Last year’s tax refunds were supersized for many families. Economic impact payments, an increased child tax credit and expanded eligibility for other tax breaks helped boost the average refund to $3,039 in 2022, a 7.5% increase from the year before.
Now, many pandemic-related enhancements to tax credits and deductions have expired, and the IRS warns that Americans should not expect the same refunds this year.
“The worst part is that they aren’t ready for it,” says Chris McMahon, president and CEO of Aquinas Wealth Advisors in Pittsburgh.
If you aren’t sure whether you’ll be one of the households affected this year, here are six reasons why tax refunds may be smaller in 2023:
— No economic impact payments.
— Smaller child tax credits.
— Changes to the child and dependent care credit.
— Reduced income thresholds for the earned income tax credit.
— Loss of the non-itemized charitable contribution deduction.
— More Social Security income may be taxable.
[READ: Tax Prep Checklist: Collect These Forms Before Filing Your Taxes.]
No Economic Impact Payments
To keep the economy afloat during the COVID-19 pandemic, the federal government approved multiple rounds of economic impact payments in 2020 and 2021. Commonly known as stimulus payments, those who didn’t get a direct check from the government could apply for a Recovery Rebate Credit on their tax return.
“There was no stimulus (payment) in 2022, so that could be a huge difference for some people,” says Logan Allec, CPA and owner of tax relief company Choice Tax Relief.
Smaller Child Tax Credits
The child tax credit was increased significantly for 2021, and many families received advance payments on it, as well. Both those enhancements disappeared in 2022.
For the 2021 tax year, parents could receive a fully refundable tax credit of up to $3,600, depending on their child’s age. Plus, 17-year-olds were eligible for the credit. Refundable tax credits allow people to receive a refund even if they don’t owe any taxes.
For this spring’s tax filings, the credit drops to $2,000 per child and only children younger than 17 are eligible. What’s more, only $1,500 is refundable for the 2022 tax year.
“The equalizer here is that a lot of people got that credit in advance (in 2021),” Allec says.
The advance payments were equal to half a family’s expected credit. As a result, the difference between the 2021 and 2022 tax credits might not be as noticeable this spring.
Changes to the Child and Dependent Care Credit
The child tax credit wasn’t the only one to have its value shrink in 2022. Thanks to the American Rescue Plan Act, the child and dependent care credit was worth up to $8,000 in 2021. It was also fully refundable and eligibility for the full credit didn’t begin to phase out until a person’s income hit $125,000.
Now, the value of the credit maxes out at $2,100, and it is no longer refundable. As a result, if the credit exceeds the amount of a person’s tax liability, they won’t receive a refund for the difference.
The combined changes in the child tax credit and the child and dependent care credit could mean a dramatically smaller refund for families this year.
“People with two children see a difference of $10,000 in credits,” says Frank Corrado, managing director with wealth management firm Robertson Stephens in Holmdel, New Jersey.
Reduced Income Thresholds for the Earned Income Tax Credit
The earned income tax credit is intended to help low-to-moderate-income workers, but fewer people without children will qualify for the credit this year.
“The credit jumps back to its pre-pandemic rules,” Corrado says.
In 2021, individual taxpayers with no children could claim a credit of up to $1,502 if their income was below $21,430.
For this spring’s tax filings, the income eligibility limit for these taxpayers drops to $16,480, and the maximum credit is only $560. Income limits and credit amounts are higher for those with children and married couples filing jointly.
[Read: How to File Taxes for Free.]
Loss of the Non-Itemized Charitable Contribution Deduction
Normally, charitable contributions can only be deducted by those who itemize their returns. However, with the passage of the Tax Cuts and Jobs Act of 2017, the standard deduction nearly doubled, which has resulted in fewer people itemizing their deductions now.
During the 2020 and 2021 tax years, the government allowed everyone to take a $300 tax deduction for cash gifts to charity even if they didn’t itemize their return. However, that deduction isn’t available for 2022 tax filings.
On its own, losing this tax deduction may not seem like a large loss, but McMahon says it all adds up.
“If you’re a mid-income person, these tax changes can be big a deal,” McMahon says. “The mantra has been there are going to be no tax increases on people making less than $400,000.”
However, by reducing or eliminating credits and refunds, it has the practical effect of costing middle-class families more in taxes.
More Social Security Income May Be Taxable
Cost of living adjustments for Social Security beneficiaries have been below 2% for much of the past decade. However, as inflation has crept up, Social Security payments got a 5.9% bump in 2022 and have gone up another 8.7% in 2023.
That extra money might have an unwelcome side effect: “More Social Security income might now be taxed,” Corrado says.
Whether and how much Social Security benefits are taxed is based on something the government calls “combined income.” That amount is calculated by adding the following:
— Adjusted gross income.
— Nontaxable interest.
— Half a person’s Social Security benefits.
If the total of these items is greater than $25,000 for individual taxpayers or $32,000 for married couples filing jointly, then up to 50% of their Social Security benefits may be taxable. Once a filer’s income reaches $34,000 or $44,000, respectively, then up to 85% of benefits may be taxable.
These income thresholds haven’t been updated in decades and, given their low amounts, the 2022 COLA for Social Security beneficiaries may mean more people end up paying additional taxes in 2023.
While there is nothing you can do about the tax code changes above, you still have time to maximize your tax return in 2023. By making tax deductible contributions to an IRA or health savings account and remembering to claim all available tax credits, you can reduce how much you owe the taxman this spring.
[Read: How to File a Tax Extension.]
More from U.S. News
9 Red Flags That Could Trigger a Tax Audit
Every 2023 Tax Deadline You Need to Know
Why Tax Refunds May Be Smaller in 2023 originally appeared on usnews.com