24.4 Parent’s Election To Report Child’s Dividends and Interest

Instead of filing a separate return for your child (24.3) whose income is subject to the “kiddie tax,” you may elect on Form 8814 to compute the kiddie tax on your own 2012 return if all of the following tests are met:

• The child’s only 2012 income is from interest and dividends (including mutual-fund capital gain distributions and Alaska Permanent Fund dividends);
• The total interest and dividends are over $950 but less than $9,500;
• Estimated tax payments were not made in the child’s name and Social Security number for 2012 and there was no overpayment from the child’s 2011 return applied to his or her 2012 estimated tax; and
• The child was not subject to 2012 backup withholding.

On Form 8814, you determine the portion of the child’s qualified dividends and capital gain distributions that you report on your own return, where they are eligible for the preferential rates (5.3) for qualified dividends/net capital gains. You report the balance of the child’s investment income over $1,900 as “other income” on Line 21 of your Form 1040. You also figure an additional tax equal to the smaller of $95 or 10% of your child’s income over $950, which is included in the regular income tax liability you enter on Line 44 of your Form 1040.

If the parents are married filing separately, or are divorced, separated, unmarried, or living apart for the last six months of the year, the parent whose taxable income would be taken into account on Form 8615 (24.3) is the parent who may elect to report the income on his or her own return.

In figuring whether you owe alternative minimum tax (AMT), you must include as a tax preference item interest income your child receives from specified private activity bonds (23.3); see the Form 6251 instructions.

Should you make the election?

The only advantage in making the election is to skip the paperwork involved in preparing a return in the child’s name or returns in your children’s names. This could save you money in the form of reduced tax preparation costs. However, there is a distinct disadvantage to the election if your child’s investment income consists of qualified dividends or capital gain distributions. With the election, there is a 10% tax on the child’s income between $950 and $1,900 (the income not subject to kiddie tax), whereas if a separate return is filed for the child, it is highly likely that the qualified dividends and capital gain distributions will escape tax entirely under the zero rate applicable in 2011 (5.3).

In addition, including the child’s income as your own increases your AGI, which may create these disadvantages:

• Make it more difficult to deduct job expenses and other miscellaneous itemized deductions, which are subject to a 2% AGI floor (19.1), and medical deductions, subject to a 7.5% AGI floor (17.1).
• Limit a deduction for IRA contributions under the phaseout rules (8.4).
• Limit your ability to claim the special $25,000 rental loss allowance under the passive activity rules (10.2).
• Increase local and state tax liability.

Caution

Reporting Child’s Income on Your Return

Including the child’s income on your return could be disadvantageous not only by subjecting the income to a higher tax rate (than on the child’s own return), but also by making it more difficult for you to claim certain deductions and raising your state and local taxes.

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Finally, if you elect to report the child’s income on your own return, you may not claim any deductions that your child would have been able to claim on his or her return such as investment expenses or a penalty on premature withdrawals from a savings account. On the other hand, reporting your child’s interest or dividends increases your net investment income, which may allow you to claim a larger deduction for investment interest (15.10). Also, your ceiling for charitable donations may be increased. If you plan to report your child’s income on your 2012 return, provide for the tax in your estimated tax payments or withholdings during 2012.