Q. My child got a job or has investment income. Do I have to file a tax return for them? Whose return do I file it on?
A. Generally, as long as your child is your dependent (meaning they reside with you for more than half the year, don’t provide more than half of their own financial support, and are under the age of 19 at all times during the tax year or under 24 if a full-time student), you are not required to file a return at all if the child has under $2,200 of total income. But, who must file if the income is more than $2,200 depends on whether it is earned income and unearned income. Earned income is wages paid by having a job; unearned income is dividends or interest generated by investments.
|Income*||File Tax Return?|
|Earned or unearned income under $2,200||No need to file|
|Unearned income in excess of $2,200
(e.g., investment income like interest, dividends, capital gains)
|Either the parents could potentially report it on their own return using form 8814** or a separate tax return for the child must be filed|
|Earned income in excess of $11,000
(i.e., wages from employment)
|A separate tax return for the child must be filed|
|Both earned and unearned income AND the total of the combined incomes are in excess of $2,200||A separate tax return for the child must be filed|
*Different rules apply if the dependent is married, over 65 or blind
**Note: Even if the child isn’t required to file a tax return, parents may want to file a return for their child. If the child had funds withheld from their paycheck they could be entitled to a refund. CPAs vary in cost – generally from $0 – $300 – to prepare and file a simple dependent’s return, so if the refund is more than the cost to prepare the return it is still a good idea to file.
Q. What’s “Kiddie Tax”?
A. The “Kiddie Tax” rules are designed to prevent parents from shifting unearned income to a child to take advantage of lower tax rates. Prior to the implementation of the “Kiddie Tax” rules, this was beneficial given that children typically don’t have any other income and any income received would have been taxed at the lowest marginal tax rate. Now, after the passage of the Tax Cuts and Jobs Act in 2017, the “Kiddie Tax” rules tax any unearned income (not wages) over a certain amount (in 2021 it is $2,200) at the compressed trust tax rates. Giving investments to children may ultimately help to slightly reduce the overall tax liability on those earnings, but it must be weighed against the hassle and cost of maintaining a separate account and potentially filing a separate tax return for the child(ren).
Q. Who does the “Kiddie Tax” affect?
A. The rules apply to custodial accounts that hold investments for minor children. Uniform Gift to Minors Act (UGMA) or Uniform Transfer to Minors Act (UTMA) accounts are the primary types of accounts that are exposed to this rule. Parents or grandparents that give to dependent children using one of these types of accounts to hold the funds for the minor are the most affected.
If your child has a UGMA or UTMA account, be sure to give your tax preparer the 1099 form that comes typically in January so he or she can prepare and file a return for your child if necessary (or add it to yours). Also keep in mind any assets held in the child’s name reduce financial aid awards much faster than parents’ assets.
If you are currently saving for your child(ren)’s college, but want to avoid the “Kiddie Tax”, we suggest using a 529 account instead of a UGMA or UTMA. 529 accounts allow the funds to be both tax-deferred and tax-free (i.e., not taxed to anyone) when used for qualified college expenses.
For additional information on filing tax returns on behalf of children, visit the IRS website.
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