Avoid the ?Kiddie Tax? with Investment Plan

Beall Barclay & Co.’s weekly online newsletter is full of tax planning tidbits. A recent excerpt included a strategy for minimizing tax liability on unearned income for children under age 14.

Mike Moser, a CPA and partner with Beall Barclay, said children under age 14 who have investment income greater than $1,500 may be subject to tax based on their parents’ income. Since the “kiddie tax” is computed by adding the child’s investment income to the the parents’, it is possible that the child’s income will be taxed at an even higher rate higher than that of the parents.

Moser said the best way to avoid the “kiddie tax” is to invest in assets that will generate little or no annual return, but that have the potential to grow through appreciation until the child reaches 14. That could be stocks that pay little dividends or equity-based mutual funds.

But when the tax is incurred, several filing options can help. Moser said children can file separate returns, or their are advantages and disadvantages to reporting the child’s income on the parents’ return. Disadvantages include increased the parents’ adjusted gross income and possibly accelerating the phase-out of itemized deductions.