#kiddi

Happy birthday to the one and only Kiddi. Now he's older and wiser and just as sweet. We love him! 🎉🎂

When it comes to taxes, children are typically in lower income tax brackets in the USA. That is why many wealthy parents would shift income-producing assets to their children’s names to avoid paying taxes at their top marginal tax rates, up to 37%. 

But the Tax Reform Act of 1986 changed it all. The new act requires a child’s unearned income above a specific threshold to be taxed at the parent’s tax rates. As a result, ‘Kiddie Tax’ was born.

Despite its sweet-sounding moniker, the “kiddie tax” is an often-misunderstood tax provision that can result in sizable income tax liability for your family. So, it is important to understand what kiddie tax is and how to avoid it.

If your child has an unearned income, it is a tax you should be aware of.

What is Kiddie Tax?

Kiddie Tax was introduced to deter wealthy parents from pushing certain incomes into their children’s lower tax rates. This tax provision has seen many revisions. As of 2023 kiddie tax rules, a minor’s unearned income typically includes:

Capital gains distribution 

Dividends

Interest income

Taxable scholarships

Income in custodial accounts under the Uniform Gifts to Minors Act (UGMA)

Income produced by gifts from grandparents

Under the current IRS rules for 2023, the unearned income threshold is $2,500 (up from $2,300 in 2022). The first $1,250 of a child’s unearned income is earned tax-free, and the next $1,250 is taxed at the child’s rate. Anything over $2,500 for 2023 is taxed at the parent’s tax rate instead of the child’s lower tax rate.

The child’s age is the most important factor in determining Kiddie Tax.

Kiddie Tax does not affect anyone age 24 or older at year-end. 

For those aged 19–23 at year-end, the tax can apply only if s/he is a full-time student for that year and his/her earned income (say from a part-time job) is ≤ 50% of his/her support.

A child age 18 or under at year-end is almost always exposed to Kiddie Tax if the child’s net unearned income surpasses the annual threshold.