Tax Code Still Holds Wealth of Benefits for Kids

(RIVERWOODS, ILL., January 2008) – Having children brings many joys, and financial relief at tax time is one of them, according to CCH, a Wolters Kluwer business and a leading provider of tax, accounting and audit information, software and services (CCHGroup.com). Personal exemptions, credits for child care and adoption and a per-child $1,000 credit all work to lessen or even eliminate families’ tax burdens. But one way of using children to shield income-producing family assets from tax has largely been eliminated.

For years, families could make a gift of income-producing assets to a child age 14 or older and have the income taxed at the child’s rate. (The unearned income of a child under age 14 was already taxed as the parents’ income.) In practice, this meant that interest income from investments transferred to a qualifying child would be taxed at 10 or 15 percent, rather than at the 33 or 35 percent it would likely be taxed at if held by parents in the upper income tax brackets. Likewise, any capital gains held by the child would be taxed at 5 percent rather than the parents’ 15 percent capital gains tax rate when the assets were sold. This promised to be even more attractive in 2008-2010, with a zero capital gains rate for people in the lowest tax brackets

“Putting highly appreciating assets into a child’s name once they turned 14 and then selling those assets before the child turned 18 to take advantage of the child’s tax bracket was a strategy that some parents were using to help save for their child’s college education,” explained CCH Senior Federal Tax Analyst John W. Roth, JD, LLM.

But in 2006, the Tax Increase Prevention and Reconciliation Act (TIPRA) raised the age at which a child’s unearned income will be taxed at the parents’ rate from 14 to 18 years of age – with the change retroactive to the beginning of 2006. Beginning in the 2008 tax year, the law reaches further, potentially to tax the income of children to age 24 who are unmarried and whose earned income does not exceed one half of their support, at their parents’ top rate. What’s more, once a child reaches age 18, he or she gains control over the money under the laws of most states.

“You may have put the money in the child’s account with the idea of funding college, but once the child turns 18, he could decide to use it to buy his very first sports car instead of pay for his first semester of college,” said Roth. He noted that the tax law’s age change will likely spur renewed interest in 529 and other qualified college savings plans as parents look for ways to minimize taxes while maintaining control of savings earmarked for their children’s college education.

A Look at Basic Credits/Exemptions for Kids

Following, CCH outlines some simple guidance on the basic tax credits available and the rules for kids’ income.

Credit/Exemption	Applies to	Amounts for 2007 Taxes
Child Credit	Individuals/joint filers with dependents under age 17.	$1,000 per child, phasing out when adjusted gross income (AGI) exceeds $75,000 for single filers and $110,000 for joint filers. Phases out at a rate of $50 of credit loss per $1,000 of AGI beyond the above incomes, with the upper phase-out range depending on the number of children claimed.
Personal Exemption	Individuals/joint filers with dependent children under age 19 or, if full-time student, under age 24.	Maximum exemption parent(s) can claim on return is $3,300. For divorced parents filing separately, generally the exemption goes to parent who has custody for the greater part of the year.
Childcare Tax Credit	Individuals/joint filers with childcare expenses for children up to age 13, or older children if they are physically or mentally incapable of caring for themselves.	Credit taken against maximum qualifying expenses of $3,000 for one qualifying dependent and $6,000 for two or more. Credit equals 35 percent of qualifying expenses for taxpayers with AGI up to $15,000 and decreases with income to 20 percent of allowable expenses for AGI of $43,000 or more.
Adoption Credit	Individuals/joint filers adopting children under age 18.	Maximum credit of $11,390 for a regular adoption, with credit amounts phased out at incomes between $170,820 and $210,820 for both single filers and joint filers. For a special needs adoption, the credit is figured without regard to the actual expenses paid or incurred in the year the adoption becomes final.

How Child’s Income is Taxed	Applies to	Amounts for 2007 Taxes
Filing – tied to Standard Deduction	All dependents.	Must file a tax return if they have more than $850 in unearned income, or earned income over $5,350 – or, if their total income was more than the larger of $850 or their earned income (up to $4,850) plus $300.
Earned Income – paid by an employer	All dependents.	The standard amount of earned income exempt from income taxes is $5,350. Anything above this is taxed at the child’s income bracket. Although a return is not required with income below $5,350, a child with less income may want to file to obtain a refund of withheld taxes.
Earned Income – self-employed	All dependents.	The standard amount of earned income exempt from income taxes is $5,350. However, the child must pay self-employment tax for Social Security and Medicare on any self-employment income greater than $400.
Unearned Income – interest, dividends, capital gains	Varies based on age of dependent.*	All children under age 19: Unearned income above $1,700 is taxed at the parents’ income rate.

*Parents can elect to include the unearned income of a child under the age of 19 whose income is less than $8,500 on their return by filing IRS Form 8814 along with the parents’ return. However, while combining the child’s income with the parents eliminates the need for the child to file his own tax return, it will increase the parents’ adjusted gross income (AGI) and, therefore, possibly reduce the parents’ deductions or other potential tax breaks.

SOURCE: CCH, 2008
Permission for use granted.

About CCH, a Wolters Kluwer business

CCH, a Wolters Kluwer business (CCHGroup.com) is a leading provider of tax, accounting and audit information, software and services. It has served tax, accounting and business professionals and their clients since 1913. Among its market-leading products are The ProSystem fx® Office, CorpSystem™, CCH® Tax Research NetWork™, Accounting Research Manager® and the U.S. Master Tax Guide®. CCH is based in Riverwoods, Ill.

Wolters Kluwer is a leading global information services and publishing company. The company provides products and services for professionals in the health, tax, accounting, corporate, financial services, and legal and regulatory sectors. Wolters Kluwer had 2006 annual revenues of €3.4 billion, employs approximately 18,450 people worldwide, and maintains operations across Europe, North America, and Asia Pacific. Wolters Kluwer is headquartered in Amsterdam, the Netherlands. Its shares are quoted on Euronext Amsterdam (WKL) and are included in the AEX and Euronext 100 indices. For more information, visit www.wolterskluwer.com.

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nb-08-08