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Federal Adoption Tax Credit

Adoptive parents may be able to claim a tax credit on their federal income tax return for qualified adoption expenses. This credit can be claimed even if the adoption has not been finalized, and, in the 1998 tax year, even if the adoption process is interrupted and never finalized. The expenses claimed for an adoption that is stopped are applied to the maximum amount that may be claimed on a second adoption.

The credit is up to $5,000 for each child, or up to $6,000 for a domestic waiting child (called a "special needs" child in IRS publications). The $5,000 credit also applies to international adoptions after finalization. (After 2001, the adoption credit will apply only to domestic waiting children.) The tax credit limit is for expenses associated with each adopted child, rather than an annual limit.

The tax credit is progressively phased out for high-income families. The phase-out starts for families with adjusted gross income (AGI) of $75,001 or higher in the year they adopt, and is phased out entirely once their AGI reaches $115,000.

This tax credit is more valuable than a tax deduction because allowable expenses are subtracted dollar for dollar against your tax liability. For example, if you owe $5,000 in federal taxes and have $3,000 in qualified adoption expenses, your tax bill is reduced to $2,000. If your tax bill is smaller than the credit, the unused portion of the credit may be carried forward for up to five years.

According to IRS Publication 968, qualified expenses include "reasonable and necessary" adoption fees, attorney fees, and some travel costs, including necessary transportation, meals, and lodging. Expenses related to surrogate parents or adopting a spouse's child do not qualify for the credit. The credit also does not apply to expenses reimbursed by the government or private programs or for which an income tax deduction or credit already is allowed. Adoptive parents should carefully review the IRS guidance, preferably with a tax professional, to clarify what expenses qualify for the credit according to IRS guidelines.

The credit may be taken for adoption expenses incurred and paid for on or after January 1, 1997.

NOTE: The information in this section reflects laws as of 1997.

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