What is the Kiddie Tax and Do I Have to Pay It?
The Kiddie Tax was designed to keep parents from shifting investment income to their children to take advantage of the child’s lower tax bracket. This resulted in lower taxes for the family as a group since the children usually were in a lower tax bracket than the parents.
The Kiddie Tax applies to unearned income. Unearned income is a child's total income less any earned income (such as from a job). Examples of unearned income include income that comes from investments such as interest, dividends, and capital-gain distributions.
The Kiddie Tax can get a little complicated but don’t worry – TurboTax has the tools to guide you through the process. Here are some questions and answers that should help:
- How does the Kiddie Tax work?
- What is the income limit where the Kiddie Tax kicks in?
- How much can a child make before you get hit by the Kiddie Tax?
- Does all of a child’s income get taxed at the parents’ rate?
- How old does a child have to be to avoid the Kiddie Tax?
- How do I report the Kiddie Tax on my tax return?
- Are there ways to avoid the Kiddie Tax?
- Is it better for the child to file a return or to just put the income on the parent’s return?
- Are some children not subject to the Kiddie Tax?
- Who's return gets used when parents are divorced or not married?
Generally, the Kiddie Tax applies the parents’ highest tax rate to any unearned income of the child that is greater than $1,900.
For 2012, the child's unearned income in excess of $1,900 is subject to the Kiddie Tax rules.
A child can have unlimited earned income from work without worrying about the Kiddie Tax. However, unearned income greater than the income limit will be taxed at the parent’s tax rate if the child falls under the Kiddie Tax rules.
No. Only unearned income is subject to the Kiddie Tax. Earned income of a child (from working a summer job for example) is not subject to the Kiddie Tax. Of the unearned income, the amount under the income limit is taxed at the child’s rate and the excess gets taxed at the parents’ highest rate.
The age rules for the Kiddie Tax can be a bit confusing but TurboTax calculates all of this for you. The Kiddie Tax applies:
- Until the year the child turns 18 regardless of earned income.
- In the year the child turns 18 unless the child's earned income is more than half his or her overall support.
- In the years your child turns 19 through the year your child turns 23, if the child is a full-time student during any part of at least five months during the year unless the child's earned income is more than half his or her overall support.
There are two choices when reporting the Kiddie tax. The child can file their own tax return (including IRS Form 8615) or the income can be added to the parents' return.
The following requirements must be met if the income is included on the parents' return (using Form 8814):
- The child was under age 19 (or underage 24 if a full-time student) at the end of 2012. “Student” is defined below.
- The child’s only income was from interest and dividends, including capital gain distributions and Alaska Permanent Fund dividends.
- The child’s gross income for 2012 was less than $9,500.
- The child is required to file a 2012 return.
- The child does not file a joint return for 2012.
- There were no estimated tax payments for the child for 2012 (including any overpayment of tax from his or her 2011 return applied to 2012 estimated tax).
- There was no federal income tax withheld from the child’s income.
Usually, the best way to handle the Kiddie Tax is for the child to file their own tax return.
There are some strategies that might minimize your exposure to the Kiddie Tax. One way is to generate gains on a regular basis that maximize the usage of the $1,900 threshold. This can mean taking capital gains each year by selling stocks with gains each year and then buying them back. This will create a taxable event each year but it will also allow the cost basis on the investment to increase while using up some or all of yearly $1,900 threshold.
It might not make a difference in many cases. However, there are circumstances when you want to have the child to file their own tax return. When a child’s income is added to the parents’ tax return the additional income can cause unwanted tax effects.
Yes. There are a few reason that a child would not be subject to the Kiddie Tax. For example:
- Children not required to file a return because they did not have enough income to report.
- Children who earned more than half of their required support. This also means that they are not likely to be a dependent of someone else.
- Anyone who files a married filing joint return.
- Typically for divorced parents, the custodial parent's return would be used even if that person is remarried.
- For parents who are married filing separately, use the parent's return with the highest taxable income.
- For parents who never married, use the parent's return with the highest taxable income.