This year I will be able to take the Child and Dependent Care Tax Credit. I was looking at how it works using 2020 tax forms, although I realize the credit amount has changed. One thing I didn't understand is "if filing jointly figure your and your spouse's earned income separately" and then enter the smallest amount between each income and how much was spent on child care. So, if we spent, for example, $5000 on child care, I made $50,000 and my wife made $2000 in her online business, then we would be entering $2000 and will be getting a percentage of that as the credit. But why should it a percentage of her income rather than how much was spent on child care?
The Child and Dependent Care credit is a percentage of your work-related expenses. However, the amount of work-related expenses that you use to calculate the credit cannot be more than the earned income of whichever spouse has the lower earned income. Why? Because that's the way Congress wrote the law.
The following is from IRS Publication 503, page 11.
Earned Income Limit
The amount of work-related expenses you use to figure
your credit can't be more than:
1. Your earned income for the year if you are single at
the end of the year, or
2. The smaller of your or your spouse's earned income
for the year if you are married at the end of the year.
The dependent care must also be necessary so that both spouses can work (or be looking for work).
See IRS Pub 503 for details. "Work related expenses page 9".
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