Did your kids discover the joys of entrepreneurship this year, raking in the dough from lemonade stands, shoveling driveways, or walking the neighbors’ dogs? Or maybe generous family members gifted them with stocks and bonds instead of toys. While your child may enjoy having some money of their own, they might also get to experience a little something called paying taxes.
As dependents, your children face different rules for determining whether they need to file a federal income tax return. However, unlike adult taxpayers, children have some flexibility in choosing how to report their income.
Here are the key points you need to know when helping your children file taxes.
Tax Filing Guidelines for Dependents
Taxpayers usually think of dependents in terms of children, but you can still claim a child as a dependent even after they turn 18, as long as they meet other rules for dependency. Because of this, the rules below apply to anyone you can claim as a dependent who is under age 65 and is not blind.
Keep in mind that there’s no lower limit on age. If your newborn received a gift of dividend-paying stocks or mutual funds, you might have to start thinking about filing a tax return on their behalf sooner than you think.
The first step in the process of helping your children file their taxes is figuring out what they’re eligible for. To do this, you need any W-2s or other tax documents detailing their taxable income. Once you have this paperwork in hand, consider the following.
Pro Tip: If you’re unsure if your child needs to file a tax return, talk to a qualified tax preparer at a company such as H&R Block. They’re available to answer all of your tax questions.
1. Earned vs. Unearned Income
The IRS has two categories of income:
- Earned Income. This refers to wages, tips, salaries, professional fees, or commissions your child earned from doing actual work.
- Unearned Income. This is any other income that your child didn’t directly work for, such as dividends, interest, or capital gains. If a child has a trust fund, distributions from the trust count as unearned income unless the child has a disability trust, in which case distributions are considered earned income.
Knowing where your children’s earnings fall is critical to determining whether they’re required to file a tax return.
2. Income Guidelines
Now that you know how the IRS defines a child’s income, you can figure out whether your child is obligated to file a return. For the 2019 tax year, your child must file a tax return if any of these situations apply:
- They have earned income only, which is greater than $12,200.
- They have unearned income only, which is greater than $1,100.
- They have both earned and unearned income, which exceeds the larger of $1,100 or their earned income (up to $11,850) plus $350.
For example, let’s say your child received $5,750 from a summer job and $200 of dividend income from investments. In that case, your child would not have to file a tax return because their earned income of $5,750 is less than $12,200, and their combined earned and unearned income of $5,950 ($5,750 + $200) is less than their earned income plus $350.
Likewise, if your child received $300 from babysitting and $200 of dividend income, they would not have to file a tax return because $300 plus $200 is $500, which is less than $1,100.
In other words, if your child only makes money from working, the bar for being taxed is quite a bit higher than it would be if all they did was cash dividend checks.
3. When Filing Is Worth It
Just because children may not have to file tax returns doesn’t mean it wouldn’t be beneficial for them to do so. If your child has a job that withholds federal income taxes, they may be able to get at least some of that money back by filing a tax return.
Your child may also benefit from filing a return if they qualify for a refundable tax credit, such as the Earned Income Tax Credit or the American Opportunity Tax Credit. Remember, if they don’t file a tax return, they can’t get a refund.
4. Special Circumstances
There are a few special circumstances in which your child must file a tax return even if they don’t have a lot of income. These are the most common scenarios:
- They owe Social Security or Medicare taxes on tips not reported to their employer on wages received from an employer that didn’t withhold those taxes.
- They owe additional tax on non-qualified withdrawals from a health savings account or early withdrawals from a retirement account.
- They earned $108.28 or more in wages from a church or other religious organization that doesn’t withhold Social Security or Medicare.
- They earned $400 or more in profit from self-employment.
If you’ve crunched the numbers and determined it would be in your child’s best interest to file a tax return, the next step is figuring out how much they can claim for a standard deduction.
Standard Deduction for Dependents
When you file a tax return, you get to choose between claiming the standard deduction or itemizing deductions, whichever method gives you a better tax benefit. Since most children don’t have common itemized deductions such as home mortgage interest, state and local taxes, and charitable deductions, your child will likely claim the standard deduction.
The standard deduction available to a dependent is the larger of the following:
- The child’s earned income plus $350 (not to exceed the regular standard deduction amount, which is $12,200 for 2019)
The size of these deductions means that most children won’t have to pay taxes. If your child had federal income taxes withheld and earned less than the regular standard deduction amount, they’d get it all back.
Who Can File the Return?
Interestingly, no official age guidelines define who can sign and file a tax return. If your child can understand the instructions and fill out the return, then you can have them prepare and sign their own return. They’ll file using the same Form 1040 you use to file your return, so you should be able to assist them. It can be an excellent opportunity to teach your child about money management and the process of filing taxes.
Just remember that your child is responsible for any penalties that might occur as a result of a return they fill out. This legal liability could become a problem if the IRS finds issues with the return. The IRS can even refuse to divulge information or discuss any issues with you if your name is not signed or noted as a third-party designee on the form.
Fortunately, if your child is too young to handle this kind of responsibility, a parent or guardian can complete and sign the form for them. Simply sign your child’s name, then add “By (your name), parent (or guardian) for the minor child.”
Issues & Audits
Would the IRS really audit a child? Yes, but don’t worry that your newborn will be hauled into court. If a parent or guardian signs the return, the parent or guardian is allowed to deal with the IRS if any issues come up or if the child’s tax return is audited.
As noted above, if your child signs their return, it can get a little tricky. Parents can provide information to the IRS in this situation, but they can’t do anything else with the return unless the child wrote them in as a third-party designee who has permission to discuss the return with the IRS. This designation doesn’t allow parents to receive their child’s refund or agree to any further tax liability; it’s just a safe way for parents to remain involved while still respecting the child’s freedom to file on their own.
If your child didn’t name you as a third-party designee on the return, you can still get the IRS to communicate with you. You will need to have your child sign Form 2848 and submit it to the IRS.
That said, if you receive a notice from the IRS about your child’s tax return, you should immediately contact the IRS to disclose that the return belongs to a minor child. The IRS will let you know how to proceed.
Reporting a Child’s Unearned Income on Your Return
If your child received $11,000 or less in interest and dividends during the tax year, you can elect to report their income on your tax return rather than filing a separate return for your child. This can save time and money for families in which children own investments that generate income. To make this election, report the child’s income on Form 8814 and include it with your Form 1040.
Keep the following in mind:
- This election only applies if your child has unearned income. You can’t report their earned income on your return.
- Your child must be a) 19 or younger, or b) 24 or younger and a full-time student.
There’s one other potential pitfall to be aware of if your children have unearned income. The Kiddie Tax is a rule designed to prevent parents from avoiding taxes by shifting income-producing investments to their children, who might otherwise pay a lower tax rate than their parents.
Under the Kiddie Tax, the tax on a child’s unearned income is calculated using the tax brackets available to trusts and estates. For 2019, the rates for interest and short-term capital gains are:
- Income Up to $2,600: 10% of taxable income
- Income of $2,601 to $9,300: $260 plus 24% of the amount over $2,600
- Income of $9,301 to $12,750: $1,868 plus 35% of the amount over $9,300
- Income Over $12,751: $3,075.50 plus 37% of the amount over $12,750
For long-term capital gains and qualified dividends, the rates are:
- Income Up to $2,650: 0%
- Income of $2,651 to $12,950: 15%
- Income Over $12,950: 20%
The Kiddie Tax applies if all of the following requirements are met during the tax year:
- The child does not file a joint return with a spouse.
- Either of the child’s parents is alive at the end of the year.
- The child’s unearned income for the year is greater than the tax filing threshold of $2,200.
- The child is a) under age 19 at the end of the tax year, or b) a full-time student under age 24 who does not provide more than half of their own support.
If your child meets all of the requirements listed above, they – or you, if you’re reporting their income on your return – must file Form 8615 with their tax return.
Filing taxes is an important milestone for children. If yours are old enough to learn and understand the process, try to involve them and start them off on the right foot toward becoming responsible, tax-paying citizens.
Today, the promise of a tax refund might be your child’s primary motivation for filing a tax return. But they’ll be sure to appreciate an early introduction to the complex process of fulfilling their tax obligations later in life.
Did your child receive enough income to file a tax return this year? Will you prepare and file the return for them or let them file on their own through H&R Block’s free tax preparation software?