Under current tax law, children under the age of 14 are taxed on “unearned income” (which includes dividends, interest, and gains from the sale of property) over a threshold amount of $1,600. The tax rate is computed at their parent’s top marginal tax rate. This tax is intended to discourage and prevent abuse of income-shifting strategies by high income taxpayers.
In practice, the kiddie tax can create tax liabilities for industrious youngsters who earn money with a paper route or odd jobs, put their money into an account to save for college and earn interest on the balance. The parents must file IRS Form 8615 for the child if the tax applies. The parents may choose to report the child’s income on their own return to eliminate the need to file the return for the child. This election is made by filing Form 8814 with the parents return, but has some limitations on the type and amount of income the child has received.
To avoid the kiddie tax, professionals recommend that the child invest in tax-exempt or tax-deferred investments until the child turns 14, or hire the child in a family business so that the income is not “unearned” and thus not subject to the kiddie tax.