IRS Interprets Adoption Subsidy Payments
In response to questions regarding taxability of adoption assistance payments, NACAC reviewed the 1990 version of IRS Publication 17: Your Federal Income Tax. Two chapters are helpful.
Chapter 13: Other Income - Income Not Taxed states "do not include in income the benefit payments from a public welfare fund" (p. 82). According to the IRS, this interpretation has been in place since 1974 when adoption assistance payments were ruled to be public welfare payments and thus income exempt from taxation. In the 1986 version of Publication 17 there was a specific reference to adoptive parents which said "do not include in your income payments from a state agency to help you care for your adopted
child" (p. 67).
Chapter 3: Personal Exemptions & Dependents addresses the issue of support tests as they relate to children on whose behalf adoption assistance payments are made. If a family is receiving adoption assistance payments from a state agency, that child may be claimed as a dependent only if the following conditions are met:
"A legally adopted child
is considered your child" (p. 21).
"Before legal adoption, a child is considered to be your child if he or she was placed with you for adoption by an authorized agency and was a member of your household. If the child was not placed with you by such an agency, the child will meet this test only if he or she was a member of your household for the entire year" (p. 21).
"You must provide more than half of a person's total support during the calendar year to meet the support test... In figuring a person's total support, you must include tax-exempt income, savings, and borrowed amounts used to support a person" (p. 21).
Thus, if a family receives $2,000/year in adoption assistance payments from a state agency, they must be able to document that they provide at least $2,001 in additional support from personal funds, in order to claim the child as a dependent (for a total of $4,001 in total support).
While the subsidy itself is not taxable, part of it could possibly be taxable if the adoptive family cannot demonstrate that the child's support was at least in excess of the subsidy amount. In such an instance, subsidy funds in excess of the amount of support would be taxable.Claiming Children As Dependents on Your Taxes
In order to claim your child as a dependent on your taxes, families
must prove 50 percent plus $1 support. Although the Internal Revenue Service (IRS) does not require parents to file a separate form, the agency has developed a worksheet to help families think through the type and level of support provided. IRS Publication 501 (p. 13) can be found at your local library, or is available by calling 800-829-3676.
Typical expenses a family of four might count as "support" for one child include:
*1/4 of the monthly mortgage/rent expenses
*1/4 of transportation expenses (toll roads, gasoline, etc.)
*1/4 of the family utility bills (electric, heat, water, etc.)
*1/4 of the family recreational expenses (family trips, vacations, entertainment, etc.)
*1/4 of other household bills (telephone, etc.)
*Educational expenses (tuition, school materials, computers, etc.)
*Miscellaneous expenses (gifts, toys, extracurricular activities such as scouts, athletic teams, music lessons, etc.)