The New Kiddie Tax Rules: Back To The Future

Most of the discussion about the Setting Every Community Up for Retirement Enhancement (SECURE) Act focuses on how the law expands retirement plans and ends the Stretch IRA. But there are some other important provisions in the law that haven’t received much attention.

One significant change in family income tax planning in the SECURE Act is the reversal of the Kiddie Tax rules.

The Kiddie Tax is a series of provisions that determine how unearned (investment) income of people under age 19 is taxed. The Kiddie Tax was overhauled in the Tax Cuts and Jobs Act (TCJA) enacted late in 2017. For many years the investment income of youngsters (over a certain amount) was taxed at their parents’ highest marginal tax rate. The TCJA changed the rules for 2018 and later years so that the unearned income of youngsters was taxed without reference to their parents’ tax rates. Instead, youngsters used the tax table for trusts and estates.

One of the problems with the TCJA rules was that the trusts and estates tax table gets to the highest tax rate much faster than the tax tables for other taxpayers. The change increased the income taxes on many youngsters.

There were other problems. The TCJA increased taxes on scholarships and stipends some students used to pay for non-tuition expenses. Surviving children of military members killed in action, known as Gold Star families, also received higher tax bills on survivor benefits under the TCJA.

The SECURE Act corrects all this by repealing the TCJA changes to the Kiddie Tax and restoring the pre-2018 rules for taxing unearned income of taxpayers under age 19. Unearned income up to $2,200 is taxed at the child’s rate and avoids the Kiddie Tax. Income above $2,200 is subject to the tax and taxed at the parent’s highest tax rate.

The TCJA Kiddie Tax rules are repealed retroactively, but at the option of taxpayers. Under the SECURE Act change, taxpayers can choose to use the pre-TCJA rules for their 2018 and 2019 tax returns. If the 2018 tax return already was filed using the TCJA rules, it can be amended using the pre-TCJA rules. But taxpayers who prefer can use the TCJA rules on their 2018 and 2019 tax returns.

The return to pre-2018 law re-creates a problem for some families. For the tax rate on a child’s investment income to be determined, the parents had to reveal their income and tax rates to the child and the child’s tax preparer. In many families this didn’t matter, because the parents control their children’s finances and tax returns. But some families complained that they had to reveal more information than they wanted to their children. After the SECURE Act, these families will have to find another way to address the problem.

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