Understanding Adoption Tax Credits...

Changes in tax laws can be confusing and lately there have been a number of temporary changes, extensions and new tax provisions coming out of Washington D.C. How to handle adoption expenses and adoption credits is one of those areas that has been subject to a lot of change and uncertainty.

If you qualify, the 2011 federal adoption tax credit is $13,360 per child. Here are some key facts about the current adoption tax credit.

First, you need to be adopting an eligible child defined as a child under the age of 18, even if the child turned 18 during the year of adoption, or a person who is physically or mentally unable to take care of himself or herself.

Second, the expenses that qualify for the credit include:

• Adoption fees
• Attorney fees
• Court costs
• Travels expense for trips away from home related to the adoption
• Re-adoption expenses related to adoption of a foreign child

Qualifying adoption expenses do not include:

• Any expense for which you received funds under a state, local or federal program or which were paid or reimbursed by your employer or any other person or organization (although you may be able to exclude adoption assistance payments from income)
• Expenses that violate a state or federal law
• Expenses for a surrogate parenting arrangement
• Expense for the adoption of your spouse's child
• Expenses for which you were allowed a tax credit or tax deduction under any other provision of federal income tax laws

Also, for 2011 the adoption tax credit is refundable, meaning if the total credit is more than your total tax liability, you can receive a refund for the amount of the difference. However, many taxpayers have been experiencing significant delays in terms of when they receive their refund.

There is an income limitation that may reduce or eliminate the amount of the adoption tax credit. If your Modified Adjusted Gross Income (MAGI) is greater than $185,210 then the credit will be limited. If MAGI exceeds $225,210 then you will not be eligible for the credit. MAGI is equal to your Adjusted Gross Income (Line 38 on your 1040 tax return) plus any income that is excluded from U.S. tax because you have foreign earned income or earned income from U.S. possessions such as Puerto Rico or American Samoa.

Generally domestic adoptions receive slightly more favorable tax treatment in the following areas:

1. You can take the credit for domestic adoptions in the year after you incur the expenses even if the adoption is not finalized.
2. You can also exclude up to $13,360 of adoption assistance and still take a credit for up to another $13,360 of additional adoption expenses if you are adopting a US child with special needs.

In addition, for U.S. adoptions you can take the credit even if the adoption never became final. However, for international adoptions, you are not eligible to take the credit until the adoption becomes final.

Finally if you qualify based on all this information, you will need to complete Form 8839 to document your expenses and include this with your individual 1040 tax return. The instructions for Form 8839 will also provide a list of additional documents you will be required to provide to support your claim for the adoption credit. Both the form and instructions are available on the IRS website at irs.gov.

The federal adoption tax credit represents a significant source of financial assistance for a large number of adoptive families, but unfortunately it is also one for which there is a great deal of uncertainty. The current adoption tax credit has not been extended beyond December 31, 2011. As a result, unless further changes are made to the law the 2012 credit will drop to $12,650 and be non-refundable (as compared to the current credit which is refundable). Additionally, the credit is scheduled to be further reduced to $6,000 in 2013, and will only apply to adoption of special needs children.

If you qualify there is still time to take advantage of the more generous adoption tax credit on your 2011 tax return. Be sure to consult a qualified tax specialist to help you take fully advantage of this great source of financial assistance.