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Children, Taxes, and Unearned Income

There have been recent news stories about officials in different places shutting down lemonade stands and other business enterprises set up by children for various reasons, including permits, health code concerns, and taxation issues. We may assume that children are free from the same taxes that apply to adults but that is not so. Some children have income they earn and income that they get from investments and tax law treats these categories of income differently.

In “Generational Financial Planning Within the Kiddie Tax Limits,” writing for Forbes, David John Marrotta examines tax law as it applies to children’s unearned income:

“The kiddie tax (or “Tax for Certain Children Who Have Unearned Income” as the IRS calls it) is a set of tax laws which force unearned income over a small amount to be taxed at the higher tax rate of the parents. For 2017, the kiddie tax limits allows $1,050 to be received without being taxed and the next $1,050 to be taxed at the child’s rate, while any unearned income in excess of $2,100 is taxed at the parent’s top marginal rate.

This tax can cause the children of wealthy parents to lose any preferential treatment of qualified dividend income and be taxed at a rate higher than that of a multimillionaire.”

A Fee-Only financial planner can help you decide just what assets to give to your children or grandchildren, how to pass these assets on, and the timing of when you pass on these assets.

The article notes that income your child earns through work is not going to be taxed the way investments like stocks can be. It also suggests that it would be ideal if you were able to have your child work in a family business because they could earn money (that wouldn’t be taxed the way unearned income is taxed) and you could put money into the company Roth 401(k) for them.

Overall consider this final piece of advice Marrotta: “Families that consider generational financial planning techniques can reduce the burden of taxes on the family as a whole.”