By Megan Leonhardt - CNBC
About 39 million households in the United States will begin receiving payments in July for the 2021 child tax credit. While many families may need this extra money for daily expenses, from diapers to utilities, for others, if they can, it's worth using to improve your financial future, financial experts advise.
Child tax credit payments, which were established and expanded under the American Rescue Plan approved earlier this year, amount to $ 3,000 per child ages 6 to 17 and $ 3,600 annually for children under 6 years of age.
The credit is based on income and begins to phase out for people who earn more than $ 75,000 a year or $ 150,000 for married filing jointly.
Families will receive monthly payments of
up to $ 300 per child from June through December 2021.
If you normally don't file taxes, you will need to register through the Internal Revenue Service (IRS) to receive monthly child tax credit payments.
The online portal to register is now open.
[What You Need to Know About the Monthly Child Credit Coming in July 15]
What is the best way to use this money?
If you are currently behind on your bills or have difficulty putting food on the table, your payments should certainly go toward
housing, food, and supporting your family's immediate needs.
But if your family is keeping up with the bills and has some leeway in your budget,
it pays to be strategic with this money,
financial advisers say.
Here are five smart ways to consider using your next child tax credit.
Some 39 million families will receive checks of up to $ 300 for each minor child from July
May 17, 202102: 01
1. Fund your emergency savings
You may be sick of hearing the phrase "emergency savings", but it is important to have money set aside at all times to cover the unexpected.
Experts generally recommend that you save
three to six months for living expenses.
Parents who have enough income to cover basic expenses "should consider replenishing emergency savings that have been spent from the coronavirus pandemic," says Christopher Owens, a Maryland-based financial planner with Wealthspire Advisors.
2. Pay the debt
As with a typical tax refund, there are no restrictions on how this money should be spent.
That means parents can use it to improve their overall financial situation by doing things like paying off debt.
Not only can this
improve your credit
, but it
also helps you avoid expensive interest payments.
Matt Elliott, a Minnesota-based accountant and founder of Pulse Financial Planning, recommends using a "debt flood" strategy, which minimizes the total amount you end up paying in interest.
“This involves making minimum payments on all of your loans and putting the extra dollars on your loan with the highest interest rate.
Once you've paid off your loan with the highest interest rate, start lowering the next one, ”says Elliott.
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Other experts agree: "Paying off high-interest debt is the absolute best thing to do with these additional funds," says Yulia Petrovsky, a California-based accountant with Modern Financial Planning.
3. Increase your health savings
As most parents know, unexpected medical visits are common with children, so it may be worth putting some of this tax credit toward future medical expenses.
"I suspect that one option that is overlooked with the Advance Child Tax Credit is to make a contribution to a health savings account," says David Wattenbarger, Tennessee-based accountant and founder of DRW Financial.
This year, families can contribute up to $ 7,200, and individuals up to $ 3,600, into HSAs (
Health Savings Accounts
), which are generally available to those with high-deductible health plans.
You can choose to add funds to your HSA at any time by making a direct contribution.
These contributions
are not tax-free, but can be deducted on your tax return.
If you have a Flexible Spending Account (FSA), you can usually only add money during open enrollment.
FSAs are generally offered as a benefit through your employer and are capped at $ 2,750 for 2021.
That said, due to legislative changes, the IRS has said that employers can choose to allow workers to update their FSA plans mid-year.
Check with your manager or human resources representative to see if you can increase your payroll deductions.
As with a typical tax refund, there are no restrictions on how this money should be spent.
That means parents can use it to improve their overall financial situation by doing things like paying off debt.
4. Invest in your children's education
If you don't need the child tax credit right away, consider saving that money for your kids to pay for college with a 529 account. “Invest in your kids again,” says Nate Nieri, a California-based CFP and founder of Modern. Money Management.
If you don't already have a 529 college savings plan set up, these payments could be a good way to jumpstart those savings, Nieri says.
These accounts are not subject to income tax, and
when you use the funds to pay for qualified education expenses, the withdrawals are generally tax-free as well.
If you're looking to set up a new account, Vanguard has a 529 plan comparison tool to help you find the one that best meets your needs.
5. Opt out
Unlike the stimulus checks sent earlier in the pandemic,
the child tax credit isn't exactly free money.
Instead, it's an upfront payment on your 2021 taxes, which means that if you normally owe money to the IRS when you file, you'll have even more to pay back next tax season.
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"People should keep in mind that these are not stimulus payments, they are an advance on their future tax refund and should plan accordingly," says Monica Dwyer, Ohio-based CFP with Harvest Advisors.
If you generally
have to pay at tax time or receive very little in return, it may be best to opt out of
this program.
The IRS will launch a portal where parents can get out in the coming weeks.
You can also save a portion of your payments to cover what you could potentially owe the IRS.
Or parents could increase the amount of tax withheld from their check so that they now pay more in federal income taxes to offset the amount paid in child tax credits.
"I wouldn't want to see people in a situation where they owe more than expected or those who depend on a big refund don't understand that next year may not come," says Dwyer.
