Welcome to Part 4 of the ol' blog's series on 2021 tax inflation adjustments.
We started with a look at next year's income tax brackets and rates.
That first item also has a directory, at the end of the post,
of all of next year's tax-related inflation updates.
In In today's post, at changes to tax credit, deduction and income exclusion amounts.
Note: The 2021 figures in this post apply to that tax year's returns to be filed in 2022.
For comparison purposes, you'll also find 2020 amounts that apply to this year's taxes, due April 15, 2021.
Deductions are one way to reduce your tax bill. They help cut the amount of taxable income you have, which in many instances lowers what you eventually owe.
These technically are income adjustments, now found on Form 1040's Schedule 1, that work like deductions, hence the popular name. And they can be used, for the most part, regardless of whether you itemize or claim the standard deduction.
Deductions lower your taxable income, but that's not the only way to accomplish that goal. In some cases, money you receive is, by law, excluded from your income, meaning the tax man can't touch it.
But the tax code also offers some other options to shave some dollars off the annual amount due the U.S. Treasury.
There are tax credits, which actually tend to be better than deductions. Credits are dollar-for-dollar reductions of any tax you owe. In a few instances, credits can even get you a refund.
And in some cases, some of your income is excluded under tax law, meaning it doesn't count when figuring your tax bill.
Many of these tax deductions, credits and exclusions also are adjusted each year due to inflation. Following is a look at some of these popular tax breaks and how much they'll be worth in 2021 thanks to the Internal Revenue Service's annual inflation adjustments.
As in previous (and still to come) parts of this annual inflation series, the 2020 amounts you might be able to claim on the return you file next year also will be shown for planning and comparison purposes.
Student loan interest: Paying for education is a major child-rearing expense. That's why so many students and/or their families take out loans to pay for college.
You can offset a portion of that educational debt by using the Schedule 1 write-off for student loan interest. This $2,500 tax break is set by law, so it doesn't change each year based on inflation.
However, the ability to claim this above-the-line deduction is based on your income and those earnings thresholds can be affected by inflation.
In 2021, you can claim the full $2,500 student loan interest deduction as long as you, as a single taxpayer, your modified adjusted gross income, or MAGI — shameless plug for the ol' blog's glossary, which explains MAGI as well as many other tax term definitions — is $70,000 or less.
The cut-off for married filing joint returns taxpayers will be $140,000 next year. If you make more than these amounts for your filing status, the loan deduction amount is reduced.
The loan interest deduction is eliminated if your MAGI as a single taxpayer is $85,000 or more or $170,000+ for married joint filers.
Those 2021 amounts are the same as the 2020 income ranges.
Savings Bond exclusion for higher education: Savings bonds are another way to help pay for some higher education costs.
Interest earned on eligible Series EE and I bonds issued after 1989 is not taxed as long as the bond owner uses the redeemed bonds to pay qualified higher education expenses at an eligible institution.
In addition to meeting certain requirements, there's also an income limit for the education-related savings bond interest exclusion.
This exclusion will start phasing out in 2021 for those with MAGI of more than $124,800 on joint returns and $83,200 for all other filers. The tax-free savings bond interest exclusion is completely phased out for joint filers with MAGI of $154,800 and $98,200 or more for all other returns.
That's a hike over 2020's savings bond exclusion phaseout/elimination level, which is $123,550 or more for joint filers and $82,350 for other taxpayers. This current tax year, you cannot claim the savings bond interest exclusion for educational use at all if your MAGI as a joint filer is $153,550 or more or is $97,350 or more if you file using one of the other filing statuses.
Educators' expenses deduction: Tax breaks are for more than just students. Elementary and secondary school teachers, along with certain other educators, can claim some of their out-of-pocket classroom expenses as an above-the-line deduction.
This $250 tax break was made a permanent part of the tax code as part of 2015 tax extenders bill (formally known as the Protecting Americans from Tax Hikes or PATH Act). PATH also initiated inflation tweaks to this amount.
Inflation, however, has been low since this law change. So once again, inflation adjustments won't help these taxpayers with a bump in 2021. This $250 income adjustment will stay at that amount, just as it did for 2020. In fact, modest inflation has kept this tax break at the same low-dollar level since 2017, even though studies show that the amount is not nearly enough to cover teachers' out-of-pocket classroom costs.
Small businesses pass-through break: The Tax Cuts and Jobs Act (TCJA) that became law in late 2017 mainly was a tax bill for big business, lowering corporations' top tax rate from 35 percent to 21 percent. But Congress realized it wasn't a good political move to hand out benefits to big business and ignore individuals and smaller companies.
The §199A e)(2) provision offers qualifying pass-through entities a tax break in line with the TCJA's corporate tax cut. It allows eligible businesses — limits apply based on income and type of business — to deduct up to 20 percent of qualified business income, or QBI.
In 2021, the QBI threshold will increase to $329,800 for married couples filing joint returns, to $164,925 for married individuals filing separate returns and to $164,900 for single taxpayers and heads of households who operate pass-through businesses.
In 2020, those thresholds are $326,600 for married couples filing joint returns and $163,300 for married individuals filing separate returns and also for single taxpayers and heads of households who operate pass-through businesses.
Transportation fringe benefits: Commuting can tax your patience. Some companies countered this stress by offering their workers' a tax-free fringe benefit that covered some getting-to-and-from-work travels (and travails).
No more. Under the TCJA, through 2025 employers no longer can deduct fringe benefits offered commuting employees by subsidizing some or all of their parking, transit and van pooling costs. The new law also suspends bicycle commuting reimbursement from the definition of qualified transportation fringe benefits.
Some businesses, however, still have the option to offer workers the vehicular transportation benefits and cover the costs themselves.
In 2021, they can provide up to $270 a month to employees to offset their commuter highway vehicle travel, any transit pass or qualified parking. That's the same as the 2020 amount.
Adoption tax credit, employer assistance: It's no secret, even to those of us without children, that kiddos cost a lot.
There are myriad tax breaks to help moms and dads deal with child-related expenses, including help in the form a tax credit and tax-free employer assistance for folks who grow their families through adoption.
In 2021, a company can provide eligible adoptive parents up to $14,440 in tax-free help to cover the costs associated with adding to their families. This new income exclusion amount is up a few bucks from the $14,300 allowed in 2020.
Even if adoptive parents don't get help from their employers in 2021, they can claim next year an adoption credit of up to that same maximum of $14,400. Again, this if for all adoptions, including of a child with special needs. And again, this is an increase from the 2029 amount of $14,300.
Both the adoption income exclusion and tax credit amounts will begin to phase out in 2021 when individuals have MAGI greater than $216,660. Once the adoptive parents hit MAGI next year of $256,660, they cannot claim the tax-favored adoption assistance.
The 2021 hikes are up from 2020's income phaseouts, which start at MAGI of $214,520 and end when adoptive parents' modified income is $254,520 or more.
Depending on the adoption's cost, you may be able to claim both the tax credit and the exclusion. However, you can't double dip; that is, you cannot claim both a credit and exclusion for the same adoption expenses.
Note, too, that the tax credit is not refundable. Any extra adoption credit after you reduce your tax bill to zero won't come back to you as a refund.
Child tax credit: Regardless of how your family grows, you can claim the child tax credit for qualifying children.
The TCJA enhanced this tax break, which has been around in some form since 1997, doubling the credit to $2,000 per eligible child. It also makes a portion of the credit refundable.
For the 2021 tax years, up to $1,400 may be returned to parents as a refund. That's the same as the 2020 refundable portion of the child tax credit.
Lifetime Learning Credit: The Lifetime Learning Credit is another nonrefundable credit, but it's still worthwhile since it can help pay not only higher education costs, but also continuing education courses once you're out of school, such as a class you took to improve your workplace skills.
This educational tax credit is worth a possible maximum of $2,000. However, that amount is reduced if you make what the IRS considers a lot of money.
For the 2021 tax year, a single filer earning $59,000 (the same as the 2020 income cut-off for this filing status) or more will see a reduction in the Lifetime Learning tax break. It's $119,000 if you're married and file a joint tax return, up a tad from the $118,000 income limit in 2020.
In either situation, hit the MAGI number and you'll lose part of the Lifetime Learning Credit. And this education tax credit is completely phased out for taxpayers in 2021 with MAGI of more than $69,000 as a single filer (the same as in the 2020 tax year) or $139,000 for a joint return ($138,000 on 2020 returns).
Retirement Saver's Credit: It's tough sometimes to save for retirement when you've got lots of other day-to-day expenses to meet. Uncle Sam wants to help encourage you to stash at least a little for your golden years via this special tax credit.
The Saver's Credit was noted in Part 3 of the 2021 inflation series, but since it's often overlooked, it deserves another mention here.
You can claim the Saver's Credit based on the money you put into IRAs and workplace (both as an employee or as the self-employed boss) plans. However, it's limited to folks who meet the annual earning requirements.
In 2021, the Saver's Credit maximum earnings caps go to:
- $33,000 for singles and married filing separately taxpayers,
- $49,500 for heads of household and
- $66,000 for married couples filing jointly.
In 2020, the Saver's Credit maximum earnings caps are:
- $32,500 for singles and married filing separately filers,
- $48,750 for heads of household and
- $65,000 for married couples filing jointly.
Again, you can see exactly how the Saver's Credit is phased out in the previously posted retirement inflation adjustments item.
Earned Income Tax Credit, or EITC: The Earned Income Tax Credit (EITC), which was created in the 1970s as an outgrowth of President Lyndon B. Johnson's War on Poverty, is a major tax break for middle- and lower-income workers. It is not changed under the new tax laws.
The latest inflation adjustments mean the maximum credit amounts in 2021, determined by your family size, will be:
- $6,728 for taxpayers filing jointly who have three or more qualifying children,
- $5,980 with two qualifying children,
- $3,618 with one qualifying child and
- $543 if you don't have any qualifying children.
For comparison purposes, the 2020 tax year refundable maximum EITC amounts are:
- $6,660 for taxpayers filing jointly who have three or more qualifying children,
- $5,920 with two qualifying children,
- $3,584 with one qualifying child and
- $538 if you don't have any qualifying children.
Even better, these amounts are refundable, meaning any credit amount that is more than your tax bill comes back to you as, per its name, an IRS refund.
Of course, the key to claiming the EITC is to fall within the tax credit's earnings' guidelines. If you don't make enough you can't claim it. Make more, and the credit amount is reduced. And if you make what is deemed too much, you can't claim the EITC at all.
For the 2021 tax year, inflation adjustments mean that your earned and adjusted gross income (AGI) each must be less than the following are:
3 or More Children
For comparison, the 2020 tax year earnings limits are:
3 or More Children
In addition, if you have what the IRS deems is "excessive investment income," you're not eligible for the EITC. For 2021, that amount is $3,650. That's the same as the 2020 investment income limit.
More inflation figures: OK, ready to claim all these deductions, exclusions and credits? If you qualify for any or all of them, definitely make sure you use them to reduce your 2020 and 2021 tax bills.
As noted in the intro to this post, more inflation changes are on the way.
And, to repeat myself in connection with that introduction, you can get a preview of what's ahead — as well as what's been posted so far — in the index that's at the end of the series' Part 1 on next year's tax rates and income brackets.