You are a smart parent. You want to build wealth for your child.
You think: "If I invest in my name, I pay 37% tax. But my 10-year-old daughter has no income. If I open a UTMA account in her name, the tax will be 0%, right?"
Wrong.
The IRS created a specific rule to stop wealthy parents from shifting assets to their children to avoid taxes. It is called the "Kiddie Tax."
If you are not careful, your child's investment income could be taxed at YOUR highest marginal rate.
Disclaimer: Tax thresholds change annually due to inflation. This guide reflects projected numbers for the 2025 tax year. Consult a CPA for Form 8615.
Opened a Stock Account for Your Kid to Save Tax?
1. What Is the "Kiddie Tax"?
The Kiddie Tax applies to children under 19 (or full-time students under 24) who have "Unearned Income."
- Unearned Income: Interest, Dividends, Capital Gains (from selling stock).
- Earned Income: Wages from a job (This is NOT subject to Kiddie Tax).
If your child's unearned income exceeds the annual threshold (approx. $2,700 in 2025), the excess is taxed at the Parent's Marginal Tax Rate, not the child's low rate.
2. How the Math Works (The $2,700 Rule)
Let's say your daughter's UTMA account generated $5,000 in dividends and gains this year.
📊 The 3-Tier Breakdown (2025 Projection)
- First $1,350: Tax-Free (Standard Deduction for dependents).
- Next $1,350: Taxed at the Child's Rate (usually 10%).
- Anything over $2,700: Taxed at the PARENT'S Rate (up to 37%).
So, on that $5,000 income, the last $2,300 is hit with your high tax rate. You didn't save anything, and you complicated your tax filing.
3. The FAFSA Nightmare (College Aid)
Taxes aren't the only problem. UTMA/UGMA accounts can ruin financial aid eligibility.
| Account Type | Who Owns It? | FAFSA Assessment Rate |
|---|---|---|
| 529 Plan | Parent | Low Impact (Max 5.64%) |
| UTMA / UGMA | Child | High Impact (20%) |
Translation: For every $10,000 in a UTMA account, financial aid is reduced by $2,000. For a 529 plan, it's only reduced by $564.
4. How to Avoid the Kiddie Tax
You can legally minimize this tax while still investing for your child:
- Use a 529 Plan: Growth is 100% tax-free if used for education. No Kiddie Tax.
- Tax-Gain Harvesting (Carefully): Sell just enough stock each year to stay under the $2,700 unearned income limit. Realize gains slowly.
- Invest in "Growth" Stocks: Buy stocks that don't pay dividends (like Tech stocks). You only pay tax when you sell. Hold them until the child is 24+.
- Series I Bonds: You can defer reporting the interest until the bond is cashed out.
5. Filing Form 8615 vs. Form 8814
If your child triggers the Kiddie Tax, you have two painful options:
- File Form 8615: Filed with the child's return. It calculates tax based on your rate.
- File Form 8814: Include the child's income on your return.
Warning: This increases your AGI (Adjusted Gross Income), which might disqualify you from other tax credits like the Child Tax Credit or ROTH IRA contributions.
Strategy Over Speed: The "Control" Trap
⚠️ The Legal Warning (Irrevocable)
Money in a UTMA belongs to the child. You cannot take it back.
When they turn 18 or 21 (depending on your state), they get full access to the money. They can spend it on a sports car instead of college, and you cannot stop them.
Unless you plan to gift huge assets, a 529 Plan or a Custodial Roth IRA (requires the child to have earned income) are often smarter choices.
Action Plan:
- Check your child's brokerage statement (Form 1099). Did unearned income exceed $2,700?
- If investing in a UTMA, switch to low-dividend "Growth" ETFs to minimize annual taxes.
- Consider freezing UTMA contributions and switching to a 529 Plan for future savings.
Helpful Resources:
IRS Topic No. 553: Tax on a Child's Investment
SavingForCollege: UTMA Impact on Financial Aid
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