Q: My wife and I had a child a few months ago and her maternity leave is up at the end of the month. Does it make sense, financially, for her to return to work?
A: Ah, the age old dilemma facing most parents – Do I go back to work leaving my child with someone else or do I stay at home and sacrifice the additional income? Most parents probably want to stay home but find themselves asking can I stay home. At first glance, having both spouses work may seem like a no-brainer in order to increase monthly cash flow. However, it’s a question that really requires careful analysis and, like most questions in accounting, can be answered w/ the words it depends.
Since I don’t have specific financial information (wages, interest, dividends, etc.), let’s assume that each of you will make $75,000 for the year and have no investment income. Let’s also assume that you take the standard deduction rather than itemizing.
With only one spouse working, the federal income tax rules actually deliver a marriage bonus to the couple since the rate brackets are much wider for joint filers than they are for single filers. This “marriage bonus” can keep you in a lower bracket with only one spouse working where two working spouses would shoot you into a much higher bracket causing you to have a much higher tax liability.
Not only do we have to consider the federal tax, but also the often-overlooked Social Security and Medicare taxes. These take 7.65% of your first $106,800 and 1.45% of anything over that. Pile on top of that your state income tax and that $75,000 is close to cut in half.
With both spouses working, your gross income would be $150,000. Take from that the standard deduction of $11,400 and the personal exemption of $10,950 ($3,650 for each of you) and you are left w/ a taxable income of $127,650, putting you into the 25% tax bracket. Adding everything up, that is 25% federal tax + 7.65% per spouse for Social Security and Medicare, and about 5% state income tax for a total of 37.65% just in taxes. This doesn’t begin to touch on childcare expenses, work related expenses for the 2nd working spouse, phase-out exemptions for higher income taxpayers (the $1,000 tax credit for each under-age-17 dependent child is phased out starting at joint AGI of $110,000), and the list goes on and on.
Now, let’s examine the same situation w/ only 1 spouse working:
Your gross income will be $75,000, you will still get the joint standard deduction of $11,400, and the exemption of $10,950, leaving you with a taxable income of $52,650 and putting you into the 15% bracket and still allowing you to claim the child tax credit for your child under age 17. Is this much less than if both spouses work? Of course it is. However, you will eliminate many significant expenses by going this route such as child care expenses and the added work related expenses of the 2nd spouse.
As you can see, determining whether or not a spouse should return to work requires much more analysis than one would think and, in the end, may produce a different answer than you originally expected.