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Kiddie Tax – Rules and Pitfalls:
I thought it interesting when the “Tax for Children Under Age 18 With Investment Income” was passed into law. Moving passive income to children was a hobby to many people – but years ago that tax loophole was closed if the child was under the age of 14. The issue is that now the rules are changing and unless you are aware of these changes, you and your child may get caught in paying more tax than anticipated.
The rule for 2007 is that children under the age of 18 with “unearned income” (passive income from dividends, interest, capital gains etc) over $1,700.00 will possibly pay tax on the excess at the parent’s rate – unearned income below that limit is subject to: (1) a “deduction” your child can take that eliminates the income from taxation and (2) tax at the child’s own tax rate.
The rules change for 2008. The unearned income limit will increase to $1,800. Starting next year the age threshold is increased to include dependents younger than 19 and dependent full-time students younger than 24 that do not have EARNED INCOME that is more than 50% of their annual support.
The dilemma here is the change in age limits. A child that turns 18 this year will pay taxes in their own tax bracket – with the decease in capital gains taxes that means that long term gains may end up at a $0 tax. Next year – same child – that may not be the case. If your child goes to college and does not provide more than 50% of their support, the same scenario may result in tax being levied at the parent’s rate on amounts over the $1,800 threshold.
If this sounds like it could be a concern for your family, set an appointment now with your tax advisor and your investment advisor. Choose when to recognize unearned income for your child and the tax savings may be large.
IRS forms and publications:
Form 8615 - Tax for Children Under Age 18 With Investment Income of More Than $1,700
Publication - 929, Tax Rules for Children and Dependents
