A child with earned income above a certain dollar amount is generally required to file their own individual tax return. However, a child with a certain amount of unearned income from investments, (including dividends, interest, and capital gains,) may discover that this income is subject to tax at his or her parent’s highest marginal tax rate. This tax is referred to as the “kiddie tax.” The kiddie tax is designed to prevent high income parents from transferring investments to their children in order to be taxed at a lower rate.
Now, you might be wondering if the kiddie tax applies to your situation. The kiddie tax applies if:
• The child has investment income greater than the annual threshold amount ($1,900 for 2013; $2,000 for 2014);
• One or both of the child’s parents was alive at the end of the tax year;
• The child is required to file a tax return for the tax year;
• The child does not file a joint return for the tax year; and
• The child meets one of the following requirements relating to age and income:
o The child was under age 18 at the end of the tax year; or
o The child was age 18 at the end of the tax year and the child’s earned income did not exceed one-half of their own support for the year; or
o The child was a full-time student who was under age 24 at the end of the tax year and the child’s earned income did not exceed one half of their own support for the year.
Divorced, separated, or unmarried parents
The kiddie tax is based on a parent’s tax return, but what happens when parents do not file joint returns? Several special rules determine what should happen:
• If the parents are married, but file separate returns, then the child should use the return of the parent with the largest taxable income to figure the kiddie tax.
• If the child’s parents are divorced or legally separated, and the custodial parent has not remarried, the child should use the custodial parent’s return. Or, if the custodial parent has remarried, the child’s stepparent, rather than the noncustodial parent, is treated as the child’s other parent.
There are also rules for if parents are married, but do not live together; if parents never married but live together; if parents were never married and don’t live together; or, if the custodial parent is a widow or widower.
We understand that calculating the kiddie tax can become confusing as a taxpayer attempts to sort through the numerous rules governing who is subject to the tax, which income is subject to the tax, and how to report it properly. If you feel that your children could be subject to this tax and would like to talk it over with a tax professional, please don’t hesitate to call our office 417-881-0145.