Tuesday, December 18, 2007

Think of the children

Time has almost run out to do some year end tax planning to avoid the 'kiddie tax' for older children. The kiddie tax taxes childrens' unearned income over a threshold at the parents' tax rate. It was designed to discourage the wealthy or mass affluent from shifting investment income to their children to avoid taxes. Once the child's unearned income exceeds the threshold, it gets taxed at the parent's presumably higher tax rate. As an aside, to show how arcane our legislative process is, the change in the kiddie tax for 2008 was part of an Iraq spending bill.

The change to the kiddie tax is that the child's age limit is being raised to under 24 from under 18, although this only applies is the child is a student. If she's not a student, then the limit changes to 18 and under from under 18 (in other words, the limit is being raised by 1 year). The impetus for 2007 taxes will be to have any dependent children between 19 and 23 to recognize any unrealized gains in 2007 to avoid being taxed at a higher rate in 2008.

Let me throw out a hypothetical. Let's say there is a 20 year old student who is really good at stock trading and makes a decent amount of money trading stocks in 2008. Her capital gains in excess of the threshold will be taxed at her parents rate, regardless of the fact that her gains may not be enough to be in that marginal tax bracket. Seems unfair.