By Joseph Garcia
Shifting income from higher tax bracket parents to lower tax
bracket kids has become more difficult with the recent changes to
the so-called
”
kiddie tax
”
rules.
Shifting income from higher tax bracket parents to lower tax bracket kids has become more difficult with the recent changes to the so-called “kiddie tax” rules.
Under the old rules, children under the age of 14 could have received as much as $850 in tax-free investment income. The child wouldn’t have to pay taxes on interest, dividends, or capital gains (either short- or long-term) up to this amount. Also, the child would have to pay taxes on the next $850, but at a lower tax rate than his or her parents. Once investment income exceeded $1,700, the child would be required to pay taxes at the parents’ highest tax rate.
Under the new rules, the first $850 of investment income remains untaxed, and the next $850 is taxed at the child’s rate. But more than $1,700 in investment income for a child under age 18 will be taxed at the higher parents’ rate. Essentially, the law extends the kiddie tax rules an additional four years to age 18. Significantly, these new rules took effect in January of this year. As under the old rules, earned income from wages is not subject to the kiddie tax.
With the advent of the new rules, some of the prior methods of shifting income to children, such as the use of custodial accounts and gifting appreciated stock, become much less appealing. Instead, consider alternative methods of investing for the kids, such as tax-free municipal bonds or Series EE savings bonds. Don’t overlook investing in growth stocks paying low dividends. The stock can be sold after the child turns 18. Direct investments into education savings accounts (called “529 Plans”) also avoid the kiddie tax.
