Chapter 11: Tax Credits
Objectives
At the end of this lesson, the student will have an understanding of:
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Taxes paid to another state for both California residents and nonresidents
Who qualifies for renter’s credit
Some of the special credits
How to calculate child- and dependent-care expenses
The new jobs credit
Resources
Form 3506
Form 3510
Schedule S
Publication 1001
Publication 1031
Instructions Form 3506
Instructions Form 3510
Instructions Schedule S
Introduction
A variety of California tax credits are available to help the taxpayer reduce their tax liability. California
does not conform to all of the credits that are claimed on the federal form. This chapter will cover lines
FTB Form 540, lines 40 - 48. California refers to this section as “Special Credits”.
Line 40 Child and Dependent Care Expense Credit (Form 3506)
Taxpayers whose federal AGI is $100,000 or less and qualify for the federal credit for child- and
dependent-care on federal Form 2441 may also qualify for the California Child and Dependent Care
Expense Credit. The federal Form 2441 will need to be filled out (even if the credit is not claimed on the
federal tax return) in order to claim the California credit, because the California credit is a percentage of
the federal credit. The child and dependent care must be provided in California. The federal amounts must
be determined before the preparer can figure the California credit on FTB Form 3506. The amount of
California credit varies with the federal AGI and is determined by multiplying the federal credit amount
by the applicable percentage from the chart below.
The differences between California and federal law are:
 Care can only be provided in California
 Nonresidents must have wages or self-employment earned in California
 The credit is a percentage of the federal credit
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 RDPs may file a joint return and claim the credit
Dependent-care amounts are benefits that are:
 Paid directly to the taxpayer or to the care provider by an employer for the care of the qualifying
person(s) while the taxpayer or spouse worked
 Day-care facilities provided by their employer
 Generally deducted from the salary
 Reported in box 10 of the taxpayer’s Form W-2
As on the federal form, if the spouse/RDP was a student or disabled, the taxpayer would be able to claim
$250 (or $500 if the taxpayer has more than two qualifying children) as actual earned income. If in the
same month both the taxpayer and the spouse/RDP were students, they would claim $250 (or $500) for
that month (or those months, if several) as their actual earned income.
Special Credits
California residents have a variety of additional special tax credits available, which is identified by a code.
If the taxpayer needs to claim more than two credits, use Schedule p (540) and the Schedule needs to be
attached to the tax return. Many of the credits claimed are income-limited, also known as tentative
minimum tax (TMT). Special credits include:
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Credit for Joint Custody Head of Household Code 170
Credit for Dependent Parent Code 173
Credit for Senior Head of Household Code 163
Credit for Child Adoption Costs Code 197
Credit for Joint Custody Head of Household
If the taxpayer is using the following filing status this credit cannot be claimed:
 Married/RDP filing jointly
 Head of household
 Qualifying widow(er)
The credit is claimed if the taxpayer is unmarried and not an RDP at the end of 2014 and have provided
more than one half of the household expenses for the taxpayers home that also served as the main home
for the dependent child, step-child or grandchild for at least 146 days, but not more than 216 days of the
taxable year.
The custody arrangement must be part of a decree of dissolution or legal separation or part of a written
agreement between the parents where the proceedings have begun, but a decree of dissolution or legal
separation has not been completed.
Credit for Dependent Parent
This credit can only be claimed if the taxpayers filing status is:
 Married/or an RDP at the end of the current tax year and the taxpayer used married/RDP filing
separately filing status
 The taxpayer’s spouse/RDP was not a member of the household during the last 6 months of the
year
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 The taxpayer furnished over half of the household expenses for the dependent mother’s or father’s
home, whether or not the parents live in the taxpayer’s home
Credit for Senior Head of Household
Taxpayer can claim this credit if:
 The taxpayer was 65 years or older on December 31, 2014 or their birthday was January 1, 2015
 Qualified as head of household in 2012 or 2013 with a qualifying individual who died during 2012
or 2013
 AGI was not over $69,005
The credit percentage is 2 percent of AGI or $1,300, whichever is less.
Credit for Child Adoption Costs
A taxpayer can claim an adoption credit for a child that the adoption has become final in the current tax
year. The credit is 50 percent of the cost if adopting a child who was both:
1. A citizen or legal resident of the United States
2. In the custody of a California public agency or a California political subdivision
The following fees that are related to the adoption process can be included:
 Fees for Department of Social Services or a licensed adoption agency
 Medical expenses not reimbursed by insurance
 Travel expenses for the adoptive family
This credit is not available for adoption from outside of the United States, or was not in the custody of a
California public agency or a California political subdivision. Expenses that were used to claim an
adoption credit must be reduced by the amount of the adoption cost credit claimed.
Señor 1040 Says: The adoption credit for California does not apply
when a child is adopted from another country, or another state. Nor
does it apply to a child who was not in the custody of a California public
agency or a California political subdivision. Any deduction for the
expenses used to claim this credit must be reduced by the amount of
the child adoption costs credit claimed.
Nonrefundable Renter’s Credit (Line 46)
If the taxpayer paid rent for at least six months of 2014 on his or her principal residence located in
California, and his or her California AGI is within certain limits, the taxpayer may qualify for this credit.
To qualify for the Nonrefundable Renter’s Credit, all of the following conditions must be met:
 The taxpayer was a resident of California in 2014
 The California adjusted gross income (AGI) is $37,768 or less if the filing status is single or
married/RDP filing separate; or $75,536 or less if married filing jointly/RDP, head of household,
or qualified widow(er)
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 The taxpayer paid rent for at least half of 2014 on property in California that was his or her
principal residence
 The taxpayer did not live with another person for more than half the year (such as a parent) who
claimed him or her as a dependent in 2014
 The taxpayer is not a minor living with and under the care of a parent, foster parent, or legal
guardian
 The taxpayer rented property for more than half the year that was not exempt from California
property tax in 2014
 If married, neither the taxpayer nor the spouse was granted a homeowner’s property tax exemption
during 2014. The taxpayer can still qualify for the credit even though his or her spouse claimed a
homeowner’s exemption, as long as each of them maintained a separate residence for the entire
year in 2014
If the taxpayer meets the requirements to claim the credit, the amount is:
 Single/ Married/RDP filing separately
 Married/RDP filing jointly
 Head of household or qualifying widow(er)
$60
$120
$120
Credit for Taxes Paid to Other States Code 187
California taxpayers may qualify in some cases to receive a credit against the California tax for income
tax paid to another state, territory, or possession of the United States. There is no credit allowed for
income taxes paid to any city, foreign country, or the U.S. government. The tax credit is only applicable to
taxes imposed on net income, not to any tax imposed on gross income. Credit is allowed only if the other
state does not allow California residents a credit for California taxes.
The credit is intended to apply in a situation in which a California resident is taxed by the other state as a
nonresident of that state, but not to a situation in which he is taxed as a resident by both states. This
residency rule does not apply to certain U.S. government officials who are considered California residents.
The presumed purpose of this exception is to ensure that such officials will not be denied credit if they are
treated as residents of the other state as well as California.
The credit will not be any greater than the California tax actually paid on the income subject to any double
taxation. California Schedule S is used to compute this credit.
A nonresident California taxpayer may claim a tax credit to their resident state on taxes that were imposed
and paid to their resident state only if their resident state does not allow a credit for taxes paid to other
states.
If the taxpayer is an individual filing a California personal income tax return or an estate or trust filing a
California fiduciary income tax return, use Schedule S to claim a credit against California tax for net
income taxes imposed by and paid to another state or U.S. possession.
Residents of California may claim a credit only if the income taxed by the other state has a source within
the other state under California law. No credit is allowed if the other state allows California residents a
credit for net income taxes paid to California.
Nonresidents of California may claim a credit only for net income taxes imposed by and paid to their
states of residence and only if such states do not allow their residents a credit for net income taxes paid to
California.
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New Jobs Credit
Employers who had a net increase of qualified employees during the current taxable year may be eligible
for the credit. The credit is funded by the state of California. More research will be needed. See the
instructions for FTB 3527.
Summary
California differs from the federal law in many ways. Certain types of income are exempt from tax in
California, some of which are taxed on the federal return. There are also types of income that are taxed in
California and not taxed on the federal. In California tax credits are deducted directly from the tax due,
which can make the deductions more valuable.
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Chapter 12: Other Taxes
Objectives
At the end of this lesson, the student will have an understanding of:
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Self-employment tax
Unreported tip income
Excess social security
Additional tax on IRAs
The difference between federal and state AMT requirements
Resources
Schedule CA (540)
FTB 3805P
Schedule P
FTB 1001
FTB 1005
Instructions Schedule CA (540)
Instructions Form 3805P
Instructions Schedule P
Introduction
This chapter discusses Form 540, lines 61-64, as well as the additional taxes reported on the federal return
that California does not conform to.
Self-Employment Tax
Federal law increased the amount by which taxpayers could adjust their self-employment tax,
effective January 1, 2011. California did not conform to the adjustment. To make the adjustment,
enter the difference between the federal self-employment tax adjustments minus 50 percent of the
taxpayer’s self-employment tax.
Social Security and Medicare tax
California does not tax social security benefits and equivalent tier 1 railroad retirement benefits. An
adjustment would be made on 540 Schedule CA on line 20, column B, for the amount that was taxed
on the federal return.
Line 61 Alternative Minimum Tax (AMT)
California has an alternative minimum tax (AMT) similar to the federal AMT. The purpose of AMT is to
make sure that taxpayers do not use various tax incentivizes to pay little or no California income tax. A
qualified taxpayer must exclude income, positive and negative adjustments, and preference items
attributable to any trade or business. The adjustments and preference items must also be excluded when
calculating any deductions that may result in AMT carryovers.
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Tax law gives the taxpayer special treatment to various kinds of income and allows special deductions for
some expenses. The taxpayer who has benefited from the special treatment may have to pay an alternative
minimum tax (AMT). For 2014, if the California income is more than:
 $86,502 married/RDP filing jointly or qualifying widow(er)
 $64,878 single or head of household
 $43,250 married/RDP filing separately
AMT income does not include income, adjustments, and items of tax preference related to any trade or
business of a qualified taxpayer who has gross receipts, less returns and allowances, during the taxable
year of less than $1,000,000.
For more information, see instructions Schedule P and Form 540.
Señor 1040 Says: If the taxpayer paid AMT in a prior year, he or she
may be able to claim a credit for the AMT paid. The prior year credit
must be applied before any current year credit can be used to reduce
regular tax below the AMT.
Line 62 Mental Health Services Tax
If the taxpayer’s taxable income is more than $1,000,000, then the taxpayer is subject to paying this
tax. The tax is 1 percent of the taxable income on line 19 minus the $1,000,000. For example, April
made $1,100,000 in 2014. Minus the $1,000,000, she would pay an additional tax of 1 percent of the
$100,000.
$1,100,000
-$1,000,000
$100,000 X 1% = $1,000
Line 63 Other Taxes and Credit Recapture
If the taxpayer received an early distribution of a qualified retirement plan and was required to report
additional tax on the federal tax return, the taxpayer may also be required to report additional tax on his or
her California return. California conforms to federal law for income received under Internal Revenue
Code section 409A on a nonqualified deferred compensation plan and discounted stock options and stock
appreciation rights. Write “NQDC” on the dotted line to the left of the amount.
If the taxpayer used any of the following forms, the additional tax is reported on line 63.
FTB 3540, Credit Carryover and Recapture Summary
FTB 3805Z, Enterprise Zone Deduction and Credit Summary
FTB 3807, Local Agency Military Base Recovery Area Deduction and Credit Summary
FTB 3808, Manufacturing Enhancement Area Credit Summary
FTB 3809, Target Tax Area Deduction and Credit Summary
The above forms are beyond the scope of this course.
Additional Tax on IRAs: Form 3805P
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If the taxpayer received an early distribution from a qualified retirement plan and the taxpayer
reported additional tax on the federal return, then the individual may have to report additional tax on
the California return as well. California and federal laws are generally the same when it comes to the
tax on early distributions. However, California does not conform to all of the federal exceptions to
the additional tax on an early distribution. California does not tax the excess contributions to a
traditional IRA, Roth IRA, Coverdell ESA, Archer MSA, or excess accumulation in a qualified plan.
Generally, the additional tax is 2.5 percent on the part of the distribution that is includable in income.
Form 3805P must be filed if any of the following apply to the taxpayer:
 Received an early taxable distribution from a qualified retirement plan and a distribution code
other than 2, 3, or 4 is shown in box 7 of federal Form 1099-R
 Owes tax on early distributions from an IRA, other qualified retirement plan, annuity, or
modified endowment contract, and there is an exception code in box 7 marked incorrectly
 Owes a tax because the taxpayer received distributions from a Coverdell ESA in excess of the
amounts spent for educational purpose; will need to complete Part II of the form
 Received taxable distributions from an Archer MSA
 Met an exception to the tax on early distributions, and distribution code 2, 3, or 4 is not
shown or is incorrect on federal Form 1099-R
 The taxpayer does not have to file Form FTB 3805P if: The taxable portion of the distribution
was rolled over the in the year received into another qualified plan within 60 days of receipt
 The taxpayer received an early distribution from the plan but met an exception to the tax
(distribution code 2, 3, or 4 must be correctly shown on federal Form 1099-R)
California conforms to the exceptions for a penalty on an early withdrawal from retirement plans for
reservists while serving on active duty for at least 180 days after September 11, 2001, and for public
safety employees after separation from service after age 50, if distributions were made after August
17, 2006.
When filing a joint return, each spouse/RDP must file a separate form FTB 3805P for taxes
attributable to his or her distribution from a qualified retirement plan.
A qualified retirement plan includes:
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A qualified pension, profit-sharing, or stock bonus plan
A Keogh plan
A qualified cash or deferred arrangement (CODA) described in IRC section 401(k)
A qualified annuity plan
A tax-shelter annuity contract
An individual retirement account or an individual retirement plan
For more information, see Instructions Form 3805P.
Archer Medical Savings Account
California conforms to federal law regarding contributions and deductions for those taxpayers who
filed federal Form 8853. California is different regarding the amount of the additional tax on MSA
distributions that are not used for qualified medical expenses. The additional tax is 10 percent.
California does not have a separate form, so report the additional tax on FTB Form 3805P, lines 9
and 10. California does not conform to rollover from a MSA to a health savings account (HSA) being
treated as a tax-free distribution. When completing federal Form 8853 and there is an amount in line
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6b (due to an MSA rollover to an HSA), the amount must be reported on FTB Form 3805P, lines 9
and 10. This may result in an additional penalty as well.
For more information, see Instructions FTB 3805P.
Household Employees
California does not allow household employers to pay household employment taxes on the California
income tax return. Household employees must register with the EDD and report household employees by
filing Form DE 1HW, Registration Form for Employers of Household Workers, when the taxpayer
employs one or more individuals and pays cash wages of $750 or not more than $999 in a calendar
quarter. Household employers must also file Form DE 34, Report of New Employee(s), for each new
employee within 20 days of hire. Household employers who pay less than $20,000 in wages per year may
elect to pay taxes annually by checking the “yes” box in Item I on Form DE 1HW or, if previously
registered with the EDD, may complete Form DE 89, Employer of Household Worker Election.
Summary
California adjusts the federal business income or loss that has been reported by the taxpayer on Schedule
CA (540) in column A. Differences do exist between depreciation and accelerated write-offs. California
does not tax social security benefits and equivalent tier 1 railroad benefits. If the taxpayer received tier 2
benefits, then adjustments need to be made. California does not conform to most federal exceptions with
the additional tax on early distribution.
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