Due to the kiddie tax, a child’s investment income can be taxed at his or her parents’ marginal tax rate. This means that if your child has investment income that totals more than $1,700, it will be taxed at your tax rate.
This rule applies to children who have more than $1,700 of investment income and at least one living parent. Of course, if your child’s tax rate happens to be higher than yours, then your child pays tax at the higher rate. For details, see What Is the Kiddie Tax?
You can report a child’s investment income on either your tax return (if certain conditions apply) or your child’s tax return. If your child has earned income or sale of stock (reported on Form 1099-B), you must file a separate return for your child.
The advantages of filing a separate return for your child include the following:
Reporting your child’s income on your tax return may increase the amount of tax that you pay. Adding income to your tax return could limit your IRA deduction, student loan interest deduction, tuition and fees deduction, or reduce the amount of some itemized deductions. An increase in your adjusted gross income (AGI) could also affect your eligibility for certain credits, such as the Hope and the Lifetime Learning Credits, the earned income credit, and the child and dependent care credit. In addition, you could end up paying alternative minimum tax (AMT) or increase the amount of AMT that you owe.
Qualified dividends or capital gain distributions are taxed at a lower rate. If your child has investment income from qualified dividends or capital gain distributions, the income is taxed at a special lower rate if you file a separate return for your child.
You can’t take deductions on your return that your child would be eligible for if he or she filed a separate return. If your child is blind, has investment expenses or other itemized deductions, or is affected by early withdrawal of savings, you should file a separate return for your child.
When you report your child’s investment income on a separate return, you must file Form 8615 along with your child’s return. Our Child with Investments interview topic will walk you through it.
For more information, see Publication 929: Tax Rules for Children and Dependents.