Mini Case Study: Kiddie Tax Rules

The “Kiddie Tax” is a set of federal tax rules designed to prevent parents from shifting their investment income to their children to take advantage of their child’s lower tax rate. It generally applies to children under age 18, and in certain cases to full-time students under age 24.

When the rules apply, a child’s unearned income (such as interest, dividends, capital gains, and certain other investment income) above an annual threshold is taxed at the parent’s marginal tax rate rather than the child’s tax rate. The child generally still files their own tax return, but Form 8615 is used to calculate the kiddie tax.

This week, we helped a family navigate the tax implications of investment income earned by their college-aged child. What seemed like a straightforward situation revealed a common misconception about the kiddie tax rules.

Here’s what that looked like:

• A couple’s 20-year-old child is a full-time college student who files their own tax return. The student earned some wages from a summer job and received investment income from dividends and capital gains.

• The parents assumed that because their child files their own return and is not claimed as a dependent, the kiddie tax rules would no longer apply. However, that’s not necessarily the case.

• For students between ages 19 and 23, the kiddie tax may still apply if certain requirements are met, including:

  • The student is a full-time student

  • Unearned income exceeds the annual threshold

  • Earned income does not provide more than half of the students’ own support

  • At least one parent is living

  • The student is required to file a tax return

• For example, a 20-year-old student who earns $6,000 from a summer job and receives $8,000 of investment income could be subject to the kiddie tax, even if they file their own return and are not claimed as a dependent. If their wages do not cover more than half of their cost of living, the tax on a portion of their investment income may still be calculated using their parents’ tax rates.

The biggest misconception is that the kiddie tax is determined by dependency status. For college-aged students, the more important factors are full-time students’ status, the amount of income earned relative to their support, and whether the other Form 8615 requirements are satisfied.

Just because a student files their own tax return doesn’t automatically mean they’ve escaped the kiddie tax rules. Understanding how support, earned income, and investment income interact can help families avoid surprises and make informed planning decisions.

This material is purely intended to be general and educational in nature, and should not be construed as specifically-tailored investment, financial planning, tax, legal, or other professional advice. Information and data contained herein is as-of the date of publication, and may be subject to change in the future without notice. Any investment performance referenced is purely past performance, which is no guarantee of any future performance. Nothing contained herein should be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation of any security or other financial product or investment strategy. All investment, tax, and financial planning strategies involve risk that you should be prepared to bear. You are highly encouraged to consult with professionals of your choosing before taking any action based on this material.