In most areas of tax law, people are taxed on their earnings. Thus, if I earn $5,000, I am taxed on the earnings as single or married individuals. The kiddie tax was a major and, in my opinion, stupid departure from this principle. The new law raises the tax rate for certain kids with unearned income.
Prior to the new law, children who are under age 24, who are full-time students and unmarried, can only earn roughly $2,100 of unearned income taxed at their tax bracket, which was zero. Anything above that was taxed at the highest bracket of the parents. If the child was no a full-time student or got married then the kiddie tax only applied if they were under age 18.
The new law keeps the same rules but has some potential rate changes for kids. It makes it clear that earned income is taxed to the child at the single taxpayer rates. However, unearned income, which includes interest, dividends, rents and capital gains are taxed that the highest rates in the Internal Revenue Code, which is the trust tax rates, which taxes the first $2,550 at 10% and jumps to 24% on earnings after this.
Sandy’s tip: If you have kids subject to the kiddie tax, you want to keep their unearned income at no more than $2,550 to take advantage of the trust lowest tax rate, which 10% tax rates. Also, as a reminder, the Kiddie tax will not apply to earned income at all. This becomes important if you want to transfer property to kids in order to have them taxed on the capital gains. It also is important if you rent property from kids as I have advocated.
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