12/31/2021) for families whose AGI is $75,000 for single filers, $150,000 for married couples. The age threshold was also increased to 17 for 2021.
While the 2021 expanded child tax credit will start to phase out above those levels, higher income families may still qualify for the original child tax credit. The original $2,000 child tax credit will still phase out for higher income families ($200,000 for single filers, $400,000 for married filers).
Expanded Child Tax Credit Clawback
Pay close attention if your 2020 income qualifies you for the expanded 2021 Child Tax Credit but you expect your 2021 income to be above the qualifying thresholds. The American Rescue Plan allows for families to receive 50% of their 2021 child tax credit in equal installments from July 1st, 2021 to December 31st, 2021. If you have not filed your 2020 tax return by July 1st, the payments will be based off of your 2019 return. If your 2021 income exceeds the thresholds for the child tax credit it will be clawed back (subject to yet another calculation I won’t burden you with here) when you file your 2021 return.
As a reminder, both the enhanced child tax credit and the original child tax credit phase out, so there is some buffer there, but keep the clawback in mind if you have had dramatic swings in income over the course of 2019, 2020, and 2021.
Dependent Care Tax Credit Changes
A much higher limit for childcare expenses (except for high income families).
The Dependent Care Tax Credit was broadly extended for most taxpayers (applies to children under the age of 13 for the entire year) for 2021. With a higher dollar amount of child care expenses being considered, a higher applicable percentage for the credit, and a higher income base before the applicable percentage starts to reduce. Here’s a chart from Kitces.com:
Unfortunately, some of my highest earning families (those with an AGI above $440,000) will see their Child & Dependent Care Tax Credit completely phased out for 2021.
Dependent Care FSA Changes for 2021
There is something dual-career high income families can benefit from in the American Recovery Plan, as well. For 2021 a married couple filing jointly can put up to $10,500 into Dependent Care FSA (normally the cap is $5,000). If you are filing Married Filing Separately you are limited to $5,250.
Here’s the key: your employer has to implement the change.
Last year most big employers got on board with the new rule to allow mid-year contribution changes for 2020 (also permitted in 2021). Reach out to HR and ask them to implement the new higher $10,500 contribution limit for Dependent Care FSAs for 2021. This is a temporary change, for now.
The IRS has allowed a small rollover potential for 2 months and 15 days after the plan year ends, but it’s up to your employer to implement it. Don’t save more in a Dependent Care FSA than you think you will spend in a plan year.
Unemployment Compensation Changes
$10,200 in unemployment income/person received in 2020 is tax free for tax filer with an AGI below $150,000.
The American Rescue Plan made up to $10,200 of unemployment compensation received in 2020 tax-free for any tax filer whose AGI is less than $150,000. This appears to be a true cliff (your AGI must be $149,999 or below to qualify) and it also appears that each spouse could receive up to $10,200 of unemployment benefits tax free (total $20,400).
The bill also provides funding through September 6, 2021 for the following programs:
- Funding for states who have extended long-term unemployment benefits beyond the “normal” 27 weeks.
- Pandemic Unemployment Assistance – people who generally would not qualify for unemployment assistance (i.e. self-employed workers) can receive unemployment benefits through September 6, 2021.
- Federal Pandemic Unemployment Compensation – the additional $300/week benefits paid by the Federal government above and beyond the weekly unemployment benefit an individual’s state provides will continue through Sept. 6, 2021.
- Federal government will continue to reimburse states for the elimination period so laid off individuals can start receiving unemployment right away.
Student Loan Forgiveness
Tax free forgiveness from 2021-2025, no blanket forgiveness amount (yet).
There has been a lot of speculation around student loan forgiveness in some form or fashion being on the table. While there are no direct forgiveness provisions in the American Rescue Plan, there is a change that makes any student loan debt forgiven between 2021 and 2025 tax-free.
Currently, unless you qualify for Public Student Loan Forgiveness, any student loan debt that is forgiven is considered taxable income. So if you are on an income based repayment plan like PAYE for 20 years, you meet all of the requirements, and at the end of 20 years you have $100,000 of loans and interest forgiven; that $100,000 forgiven is tacked on to your income and taxed at your highest marginal tax rate. A very basic example here is if an individual in the 24% tax bracket they would owe approximately $24,000 in Federal taxes on that forgiven amount.
This is sometimes known as a “tax bomb”, and at Spark we actively help clients who are pursuing taxable loan forgiveness plan and save for it.
Under the American Rescue Plan Act, that amount would be tax-free if it happens between 2021 and 2025. Unfortunately, that doesn’t help most of my clients, as they won’t qualify for forgiveness until later this decade or early in the next. However, this provision does seem to be setting the table for possible forgiveness in later legislation. President Biden has expressed support for student loan forgiveness of $10,000 per borrower via Executive Order, but would want greater relief to be provided through the legislative process.
This is not to say that we expect massive student loan forgiveness. However, given that Federal student loan payments are currently paused and not accruing interest, we suggest clients consider a few options.
It may make sense to stockpile your payments in cash to put down on your loans at a later time, once we see how things shake out with possible forgiveness. If you have higher interest debt, those paused student loan payments could be redirected towards that higher interest rate debt. If your student loan interest rates are low, you have a healthy uncertainty fund, and you don’t have any high interest rate debt, then it may make sense to invest those payments in a Roth IRA, backdoor Roth, or brokerage account.
This is not meant to be specific advice. Talk to your financial planner before making any changes. If you are reading this and don’t have a financial planner, what are you waiting for? Schedule a call here.
Wrap Up
Admittedly, this is not a full review of the American Rescue Plan, but rather the highlights that are most pertinent to the majority of Spark clients. For our business owner clients we’ve written a separate article that covers some of the provisions most pertinent to them.
The American Recovery Plan: What Business Owners Need to Know
If you have any questions about how these provisions apply to you we are happy to discuss. You can schedule a quick call here.
For those among you who want to geek out even more on this stuff:
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