3 Things To Know About The Kiddie Tax
May 10, 2018I have four children who all have custodial accounts. By definition, those custodial accounts belong to my children, and when they reach the age of majority—18 in most states—they technically can take that money and use it for whatever their hearts desire (case in point: my daughter, who is using hers to pay college expenses). Until then, I’m the custodian of the account, and as the custodian, it is my responsibility to make sure the money is managed properly. Not only does that mean making sure the assets are invested wisely, but also making sure that any taxes associated with the account are reported accurately.
Rather than keep the money in a bank account earning next to nothing in interest, I decided to invest the money in mutual funds, which distribute interest and capital gains each year. The question is how do I report this information, if at all, to the IRS? Here are a few things the IRS would like us parents to know as it relates to reporting a child’s investment income:
1. Investment income includes interest, dividends and capital gains
Whether it is interest earned in a bank savings account, dividends from stock, or capital gains distributed from a mutual fund, a child’s investment income falls under a set of tax rules commonly referred to as the “Kiddie Tax.” Under these rules, any investment income in excess of $2,100 is taxed at the same tax rates that trusts use.
2. If your child’s investment income is above this threshold, your child must file their own tax return
Once your child’s investment income is above the limit, you will complete a tax return on behalf of your child as though he or she were just like any other taxpayer. You’ll need to include Form 8615, Tax for Certain Children Who Have Unearned Income, when you file your child’s federal tax return. This is especially important for children who also have earned income, like from a summer job.
3. Be aware of the Net Investment Income Tax (NIIT), which may require one more form
NIIT is a 3.8% tax on the lesser of either net investment income or the excess of your child’s modified adjusted gross income over a certain threshold. If your child is subject to this tax, you will complete Form 8960, Net Investment Income Tax, and include it with your child’s return.
When I first set up these accounts, my children were too young to have a job, so the only income I had to deal with was investment income. Now that my oldest are starting to work part-time jobs, they are also reporting that income as well. I’ve used this as an opportunity to teach them how taxes work, by working with them to complete and file each of their tax returns. To learn more about the filing requirements and tax implications of a child’s earned income, see Publication 929, Tax Rules for Children and Dependents.
Please note that this article is not intended to be taken as tax advice — as a financial education company, Financial Finesse does not provide any tax, legal, investing or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.