Want to Offset Inflation for Working Families? Update the Child and Dependent Care Tax Credit

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Child care is notoriously unaffordable for many American families. Inflation has pushed the average price to more than $10,000 per child—a sum that can force parents, especially mothers, out of the labor force.

While a complete overhaul of America’s broken child-care market could ease the strain on families, it would require big investments that likely will remain off the political table. While President-elect Trump has voiced support for decreasing child-care costs via tariffs, neither he nor his party has endorsed any specific policies.

There is, however, a partial solution that would bring immediate relief to parents, offset recent price increases, and boost mothers’ employment rates: update the Child and Dependent Care Tax Credit (CDCTC), a tax credit for working families.

As it stands, the CDCTC is not particularly generous, doesn’t keep pace with inflation, and is only available to some working parents paying for care. The maximum credit for most families with two or more children is $1,200 per year—a number that hasn’t been updated since 2003. 

Proposed updates to the CDCTC would more than offset increases in child-care prices driven by post-pandemic inflation. The Child and Dependent Care Tax Credit Enhancement Act introduced last January would increase benefits so that working families could receive up to $8,000 each year—$4,000 per child for up to two children—and tie benefit levels to inflation so that the tax credit’s value would not erode over time.

To understand how this change would affect a typical family, consider a married couple with two children and average, middle-class incomes. Suppose that they were paying $15,000 a year for child care before the pandemic. An approximately 20% increase in the cost of living since then has added an extra $3,000 to their child-care bill. However, the proposed CDCTC expansion would increase their benefits by $6,800, more than covering the extra cost.

The proposed changes are very similar to a one-year increase in generosity under the American Rescue Plan Act of 2021 that the Joint Committee on Taxation estimated would cost the federal government $8 billion. This compares to more than $110 billion for the better-known Child Tax Credit expansion. And a permanent increase in CDCTC generosity would have broad benefits for the economy that could help to offset some of its costs. For example, my research suggests that expanding the credit would increase tax revenues by boosting employment rates among mothers who could access child care needed to join the labor force.

A reformed child care credit would bring additional benefits for lower-income families. Under the current system, benefits kick in only at higher income levels because the credit is nonrefundable: It does not help those who earn too little to pay taxes after deductions. My own calculations show that a married couple with two children would need to earn nearly $30,000 to receive any benefit from the CDCTC and nearly $40,000 to be eligible for the full $1,200 credit. As a result, the credit fails to reach the lowest-income families, even as child care consumes a larger portion of their household budgets.

In line with this, my research shows that allowing families to receive a tax refund would immediately extend benefits to an additional 5 percent of single parents, who are already working and paying for care but have incomes too low to benefit from a nonrefundable tax credit. Thus, like the Child Tax Credit, the CDCTC would reduce poverty, which could translate to more opportunities for those families and lower government costs in the long term.

Several other proposed adjustments to the federal tax code target the high cost of child care, but none would offset price increases for many families.

For example, several bills propose increasing the contribution limit for dependent care flexible spending accounts, which allow families to set aside money before taxes and then spend it on child care. The contribution limit has been capped at $5,000 since 1986, and the proposed legislation would increase it to $10,000 or more. This may sound like a big change, but it wouldn’t make much of a dent into families’ care costs. For the middle-class married couple with two children, doubling the contribution limit would, at most, generate an additional $600 per year in tax savings. Moreover, fewer than half of workers have access to these accounts, and most of the benefits go to higher-income families.

Another proposal would increase the tax break for businesses that provide child care to their employees. Unfortunately for parents, very few employers appear interested in going this route. Only about 1 percent of corporate tax returns include claims for the Employer-Provided Child Care Credit. As a result, the nonpartisan Congressional Research Service deems the credit to have “minimal impact.”

Adjusting the tax code won’t solve America’s child-care crisis. It won’t, for instance, directly increase pay among workers, who tend to earn less than animal caretakers and parking lot attendants. It won’t shorten long waiting lists for care. And it won’t fully offset the average family’s child-care costs. Fixing these aspects of our broken market are worthwhile ambitions, but they will require significant increases in government spending that are unlikely to pass Congress anytime soon. In the meantime, if policymakers want to bring immediate relief to families feeling the strain of inflation, updating the child care credit is a promising option.

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