Proposed child tax credit changes might create confusion on 2023 returns (2024)

Tax season always seems to start off with some kind of quirky, what-if component.

This year, the what-if involves the possible expansion of the child tax credit, which likely would be retroactive to 2023. We are not talking about a return to sending out monthly payments in advance or a return to the generous benefits many families saw during the pandemic.

But families who need money the most would receive more help through the credit, if Congress approves the package. The objective is to get more money to those families receiving a partial credit or none at all because their incomes are too low and the current formula for calculating the credit works against them, according to the Center on Budget and Policy Priorities.

How would the proposed child tax credit work?

The think tank gives an example for a parent who has a toddler and a second grader and earns $15,000 a year working as a food server. In the first year under new rules, the family would receive $3,600 in a child tax credit for 2023. That's an extra $1,725 from what would be received under the current rules for the parent in this example.

"There's real money involved," said Chuck Marr, vice president for federal tax policy at the Center on Budget and Policy Priorities.

The changes for 2023 are focused on providing more money and increased access to the child tax credit for lower income families. Marr said the changes address a complex formula that currently prevents many low-income families with two or more children from receiving a larger amount of money for the credit.

Under current law, the center noted in its report, many low-income families with two or three children receive roughly the same total credit as a family with one child at the same earnings level.

The child tax credit essentially gives more benefits to some higher-income people than lower-income people.

But taxpayers need to realize that we're not talking about sweeping changes for 2023 that would help many families with higher incomes.

Someone making $150,000 a year, for example, and receiving a child tax credit wouldn't see a boost on a 2023 return. This group could receive a bit more money, though, when they file their 2024 and 2025 returns, thanks to any possible inflation adjustments.

Under the plan in the Tax Relief for American Families and Workers Act of 2024, the maximum overall child tax credit would be adjusted for inflation, benefiting all who receive the credit.

Make no mistake, it is unclear whether or when tax legislation that includes an expanded child tax credit will pass Congress. Optimistically, the language for the revised child tax credit had strong bipartisan support when it was approved by both the House and Senate tax writing committees.

Many hope, the key word being "hope," that the bill could pass Congress sometime close to Jan. 29, when the Internal Revenue Service first begins accepting and processing federal income tax returns. But we could be talking about weeks ahead.

Mark Luscombe, principal analyst for Wolters Kluwer Tax & Accounting in Riverwoods, Illinois, suggests that some tax filers might want to hold off filing early returns until the child tax credit situation is resolved. But that strategy wouldn't work for everyone who has a tight budget.

"The language in the bill would make changes retroactive to 2023 tax returns," Luscombe said.

Luscombe and others caution that the tax legislation could get held up by congressional negotiations over other matters, such as border security, aid to Israel, and more military aid in Ukraine. We don't know whether the child tax credit rules would be changed or not.

Why some taxpayers file as soon as they can anyway

Many times, people who live on tight budgets aim to file their tax returns in late January or February to obtain a federal income tax refund as soon as possible. Late changes in tax rules, though, can trigger more confusion.

Many expect that the IRS would be able to issue any extra money down the road that's owed to lower income families who file early in the year, should the law change retroactively for 2023. Most likely, though, you could end up waiting a while for the extra payments if you file early.

The deadline for filing both federal and Michigan 2023 returns is April 15.

Matt Hetherwick, chief program officer for the nonprofit Accounting Aid Society in Detroit, said the biggest challenge will involve helping tax filers understand what the changes relating to the child tax credit could mean for them, if the bill is passed by Congress and becomes law.

"The end goal is to make sure that entitled tax filers receive the amount of tax credit intended by any changes in tax law," Hetherwick said.

IRS officials have stressed, Hetherwick said, that it's not anything new for changes to happen so close to the start of the season. While the time frame is tight, he said, it's possible for adjustments to be made.

In 2021, for example, a key but temporary change was made to the tax rules relating to jobless benefits for those filing 2020 federal income tax returns. Under that change, a portion of unemployment income received in 2020 was exempt from federal income tax for many people.

At that time, Hetherwick stated, the IRS quickly moved to update the tax form to reflect the changes involving unemployment benefits. Then, the IRS developed a plan to correct tax returns for those who had already filed a 2020 return that included the full amount of their unemployment income as taxable.

Congress did not renew this 2020 tax break; all jobless benefits received in 2023 are reported as taxable income federal income tax returns.

Who won't see any change in the child tax credit in 2023?

When it comes to changes in the child tax credit, some families will see more significant benefits than others on their 2023 returns.

Families with children ages 16 and under that already receive the full $2,000 child tax credit — and qualify for the full credit on their 2023 returns — would not see any changes or benefit when filing a 2023 return. Currently, the full credit can apply to families with $200,000 or less in annual income or $400,000 for couples filing a joint return. Parents and guardians with higher incomes may be eligible to claim a partial credit. Tax filers use Schedule 8812 to calculate the credit.

The child has to have lived with you for at least six months during the year. The child must be under age 17 at the end of 2023.

What's more significant now is that the plan calls for providing a financial boost to families who receive what's called a "refundable" credit. Currently, a refundable credit of up to $1,600 is available for the child tax credit to those low income families who do not owe federal income taxes. They must file a tax return anyway to claim the credit.

Under what's proposed now, the refundable amount would go up to a maximum of $1,800 for 2023 taxes. And then rise to a maximum of $1,900 in 2024 and $2,000 in 2025.

What's also key is that access to the credit would be expanded to more children based on a new calculation, and more lower-income families with two children or more would qualify for more money under the credit.

Families get no credit based on their first $2,500 of earnings. After that, beginning at earnings of $2,501, the credit begins to phase in at just 15 cents on the dollar.

Luscombe noted the proposed change would increase the income calculation from 15% of family income above $2,500 in earnings per family to 15% of family income above $2,500 times the number of children. The shift would boost the money received through the credit for bigger families.

Someone making a bit more than $13,000 a year currently hits the $1,600 refundable mark, said Marr, at the Center on Budget and Policy Priorities. Under the current complex formula, though, the parent must reach that threshold in earnings before they're even eligible to receive more money for a second or third child.

A family with $12,500 of earnings, for example, receives a $1,500 child tax credit whether the family has one child or two, according to the center.

"For really low income people, they get really hurt by that," Marr said.

The current system is what Marr dubs as sequential, where earnings must be built first to reach a given dollar threshold to cover the first child. If the proposal became law, Marr said, the new formula would take the number of children into account far more quickly in the calculation. It's an important shift, he said, because a large majority of children in the country live in families that have two or more children.

Any parent knows that it's far more expensive to raise two or three children than one child. That's true no matter how much money you make — but it's especially relevant if you're living on a very limited income.

How many children could benefit in Michigan?

In Michigan, about 474,000 children in lower income families would benefit in the first year of the proposed expanded credit, according to data from the Center on Budget and Policy Priorities.

Nationwide, the Center on Budget and Policy Priorities projects that proposed changes for the credit would boost benefits for 16 million children — or more than 1 in 5 of the nation’s 72 million children — in the first year of the expansion of the credit. The expansion of the credit would be in effect for three years, based on the latest plan.

Half of the roughly 16 million children nationwide who would benefit under the proposal in the first year, according to the center, live in families who would gain $630 or more through the expanded credit.

Some families could gain $1,000 or more; a smaller group would gain more than $1,400 in the first year.

The expansion would particularly help Black, Latino, and American Indian and Alaska Native children, whose parents are overrepresented in low-paid work due to historical and ongoing discrimination and other barriers, according to the Center on Budget and Policy Priorities.

Another key change under the package: The bill would allow taxpayers to use a "look back" provision and elect in 2024 and 2025 to use earned income from the prior taxable year in calculating the credit. That can be done if the taxpayer's earned income in the current year is less than their earned income in the prior year. This change enables someone to obtain more money when there's a job loss or lack of hours.

"Lower income people face a very volatile labor market," Marr said.

The child tax credit isn't looking at the dramatic, generous changes that many families saw during the pandemic when the credit was worth up to $3,600 for each qualifying child age 5 or younger on 2021 federal income tax returns; and up to $3,000 for children from age 6 through 17.

But the proposed increases could help many families deal with the higher prices that remain after the spike in inflation. It's one of those watch-and-see, what-if moments that are frequently part of the tax season.

Contactpersonal finance columnist Susan Tompor:stompor@freepress.com.Follow her on X (Twitter)@tompor.