What is the Kiddie Tax?
In 1986 the lawmakers added the Kiddie Tax to the tax code in order to prevent high wealth parents from shifting income-producing investment assets to their children who were in lower tax brackets.
How Did The Kiddie Tax Work in Prior Years?
In prior years, the law taxed all unearned income from a child in excess of a predetermined amount ($2,100 for 2017). You had to add the unearned income of your child to your taxable income to determine the tax rate. Then you used this tax rate on your child’s return to calculate the tax owed. This applied to all children under age 19 (or 24 if a full-time student and the parents provide more than half support).
What is Unearned Income?
Generally, unearned income is income from all sources not considered earned income. Earned income comes from employment or self-employed business activities. The most common form of unearned income is from dividends or interest from investments. For example, your child may have unearned income from dividends on stocks that you purchased in the child’s name.
How Does The New Kiddie Tax Work?
Beginning with tax year 2018, The Tax Cuts and Jobs Act modified the Kiddie Tax in two main ways. First, you don’t add your child’s unearned income to your income to determine the tax rate. Second, you use the rates that apply to trusts and estates.
You can find more information, including the tax rate tables in the instructions for form 8615, Tax for Certain Children Who
Have Unearned Income.
These changes will benefit most children who have modest unearned income. For those in multi-sibling households the benefits are even greater. For example, in prior years all of the siblings’ unearned income would be aggregated to the parents return to determine the tax rate. All of the siblings would be subject to this tax rate irrespective of their actual amount of unearned income. Now, each child will be subject to the tax rate applicable only to his or her unearned income.
While most will benefit from these changes, for some with high amounts of unearned income their tax bill may end up being higher. Given this, it is important to discuss your tax situation and strategy with a qualified tax professional and we are here to help. Give us a call!