Tuesday, January 6, 2009

Adoption Credit on Your Taxes

You may be able to take a tax credit for qualifying expenses paid to adopt an eligible child (including a child with special needs). The adoption credit is an amount subtracted from your tax liability. For expenses paid prior to the year the adoption becomes final, the credit generally is allowed for the year following the year of payment. A taxpayer who paid qualifying expenses in the current year for an adoption which became final in the current year, may be eligible to claim the credit for the expenses on the current year return, in addition to credit for expenses paid in a prior year. The adoption credit is not available for any reimbursed expense. In addition to the credit, certain amounts paid by your employer for qualifying adoption expenses may be excludable from your gross income.

For both the credit or the exclusion, qualifying expenses include reasonable and necessary adoption fees, court costs, attorney fees, traveling expenses (including amounts spent for meals and lodging while away from home), and other expenses directly related to and for which the principal purpose is the legal adoption of an eligible child. An eligible child must be under 18 years old, or be physically or mentally incapable of caring for himself or herself. The adoption credit or exclusion cannot be taken for a child who is not a United States citizen or resident unless the adoption becomes final. A taxpayer also may be eligible to take an increased credit or exclusion for expenses related to the adoption of a child with special needs if the child otherwise meets the definition of qualifying child, is a United States citizen or resident and a state determines that the child cannot or should not be returned to his or her parent's home and probably will not be adopted unless assistance is provided. The credit and exclusion for qualifying adoption expenses are each subject to a dollar limit and an income limit.

Under the dollar limit the amount of your adoption credit or exclusion is limited to the dollar limit for that year for each effort to adopt an eligible child. If you can take both a credit and an exclusion, this dollar amount applies separately to each. For example, if we assume the dollar limit for the year is $10,000 and you paid $9,000 in qualifying adoption expenses for a final adoption, while your employer paid $4,000 of additional qualifying adoption expenses, you may be able to claim a credit of up to $9,000 and also exclude up to $4,000.
The dollar limit for a particular year must be reduced by the amount of qualifying expenses taken into account in previous years for the same adoption effort.
The income limit on the adoption credit or exclusion is based on your modified adjusted gross income (modified AGI). If your modified AGI is below the beginning phase out amount for the year, the income limit will not affect your credit or exclusion. If your modified AGI is more than the beginning phase out amount for the year, your credit or exclusion will be reduced. If your modified AGI is above the maximum phase out amount for the year, your credit or exclusion will be eliminated.

Generally, if you are married, you must file a joint return to take the adoption credit or exclusion. If your filing status is married filing separately, you can take the credit or exclusion only if you meet special requirements.


Vinny said...

It's very interesting how the IRS has interpreted the statute in the instructions to Form 8839. They say expenses incurred in previous unsuccessful attempts to adopt (assuming domestic adoption, since there's no credit available for unsuccessful international adoptions) count against your credit limit once you have a successful adoption.

Section 23, on the other hand, says that the credit limit applies on a per-child basis. So if you attempt to adopt one child, are unsuccessful, and then ultimately successfully adopt a second (i.e., different) child, it would seem to me you would be able to claim two separate credit limitations - one for each child.

Also interesting is that the IRS has pulled Publication 968, which used to address this situation in detail (using the IRS position that you would get only one credit for the above example).

Treasury has not issued any regulations on Sections 23 or 137 to flesh out their reasoning on this. I know there are plenty of folks who have this same basic fact pattern and wonder what to do.

Anne said...

I am wondering, with so many foreign adoptions taking more than two years, if there's any hope for claiming expenses from 2 years prior? I know you can claim back one year, but I cannot find any info on "what about lengthy adoption processes?" So, have you heard anything or do you know anything?