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Vol. 71, No. 2, February
1998
Adoption Assistance
Receiving the benefits
To claim the tax credit or take the income exclusion, married adoptive
parents must file a joint tax return unless the rules governing head of
household status apply. 25 The Code
particularly calls for the Internal Revenue Service (IRS) to draft rules
assuring that unmarried individuals who pay expenses  pertaining to the same child are treated
as one taxpayer for the purposes of this tax benefit,26
thus reinforcing Congress's intent that the maximum benefit is $5,000 (or
$6,000) of total tax credit and/or income exclusion per child no matter
how many persons (unmarried cohabitants or other interested parties) may
be financing the adoption.
The legislation also instructs the IRS to draft any other appropriate
regulations to help carry out the new provisions. 27 Although
regulations have not yet been proposed, Notice 97-9 provides a detailed
analysis that may form the preliminary basis for the regulations. The IRS
recently released the final version of Form
8839, on which the tax benefits are computed and claimed, and Publication 968, which
explains the new rules. The new two-page form calculates both the allowed
tax credit carried to Line 42 of the Form
1040 and the amount of taxable employer benefits that need to be added
back to Line 7 Wages. (Qualified adoption expenses paid by an employer will
be noted as Code T in box 13 of Form
W-2.28 Since the amount excluded on the
Form W-2 may not equal the allowed exclusion after applying all applicable
limitations, taxpayers will need to ensure that proper estimated tax payments
are made to avoid underpayment penalties.29)
All employer-paid amounts are exempt from income tax withholding, but still
are subject to Social Security, Medicare and federal unemployment taxes.
30
Wisconsin's legislative enactment
Wisconsin also has taken action to provide tax assistance to adoptive
parents. 1995 Wisconsin Act 261 31 was approved
on April 22, 1996, and created section 71.05(6)(b)22
of the Wisconsin Statutes. This provision permits the deductions of
up to $5,000 of adoption fees, court costs and legal fees related to the
adoption of a child. The parents must be full-year state residents and the
final adoption order must have been issued by a Wisconsin court under the
provisions of Wis. Stat. section 48.91(3). 32
The expenses for which the deduction is claimed must have been paid during
the year of the deduction or the two prior years.33
The adoption expense deduction was first available on the 1996 Wisconsin
income tax returns. The amount claimed is reported as a Line 4 subtraction
modification on the return and reduces federal AGI by the amount of expenses
claimed, up to $5,000. Prior to 1986 Wisconsin taxpayers could have taken
deductions for up to 100 percent of qualified adoption expenses. After its
decade-long absence, this renewed benefit should be welcomed by Wisconsin's
adoptive parents, but statistics have not been compiled indicating the number
of taxpayers who have used the reinstated deduction. 34
An amended 1996 Wisconsin return could be filed if a taxpayer was eligible
for the state credit, but failed to claim it on his or her original return.
Unlike its federal counterpart, the Wisconsin subtraction modification
was enacted without any fanfare and has been publicized only briefly in
a Wisconsin Department of Revenue publication 35
and in the instructions to the tax forms. Although both the federal and
state tax codes now have their own seemingly independent versions of adoption
tax benefits, there is a relationship between the two provisions.
Federal changes partially apply to Wisconsin
The starting point for preparing a Wisconsin tax return is the taxpayer's
federal adjusted gross income. The federal AGI then is adjusted by various
addition and subtraction modifications, including the Wisconsin adoption
modification, to compute Wisconsin taxable income. Therefore, each year
the Legislature must adopt the updated federal Code as the basis for Wisconsin's
tax laws. The state budget finally enacted late last fall updated the Wisconsin
tax reference to the Code as of Dec. 31, 1996.
The Code allows a credit based on adoption expenses up to $5,000 (or
$6,000). This credit reduces the amount of federal taxes owed and will not
affect the Wisconsin tax return. The Code also includes the $5,000 (or $6,000)
income exclusion for employer-provided benefits which are not subject to
federal income taxes but which are subject to Social Security, Medicare
and federal unemployment taxes. These federally excluded amounts also will
be excluded for Wisconsin income tax purposes, including the extra $1,000
benefit for special needs children. The broader definition of allowable
expenses used
 |
Scott B. Franklin, Marquette 1995, is a staff accountant with
Kohler and Franklin CPAs, Milwaukee, where he concentrates in the firm's
tax and business advisory practices. He also is an instructor with the Becker
CPA Review Course. He received his B.B.A. in accounting from U.W.- Madison.
Franklin thanks attorney John C. Vitek for assisting with this article. |
for the federal exclusion and the income-based phaseout of the exclusion
also will carry to the Wisconsin return. Wisconsin unemployment taxes will
continue to be assessed on the preexclusion income. Just as with the federal
credit, allowable expenses not used for the income exclusion (subject to
Wisconsin's tighter definition) can be used for the Wisconsin modification.
Conclusion
Even though most of the federal tax relief is subject to sunset in 2002,
Wisconsin's subtraction modification is a permanent part of the state's
tax statutes. Although finances should never be the sole reason to adopt
or not, the reality is that adoptive parents do incur additional costs not
faced by natural parents. While a natural child will result in pregnancy-related
medical expenses, such costs usually are covered by insurance or may be
claimed as an itemized tax deduction. These recent tax changes should work
to equalize the economics of adoption with "natural parenting"
and encourage additional adoptions where the financial impacts are a concern.
Endnotes
1 Public Law 104-188.
2 House Report 104-373, Conference Report
on H.R. 3448.
3 I.R.C. § 23(a)(1).
4 I.R.C. § 23(c).
5 I.R.C. § 137(a).
6 I.R.C. §§ 23(d)(1)(D), 137(d);
Comm. Rpt. on P.L. 104-188.
7 See, e.g., I.R.C. §§ 23(h),
137(d).
8 I.R.C. §§ 23(b)(1), 137(b)(1).
9 I.R.C. §§ 23(d)(2), 137(d).
10 I.R.C. §§ 23(d)(3), 23(b)(1),
137(b)(1), 137(d).
11 I.R.C. §§ 23(d)(3)(C), 137(d).
12 I.R.C. §§ 23(b)(2), 137(b)(2).
13 I.R.C. §§ 23(d)(1), 137(d).
14 I.R.C. §§ 23(g), 137(e).
15 I.R.C. §§ 23(d)(1)(B), 23(d)(1)(C),
137(d).
16 Comm. Rpt. on P.L. 104-188.
17 I.R.C. §§ 23(d)(2), 137(d).
18 I.R.C. § 137(f).
19 I.R.C. § 23(b)(3).
20 I.R.C. § 137(c)(2), Notice 97-9 (I.R.B.
1997-2) § II.2.D.2.
21 I.R.C. § 23(a)(2).
22 I.R.C. § 137(a).
23 Not. 97-9, §§ I.E.1., II.F.1.
24 I.R.C. §§ 23(e), 137(e).
25 I.R.C. §§ 23(f), 137(e).
26 I.R.C. § 23(h).
27 I.R.C. § 23(h).
28 I.R.S. Announcement 96-134.
29 Not. 97-9, § II.G.2.
30 Not. 97-9, § II.G.1.
31 Assembly Bill 78.
32 Wis. Stat. § 71.05(6)(b)22.
33 Id.
34 Ms. Marcy Stock, Wisconsin Department
of Revenue.
35 July 1996 Wis. Tax Bull., No. 97.
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