Effective for tax years beginning after December 31, 1997, taxpayers who have qualifying children, i.e., a child, descendant, stepchild, or eligible foster child who is a U.S. citizen and for whom the taxpayer may claim a dependency exemption and who is less than 17 years old as of the close of the tax year, are entitled to the new child tax credit (Code Sec. 24). The amount of the credit will be $400 per child in 1998, increasing to $500 per child in 1999 and thereafter. The credit is allowed only for tax years consisting of 12 months.
Limitation of credit based on AGI. The child credit begins to phase out when modified adjusted gross income (AGI) reaches $110,000 for joint filers, $55,000 for marrieds filing separately, and $75,000 for singles. The credit is reduced by $50 for each $1,000, or fraction thereof, of modified AGI above the thresholds.
Refundable amount of child credit. Taxpayers who qualify for the child tax credit may qualify for a refundable credit known as the supplemental credit. Taxpayers who have three or more qualifying children may also be entitled to an additional credit.
Amount of supplemental credit. The supplemental credit is treated as a component of the earned income credit (EIC). The supplemental child credit equals: (1) the lesser of: (a) $500 ($400 in 1998) times the number of qualifying children, or (b) the taxpayer's regular tax liability (net of all applicable credits except the EIC) over the taxpayer's tentative minimum tax (determined without regard to the alternative minimum tax foreign tax credit); over (2) the taxpayer's regular income tax liability (net of all applicable credits other than the EIC), plus the employee share of FICA (and one-half any SECA tax liability), less the amount of the EIC.
Amount of child credit for three or more children. If the taxpayer has three or more qualifying children, the maximum amount of the child credit for a tax year cannot exceed the greater of: (1) the excess of the taxpayer's regular tax liability (net of applicable credits other than the EIC) over the taxpayer's tentative minimum tax liability (determined without regard to the alternative minimum tax foreign tax credit); or (2) the excess of the sum of the taxpayers regular income tax liability (net of applicable credits other than the EIC) and the employee share of FICA (and one-half any SECA tax liability), less the amount of the EIC.
The portion of the credit determined under (2) that exceeds the amount determined under (1) is treated as a refundable credit. The portion of the credit determined under (1) that exceeds the credit determined under (2) is treated as a supplemental credit.
These two rules operate to ensure that a taxpayer with more than two children who claims the EIC will first be able to take the full amount of the EIC, including the refundable portion. If any portion of the EIC is refundable, then the taxpayer is allowed a refundable credit of the portion of the child credit that does not exceed the employee's share of FICA taxes paid by the taxpayer over the refundable EIC. In other words, a taxpayer is allowed a refundable credit to the extent that the FICA exceeds the refundable EIC.