Kiddie Tax : Smart Moves for Parents and Business Owners

Your child’s savings finally earned more than pocket change, then a tax notice shows up. Surprise, that interest counts as unearned income, and parts of it can get taxed at your rate, not your child’s. That’s the kiddie tax in action.

Here’s the simple version. The kiddie tax is a rule that taxes a child’s unearned income above a set limit at the parents’ higher rate. It exists to stop families from shifting investment income to kids just to pay less tax.

Why it matters now. For 2025, the first $1,350 of a child’s unearned income is tax free, the next $1,350 is taxed at the child’s rate, and anything over $2,700 can be taxed at the parents’ rate.

That covers interest, dividends, capital gains distributions, and some taxable scholarships. Parents may also need to file Form 8615 if the child crosses those limits.

If you’re saving for college, funding a custodial brokerage, or paying teens from a family business, the kiddie tax can catch you off guard.

Founders and small business owners feel this when they hold cash in a child’s account, gift appreciated assets, or set up a UTMA.

Marketers with freelance side income for teens can hit the same snag when investment earnings compound faster than expected.

You want clarity, not surprises. In this guide, you’ll learn when the kiddie tax applies, how to time income, and smart ways to reduce the bite without risky moves.

Up next, simple steps to stay compliant and keep more of your child’s money working for their future.

Check out our article on What Are the Disadvantages of a Trust Fund? Fees, Control to explore more about Trust Fund.

Who Qualifies for the Kiddie Tax?

The kiddie tax applies when a child has more unearned income than the annual thresholds allow. For 2025, the first $1,350 is tax free, the next $1,350 is at the child’s rate, and amounts above $2,700 may be taxed at the parents’ rate.

Who is in scope? A dependent under age 18 at year end, or a full-time student under age 24 who does not provide more than half of their own support.

It can also apply to certain dependents with unearned income and a surviving parent.

What does not count? Earned income from jobs or a teen’s business. That income is taxed at the child’s own rates and does not trigger the kiddie tax rules.

Types of Income That Trigger the Kiddie Tax

Unearned income is the trigger. If your child’s investments or passive sources pay out, the kiddie tax may apply above the 2025 thresholds.

Common examples you might see:

• Dividends from stocks. Qualified dividends may get lower long-term capital gains rates, but they still count toward the kiddie tax thresholds.

• Interest from bonds, CDs, or savings accounts. Daily compounding can push totals past $2,700 fast.

• Capital gains distributions from mutual funds. Those year-end payouts can surprise you.

• Rental income from property held in a child’s name. Net rental profits are unearned income.

• Taxable scholarships used for room and board. These can count as unearned income for this purpose.

• Trust or inheritance income paid to the child. K-1 income from a family trust still counts.

What usually does not trigger the kiddie tax:

• Wages from a part-time job or a summer internship.

• Self-employment income from a teen’s freelance work. That is earned income, though it may require self-employment tax.

Simple, real-world scenarios:

• Wages from a part-time job or a summer internship.

• Self-employment income from a teen’s freelance work. That is earned income, though it may require self-employment tax.

Quick tip: Track qualified dividends and long-term gains. They may get lower rates, but they still push your child over the kiddie tax thresholds if totals are high enough.

Kiddie Tax Thresholds and Rates Explained

The kiddie tax kicks in when a child’s unearned income crosses set thresholds. The first $1,350 is tax free, the next $1,350 is taxed at the child’s rate, and the excess is taxed at the parents’ rate.

This structure matters for UTMA accounts, dividends, interest, and mutual fund distributions. A little planning keeps more of that money compounding for college or future goals.

Step-by-Step Calculation of Your Child’s Tax

The math is straightforward if you follow the order. Use this simple flow to calculate the kiddie tax correctly.

Start with total unearned income

Add all interest, dividends, capital gains distributions, rental profits, and trust income.

• Ignore wages or business income. That is earned income and taxed at the child’s rates.

Subtract the child’s 2025 unearned income deduction

Deduct $1,350 from unearned income.

• If the child has earned income, their overall standard deduction may be higher. For kiddie tax thresholds, use the fixed $1,350 unearned portion to map the tiers.

Tax the next $1,350 at the child’s rate

Amounts between $1,350 and $2,700 are taxed at the child’s tax rate.

• Qualified dividends and long-term capital gains may still get favorable rates, but they count toward the thresholds.

Tax the remaining unearned income at the parents’ rate

Any amount over $2,700 is taxed at the parents’ marginal rate using Form 8615.

• Parents with high marginal brackets see more impact here.

Example: Child with $4,000 of dividends

Here’s the tax breakdown for the $4,000 total unearned income:

• The first $1,350 is tax-free, fully shielded by the child’s standard deduction for unearned income.

• The next $1,350 is taxed at the child’s own tax rate, applying to the portion between $1,350 and $2,700.

• The remaining $1,300 (the amount exceeding $2,700) is taxed at the parents’ marginal tax rate, as per the kiddie tax rules using Form 8615.

This tiered system ensures that lower amounts of unearned income benefit from favorable tax treatment, but higher amounts are subject to parental tax rates to prevent income shifting.

Why this matters

• You can control timing by harvesting gains or choosing funds with lower year-end distributions.

• Gifting appreciated stock to a child before a big distribution can backfire if it pushes income over $2,700.

Helpful tools and tips

• Use tax software to model different scenarios. Most tools handle Form 8615 and kiddie tax tiers automatically.

• Track qualified dividends and long-term gains in your brokerage reports. Rate differences affect your total bill.

• For trusts, K-1 income to a child can trigger these rules. Review year-end projections early.

• Complex situations, like multiple children, large capital gains, or split households, deserve a tax pro’s review. A quick consult often saves more than it costs.

Real Impacts of the Kiddie Tax on Family Savings

The kiddie tax can quietly chip away at college funds, UTMA accounts, and gift-based investing. A few dividends or a surprise mutual fund payout, then you are paying the parents’ rate on part of your child’s earnings.

This hits founders and small business owners who gift stock, hold cash in custodial accounts, or time distributions poorly. The fix is simple planning, smart tracking, and consistent filing.

Common Mistakes Parents Make with Kiddie Tax

Small missteps often cause big bills. Use this list to spot risks early and keep more money compounding for your child.

Forgetting to file Form 8615

• If your child’s unearned income passes the kiddie tax threshold, Form 8615 is required. Skipping it can trigger late filing penalties and interest.

• The IRS may adjust your return, delay refunds, and assess accuracy penalties if income is misreported.

• Quick check: if unearned income is above the annual limit, assume Form 8615 applies and confirm with your tax software.

Miscounting income types

• Parents often mix up earned and unearned income. Wages and self-employment earnings are not part of the kiddie tax, but interest, dividends, capital gains distributions, rent, and trust income are.

• Qualified dividends and long-term gains may get lower rates, but they still push totals over the kiddie tax thresholds.

• Example: a mutual fund’s year-end distribution moves an account from $2,300 to $3,100. That extra $800 may be taxed at the parents’ marginal rate.

Not tracking thresholds during the year

• Families watch balances, not distributions. Then December hits and a big payout tips the child over the $2,700 layer for 2025.

• UTMA accounts with dividend reinvestment can exceed limits without a single trade. Daily compounding on high-yield savings can do the same.

• Result: higher tax, possible underpayment penalties, and lost compounding when you need to liquidate assets to cover taxes.

Treating taxable scholarships as tax free

• Scholarships used for room and board are taxable and count as unearned income. That can trigger Form 8615 even when investment income is low.

• Coordinate 529 distributions with scholarship amounts to avoid stacking taxable income in one year.

Gifting appreciated stock at the wrong time

• Donating or gifting right before a fund’s capital gains distribution or a planned sale can increase the child’s unearned income in a single tax year.

• If the total crosses the threshold, a chunk is taxed at your rate. The goodwill move becomes a tax drag.

Ignoring parent rate changes

• The kiddie tax uses the parents’ marginal rate for amounts over the threshold. A bonus, a big sale, or a strong business year can push that rate higher.

• That makes the child’s top slice more expensive if you do not plan timing.

Consequences you can avoid

• Penalties and interest for late or missed Form 8615.

• IRS notices for mismatched 1099s and K-1s tied to the child’s SSN.

• Higher-than-expected tax bills that force selling assets at a bad time.

A simple checklist to stay compliant

• Confirm income type: separate earned from unearned on a shared tracker.

• Monitor totals monthly: include interest, dividends, distributions, rental profits, and K-1 amounts.

• Forecast year-end payouts: check custodial funds for expected capital gains distributions.

• Plan timing: spread sales across tax years when possible, and avoid bunching.

• Prepare Form 8615 early: run a dry run in your tax software to catch surprises.

• Review scholarships and 529s: align usage to reduce taxable scholarship amounts.

• Document parental marginal rate: note your expected bracket so you see the true cost.

Pro move for busy parents

• Set alerts in your brokerage for distributions and income totals.

• Turn off automatic reinvestment in December if you are near the threshold.

• Ask your CPA to run a Q3 projection so you can adjust before the year closes.

The takeaway is simple. The kiddie tax is not just a form, it is a threshold game. Track the income types, file Form 8615 when required, and plan around the limit so your child’s savings stay on track.

Smart Strategies to Reduce or Avoid the Kiddie Tax

The best way to beat the kiddie tax is to control timing, income type, and who reports it. Small shifts in how you file or when you realize income can lower the bill without fancy moves.

Use a simple plan. Track unearned income during the year, pick tax-efficient investments, and know when it makes sense to report your child’s income on your own return.

Explore Trust Fund Manager: Protect Your Startup and Small Business for comparison.

When to Report Child’s Income on Your Return

Parents can elect to report a child’s interest and dividend income on their own return using Form 8814. This option applies if your child is under 19 at year end, or under 24 as a full-time student, and their total qualifying income is under $13,500 for 2025.

Here is the catch. The income must be from interest and dividends only, including capital gains distributions. If the child has other types of income, like wages or capital gains from selling assets, the election likely does not fit.

Why consider it:

• Simpler filing when the child’s only income is bank interest and dividends.

• No separate child return, fewer forms to manage, and less admin for busy parents.

• Easy to keep all documents in one place for your CPA or software.

Potential downsides:

• Part of the reported income may be taxed at the parent’s higher rate under the kiddie tax rules.

• If you are in a high bracket, the election can raise your total tax compared to filing a separate child return.

• The child loses the chance to use their own standard deduction and lower brackets for that income.

How to decide if it is a win:

• Estimate your child’s total interest and dividends for the year. Keep it under $13,500 if you plan to elect.

• Compare two scenarios in your tax software. One with Form 8814 on your return, another with a separate child return using Form 8615 if thresholds are crossed.

• Pick the path with the lower combined tax, not just the simpler path.

Quick example:

• Facts: Your 17-year-old has $2,400 in bank interest and mutual fund dividends in 2025. You are in the 32 percent bracket.

• Option A, file separately: The first $1,350 is tax free. The next $1,050 is taxed at the child’s rate. Nothing is taxed at your rate since total unearned income is under $2,700. Result, very low tax.

• Option B, elect Form 8814: You report the $2,400. A portion may be pulled into your rate, increasing your bill. Simpler, but likely more tax in a high bracket year.

When the election makes sense:

• Your child’s income is modest, well below $2,700, and you are in a lower bracket year.

• You want to minimize paperwork and there is no risk of triggering tax at your high marginal rate.

• The child has no withholding, estimated payments, or other income types that would block the election.

Practical tips:

• Keep UTMAs in tax-efficient funds that pay fewer distributions. That helps you stay under thresholds if you elect.

• If you are near $2,700 of unearned income, consider waiting to sell until January to keep 2025 totals lower.

• Revisit the choice each year. The best move changes with your bracket, your child’s income mix, and market payouts.

Bottom line, use Form 8814 when it truly lowers effort without raising total tax. If your bracket is higher and the child can stay under the kiddie tax thresholds, filing a separate child return often wins.

Conclusion

The kiddie tax is simple once you know the rules. For 2025, the first $1,350 of unearned income is tax free, the next $1,350 is taxed at the child’s rate, and amounts above $2,700 may use the parents’ rate.

It applies to dependents under 18, and full-time students under 24 who do not cover more than half of their own support.

Keep it manageable with planning. Track distributions, time sales, use tax‑efficient funds, and file the right forms, like Form 8615 or the Form 8814 election when it actually lowers your bill.

Growing families in business can protect compounding by reviewing accounts now, then adjusting before year end.

Next step, review your child’s investment statements and run a quick projection. Check the IRS site for the latest rules or talk to your accountant to lock in a plan that fits your bracket and goals.

The kiddie tax should not surprise you, it should inform smarter decisions. Expand your knowledge by reading What Does Funding a Trust Mean for Small Business Owners?