Kiddie Tax

What Is the Kiddie Tax?

The kiddie tax is a special tax law created in 1986 to address investment and unearned income tax for individuals 18 years of age or under—or dependent full-time students under age 24.

Key Takeaways

  • The kiddie tax prevents parents from avoiding taxes by transferring large gifts of stock.
  • All unearned income over the threshold is taxed at the parent’s marginal income tax rate rather than the lower child’s tax rate.
  • It applies to all children who are 18 years of age or under—or dependent full-time students between the ages of 19 and 24.
  • The kiddie tax applies to most unearned income that a child receives and does not apply to any salary or wages.
  • In 2022, unearned income under $1,150 qualifies for the standard deduction under kiddie tax law.

How the Kiddie Tax Works

The kiddie tax is imposed on individuals under a certain age (18 years old or under and full-time students age 19-24 years old), whose investment and unearned income is higher than an annually determined threshold.

This rule is designed to prevent parents from exploiting a tax loophole where their children are given large gifts of stock. In this case, the child would then realize any gains from the investments and would be taxed at a far lower rate compared to the rate the guardians face for their realized stock gains.

Under the kiddie tax law, all unearned income over the threshold is taxed at the parent's marginal income tax rate rather than the child's tax rate. In 2021, unearned income under $1,100 qualifies for the standard deduction. The next $1,100 is taxed at the child's tax rate, which is very low—sometimes 0%—and then anything over $2,200 is taxed at the guardian's tax rate, which could be as high as 37%.

In 2022, unearned income under $1,150 qualifies for the standard deduction, and the next $1,150 is taxed at the child's tax rate.

Who and What the Kiddie Tax Applies to

As of 2021, the kiddie tax applies to all children aged 18 and under at the end of the tax year and children who are dependent full-time students between the ages of 19 and 24. However, it does not apply to children under these ages who are married and file joint tax returns.

The kiddie tax includes unearned income a child receives: interest, dividends, capital gains, rent, and royalties. Any salary or wages the child earns is not subject to the kiddie tax.

Adult children who turn 19—or 25 in the case of dependent full-time students—by the end of the tax year are not subject to the kiddie tax. 

History of the Kiddie Tax

The tax law originally only covered children under 14 years of age. Children under the age of 14 cannot legally work, which means that any income they received usually came from dividends or interest from bonds. However, the tax authorities realized that some guardians would take advantage of the situation and then give stock gifts to their older, 16-to-18-year-old children.

The kiddie tax is imposed on individuals 18 years old or under whose investment and unearned income is higher than an annually determined threshold. The IRS taxes any income exceeding the predetermined threshold at the parent's tax rate. The Tax Cuts and Jobs Act of 2017 temporarily changed the kiddie tax to use the tax rates that apply to estates and trusts rather than the tax rate of the child's parents.

However, the Further Consolidated Appropriations Act 2020 retroactively changed it back to the parent's tax rate. For 2018 and 2019 returns, taxpayers could use either the estate tax rates or the parent's take rate for calculating the kiddie tax. For 2020 and beyond, the parent's tax rate applies.

Article Sources

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  1. Internal Revenue Service. "Topic No. 553 Tax on a Child's Investment and Other Unearned Income (Kiddie Tax)." Accessed Dec. 5, 2021.

  2. Internal Revenue Service. "Rev. Proc. 2021-45," Page 8. Accessed Dec. 5, 2021.

  3. Internal Revenue Service. "Rev. Proc. 2020-45," Page 8. Accessed Dec. 5, 2021.

  4. United States Senate Committee on Finance. "The Real Effect of the 'Kiddie Tax' Change." Accessed Dec. 5, 2021.

  5. U.S. Congress. "H.R.1 - An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent Resolution on the Budget for Fiscal Year 2018." Accessed Dec. 5, 2021.

  6. U.S. Congress. "H.R.1865 - Further Consolidated Appropriations Act, 2020." Accessed Dec. 5, 2021.

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