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Spare the child’s tax return?

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Tax returns are a necessary evil. But there’s an extra hassle if you must file a return for a young child who received investment income in 2016.

Strategy: Elect to report the child’s income on your return. Not only does this save time, but it can also save money in tax preparation fees.

However, the special election isn’t always the best move.

Here’s the whole story: Under the “kiddie tax,” unearned income above $2,100 received by a dependent child under age 19, or a full-time student under age 24, is taxed at the top rate of the child’s parents. (The threshold remains $2,100 in 2017.) The first $1,050 is tax free and the next $1,050 is taxed at 10%. Additional income is taxed at the parents’ higher rates.

To avoid filing a separate 2016 tax return for a child, the following conditions must be met:

  • The child must be under age 19 or under age 24 if a full-time student.
  • The child’s interest and dividend income is less than $10,000.
  • The child had income only from interest and dividends, including mutual fund capital gain dividends.
  • No estimated tax was paid by the child.
  • No federal income tax was withheld under backup withholding.
  • The child is otherwise required to file a return.
  • The child isn’t a joint filer.
  • The parent is qualified to make the election.

Potential problem: On a child’s separate return, up to $2,100 of mutual fund dividends consisting of long-term capital gains and corporate dividends would be taxed at 0%. However, if those amounts are reported on your return, the tax rate would be higher. Also, reporting your child’s investment income may have other tax return side effects.  

Tip: Crunch all the numbers before you decide how to file.

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