Question

Ava and her husband, Leo, file a joint return and are in the 24% Federal income tax bracket. Ava's salary is $75,000. Her employer offers a child and dependent care reimbursement plan that allows up to $5,000 of qualifying expenses to be reimbursed in exchange for a $5,000 reduction in the employee's salary. Because Ava and Leo have two minor children requiring child care that costs $5,800 each year, Ava is wondering if she should sign up for the program instead of taking advantage of the credit for child and dependent care expenses. Analyze the effect of the two alternatives. Ignore the impact of FICA taxes. If required, round your intermediate computations to the nearest dollar.

a. If Ava and Leo take advantage of the plan, they would save income taxes because the reimbursement of child care expenses is excluded from gross income.

The tax savings associated with participating in the plan would be $ ___________ . Alternatively, if Ava does not take advantage of the plan, their child and dependent tax credit will be $ ______________Therefore Ava and Leo's income taxes will be $ _________higher if they do not participate in the plan.

b. Assume, instead, that Ava and Leo's AGI is $25,000 and they are in the 10% tax bracket.

The tax savings associated with participating in the plan would be $ ______ . Alternatively, if Ava does not take advantage of the plan, their child and dependent tax credit will be $ ________. Therefore Ava and Leo's income taxes will be $_________ lower if they do not participate in the plan.

Answer 1

Solution:

a) Tax liability when income is $75,000

Alternative1 : Dependent care reimbursement

Particulars	Amount ($)
Joint AGI	75,000
Less: Dependent care reimbursement	(5,000)
Taxable Income	70,000
Tax liability @24%	17,500
Alternative: credit for child and dependent care expenses
Joint AGI	75,000
Less: Dependent care reimbursement	(5,800)
Taxable income	69,200
Tax liability @24%	17,300

Maximum deduction can be taken for $6,000 if filling is done jointly.

b) Tax liability when income is $25,000

Alternative1 : Dependent care reimbursement

Particulars	Amount ($)
Joint AGI	25,000
Less: Dependent care reimbursement	(5,000)
Taxable Income	20,000
Tax liability @10%	2,000
Alternative: credit for child and dependent care expenses
Joint AGI	25,000
Less: Dependent care reimbursement	(5,800)
Taxable income	19,200
Tax liability @10%	1,920

Maximum deduction can be taken for $6,000 if filling is done jointly.