In Part 1 of this series, we met a young lawyer who is concerned about the tax implications of marrying her boyfriend. Although we found in Part 1 that there is not much difference between them filing as married-joint as opposed to married-separate, we discovered in Part 2 that there is a very significant difference in taxes owed if they each file as single instead of as married - $9,300/year. Further, if they delayed the wedding for a few years, they could save $60,000 on their taxes.
In her original e-mail, the young attorney mentioned that she was thinking about filing as single until she had her first child - and then switching to married-joint. Below we will take a look at what impact having a child has on her taxes.
Having A Child - Does It Matter?
The young associate mention in her letter that she would switch to married-joint when she had a child. However, the real determinant as to whether it would be beneficial to change from single to married-joint is not whether you have a kid - it's whether your income changes as a result.
For example, let's go back to our old pal the TurboTax Taxcaster:
Let's say that at the time that she has a kid, both she and her boyfriend are making $225,000/year. If they both file as single and she takes the child as a dependent, their total combined tax liability is $55,488 + $56,500 = $111,988. However, if they file as married-joint, their total tax liability is $122,500! (Note: the spouse with the child may be able to file as "Head of Household" in which case their tax liability would be $54,299 instead of $55,488 - about $2,000 less).
That's an increase of about $10,500 if they file as married-joint. Note also that the tax deduction for their child is only about $1,000 - that's because the deduction is partially phased out based on their income.
Consequently, it's pretty clear that just "having a child" does not really impact their tax liability in a way that makes economic sense to change from single to married-joint. I know that some people would find it horribly unromantic to think of it this way - as the associate mentions. However, if she and her partner continue to work - and if they continue to file as single over the 18 years of that child's life, they will probably be saving about $200,000-$250,000 in taxes - which is probably enough to pay for the child's entire college education - or at least a good chunk of it.
On the other hand, if she intends to stop working once she has a kid, then she and her spouse would get a substantial benefit from filing as married-joint (as we previously alluded to). For example, the total tax liability for a family with one child filing married-joint with one spouse making $225K and the other spouse making zero is $45,006.
That's a pretty big reduction from the $55,488 that the spouse with the child would have paid if filing as single - in fact it is about $10,400/year better. This advantage arises because at the lower tax brackets the bracket for married-joint is twice that of single. Consequently, twice as much money can be taxed at the lower rate. However, once you hit $210K, it doesn't matter whether you file as single or married-joint, you are paying the same tax rate.
Thus, (at least from a tax perspective) it is not "having a kid" that really impacts the selection of filing as single vs. filing as married-joint, but instead when "one spouse stops working." Also, as you can see, there is a substantial monetary penalty associated with being married when both spouses continue to work. It's not romantic at all, but it's a lot of money. It is enough to be a significant disincentive to getting married - or even enough to get legally divorced in some cases. I also know several couples who present themselves as "Mr. and Mrs." who are not legally married - I don't know their personal reasoning, but they may be facing similar large financial disincentives like those being faced here.
In Part 4 we will take a look at the potential impact of some of the proposed tax changes and also give some thoughts about the tax process as a whole.