User:LadyGeek/Kiddie tax

The term Kiddie tax is found in the title of IRS Topic No. 553 Tax on a Child's Investment and Other Unearned Income (Kiddie Tax). It is a tax imposed on "certain unearned income" at the parent's marginal rate.

Basis in the law
Under certain circumstances, some of a dependent child’s income may be taxed at their parent’s rate. The basis for treating a dependent child as other than any other single taxpayer is 26 USC § 1(g) “Certain unearned income of children taxed as if parent's income.”

This subsection applies if the child has not attained age 18 before the close of the taxable year or has attained age 18 before the close of the taxable year and meets both the age and support tests for a qualifying child [26 USC 152 ].

The history and intent of the law
"In 1986, Congress enacted the 'kiddie tax' as a response to parental abuse of tax rates. Some parents were transferring large amounts of unearned income, such as dividend and capital gains proceeds, to their children’s accounts to ensure taxation at the children’s lower tax rates."

Since then, the law has been modified multiple times.

Taxable income
Subsections (a) through (e) of 26 USC “§1. Tax imposed” all start with the words “There is hereby imposed on the taxable income,” so you first need to determine the taxable income of the child.

These steps are the same as they are for any other individual. Reading Form 1040 for 2021, you see that tax-exempt interest is not included nor is the untaxed portion of any social security benefits, but the usual ordinary dividends, taxable amounts of IRA distributions, capital gains (or losses), etc. are included.

You then make adjustments to income for taxable refunds of state taxes and any deductible contribution to an IRA to get adjusted gross income.

Finally, you subtract the standard or itemized deductions, any charitable contributions up to $300 for a child that does not itemize, and the qualified business income deduction, to find the child’s taxable income (Form 1040, line 15).

Standard deduction
The standard deduction for a dependent child can be found in the 1040 instructions and 26 USC 63 “(5) Limitation on basic standard deduction in the case of certain dependents,” which are now $1,100 and $350 plus earned income (the before inflation adjustment amounts of $500 and $250 plus earned income are in the law) while still being limited by the $12,400 that applies to any single filer. A blind child gets an additional amount of $1,650 ($600 before inflation adjustment).

You can find the worksheet for dependents in the 1040 instructions and in Publication 501. Here is the worksheet for a child (not over age 65) from Publication 501.

Standard Deduction Worksheet for Dependents (for a Blind Child)
Note that there is no separate formula or worksheet for those with no earned income. The 1040 instructions are similar, but at step 2 asks if your earned income is more than $750, and if yes add $350, if not enter $1100. This just combines steps 2, 3, 4, and 5 above and gives the same result.

Example: standard deduction for a blind child with no earned income

The standard deduction worksheet is filled out as follows;

1 $0

2 $350

3 $350

4 $1,100

5 $1,100

6 $12,400

7a $1,100

7b $1,650

7c $2,750 is her standard deduction

Example: taxable income for a blind child with no earned income

Assume the blind child has $4,000 of unearned income. Once you subtract the standard deduction of $2,750 from the child’s AGI to get $1,250, you then deduct charitable contribution up to $300.

If the child gives $5 a week for 50 weeks to her church, her charitable deduction is $250 leaving potentially $1,000 of the $4,000 as taxable.

If the child owns Vanguard Total Stock Market or other fund holding REITs, there will be an additional deduction for her qualified business income deduction computed on Form 8995.

In the end, it is possible that only a small fraction of her $4,000 of unearned income is taxable. If her unearned income had been $3,000 rather than $4,000, none of it would be taxable.

Note that she still has to file a return even if she has no taxable income. Form 1040 instructions for a blind dependent say: You must file a return if any of the following apply.


 * Your unearned income was over $2,750


 * Your earned income was over $14,050
 * Your gross income was more than the larger of -
 * $2,750 ($4,400 if 65 or older and blind), or
 * Your earned income (up to $12,050) plus $2,000

Form 8615 - tax for certain children who have unearned income
"Form 8615 must be filed for any child who meets all of the following conditions.


 * 1. The child had more than $2,200 of unearned income.
 * 2. The child is required to file a tax return.
 * 3. The child either:
 * a. Was under age 18 at the end of 2020,
 * b. Was age 18 at the end of 2020 and didn’t have earned income that was more than half of the child's support, or
 * c. Was a full-time student at least age 19 and under age 24 at the end of 2020 and didn’t have earned income that was more than half of the child's support. (Earned income is defined later. Support is defined below.)
 * 4. At least one of the child's parents was alive at the end of 2020.
 * 5. The child doesn’t file a joint return for 2020."

The instructions contain a chart for those born on January 1 indicating that the above ages are attained ages. For example, “under age 18 at the end of 2020” means have not attained age 18 at the end of 2020, so a child born 1/1/2003 who attains age 18 on 12/31/2020 does not meet condition 3a.

Under current law, the incomes of all the children have to be pooled, as they were before 2018. Line 7 of Form 8615 (2020) says:"Enter the total, if any, from Forms 8615, line 5, of all other children of the parent named above. Do not include the amount from line 5 above."This comes from 26 USC 1 (g)(1)(B)(ii) which requires the child to pay his share of the allocable parental tax.


 * (1) In general
 * In the case of any child to whom this subsection applies, the tax imposed by this section shall be equal to the greater of-
 * (A) the tax imposed by this section without regard to this subsection, or
 * (B) the sum of-
 * (i) the tax which would be imposed by this section if the taxable income of such child for the taxable year were reduced by the net unearned income of such child, plus
 * (ii) such child's share of the allocable parental tax.

Example: Form 8615 for a blind child

If the blind child has $3,000 of unearned income, none of which is taxable, she still has to file Form 8615 (she has more than $2,200 of unearned income and has to file Form 1040 since $3,000 is more than $2,750).

Her Form 8615, Part I “Child’s Net Unearned Income” is as follows:

1. unearned income $3,000

2. didn’t itemize $2,200

3. line 1 minus line 2 $800

4. child’s taxable income from Form 1040 $0

5. smaller of line 3 or line 4. $0

If zero stop, but attach to child’s return

The blind child with $3,000 of unearned income and taxable income of $0 still has to file Form 8615 with her Form 1040. Obviously, none of her $3,000 of unearned income is taxed at her parent’s rate as none of it is taxable.

If she had $4000 of unearned income, the rest of Form 8615 would be required (assuming the charitable and qualified business income deductions did not reduce her taxable income to $0), including the pooling with the income of any siblings.

Tax when Form 8615 is not required
When Form 8615 is not required, a dependent child figures his tax the same as any other single filer.

If there are capital gains, the child fills out Schedule D, which incorporates any carryover losses, and the Qualified Dividends and Capital Gain (QDCG) Tax worksheet (or the equivalent Schedule D tax worksheet, which is used by some tax software).

The child also uses the QDCG Tax worksheet with qualified dividends but no capital gains. Just like any other taxpayer, the dependent child enjoys reduced marginal rates on long-term capital gains and qualified dividends.

Example: a dependent child with both earned and unearned income

A child who is not blind earns $1,000 and collects $1,000 of interest from CDs, a total of $2,000 of ordinary income. His standard deduction is $1,350, the larger of $1,350 and $1,100.

He gives nothing to charity and doesn’t collect any dividends so doesn’t get the qualified business income deduction. His taxable income is $650, $2,000 less $1,350.

Neither he nor the IRS knows if this $650 is earned income or unearned income or is split between the two. Since he is in the 10% bracket, his tax due is $65.

He can pay that with his earned income, his unearned income, or other money he has, e.g., from gifts.

State kiddie tax
Some states have similar rules for taxing the unearned income of children; California is one of them.

Tax loss carryover
If a parent is in the 37% marginal income tax bracket and already has a $3,000 tax loss carryover, then a long-term capital gain of $3,000 will be offset by that $3,000 loss and no tax will be due.

However, the $3,000 tax loss carryover could have been used to offset ordinary income if it exceeds the parents' capital gains; that would save 37% of $3,000, which is $1,110. If this is the child's only income, $800 is subject to 20% tax, giving the child a $160 tax bill.

You can save another $114 because the $3,000 capital loss reduces the income subject to the 3.8% Net Investment Income Tax, for a total savings of $1,064. Thus, gifting to a child may still make financial sense.